Swinging for the Fences
Loading up your portfolio with risky, all-or-nothing stocks, is a sure route to investment disaster. In other words, swing for the fences on every pitch.
For one thing, the insidious math of investing means that making up large losses is a very difficult proposition - a stock that drops 50% needs to double just to break even.
For another, finding the next Microsoft when it's still a tiny start-up is really, really difficult. You're much more likely to wind up with a company that fizzles than a truly world-changing company, because it's extremely difficult to discern which is which when the firm is just starting out.
In fact, small growth stocks are the worst-returning equity category over the long haul. Why?
First, the numbers: According to Professor Kenneth French at Dartmouth, small growth stocks have posted an average annual return of 9.3% since 1927, which is a good deal lower than the 10.7% return of the S&P 500 over the same time period. The 1.4% difference between the two returns, has an absolutely enormous effect on long-run asset returns - over 30 years, a 9.3% return on $1,000 would yield about $14,000, but a 10.7% return would yield more than $21,000.
Moreover, many smaller firms never do anything but muddle along as small firms - assuming they don't go belly up, which many do. For example, between 1997 and 2002, 8% of the firms on the Nasdaq were delisted each year. That's about 2,200 firms whose shareholders likely suffered huge losses before the stocks were kicked off the Nasdaq.
Also read:
Compounded Effects of Market Underperformance
Keep INVESTING Simple and Safe (KISS) ****Investment Philosophy, Strategy and various Valuation Methods**** The same forces that bring risk into investing in the stock market also make possible the large gains many investors enjoy. It’s true that the fluctuations in the market make for losses as well as gains but if you have a proven strategy and stick with it over the long term you will be a winner!****Warren Buffett: Rule No. 1 - Never lose money. Rule No. 2 - Never forget Rule No. 1.
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