How many different stocks should an individual own? If you talk to a financial advisor, they will likely tell you individual investors should own at least 25 to 30 companies in a stock portfolio. Purportedly, this is for the purpose of achieving portfolio diversification and thus reducing risk.
I believe this advice is wrong. If diversification is your goal, you should just consider mutual funds or exchange-traded funds that mirror the S&P 500.
When it comes to individual stock picking, fewer stocks are better. The right number of stocks to hold is no more than five. It might even be a single stock.
In this article, we will explain why five is the ideal number of stocks to own and how we arrive at this answer.
- Advice that individual investors should own at least 25 to 30 companies is predicated on the belief that achieving diversification is desirable
- However, if diversification is your goal, you are better off buying a broad-market index fund that mirrors the S&P 500
- Warren Buffett, chairman of Berkshire Hathaway, believes you will earn the best returns from your best ideas, and as a rule of thumb you will have no more than five to six really good ideas
- Fund managers fail to beat the market because they are unable to concentrate on their best investment ideas and must also buy dozens of lukewarm ideas
Index Investing vs Stock Picking
When we wade into the stock market to buy individual stocks, we are doing so on the belief we can beat a broad market index. Historically, an index fund mirroring the S&P 500 returns 10-11% annually. Therefore, if we buy an individual stock or some combination of different companies, we must have the confidence those selections can earn an excess of 10-11% per year.
However, most actively managed stock funds rarely beat the market or their benchmark. And the thinking goes that, if the Wall Street pros rarely outperform the S&P 500, what hope do we have as individual stock investors?
The answer is you CAN BEAT THE MARKET. But first, we need to understand why the investment managers fail to earn their keep.
Many actively managed funds have rules stipulating that no single company can represent more than 5-10% of a fund’s assets. This is for the purposes of achieving diversification and reducing risk inside the portfolio. Fund managers face pressures that the individual investor does not face. They need to market their funds and attract new investors. But volatility scares investors. This means a typical actively managed fund will have a portfolio size of at least 25 to 30 companies, and often as many as 100 companies.
One obvious drawback is that a fund manager is prevented from taking a concentrated position in the best stocks they really like. They are faced with at least 25 to 30 buying choices—a few of these great and most of them mediocre. In essence, the fund manager is forced to allocate assets toward a few high-conviction plays that really excite them, and dozens of lower-conviction investments they are lukewarm about.
You, as an individual investor, do not face this dilemma. You have no investors to please. The only investor you need to please is yourself. You can embrace volatility and greater risk. You can concentrate on your highest conviction stocks to achieve higher returns.
Contrary to what the so-called financial experts tell you, it makes little sense for an individual investor to own 25 to 30 companies. The “benefits of diversification” do not benefit you.
If you own 25 to 30 companies, you are basically playing the role of a fund manager, attempting to beat the market by playing by a fund manager’s rules. In reality, your financial goals are different and you can play by a different set of rules. This is how you can not only beat the Wall Street pros, but also the broader market as well.
How Many Stocks Should a Beginner Own?
My approach on how to pick a stock is that every investor should ask themselves three questions before buying a stock:
- Does this company have the potential to change the world?
- Will I regret not owning this company in 20 years?
- If I could hold only ONE company for a time horizon of 20 years, what would it be?
When considering individual stock ownership, these are the first questions you should ask yourself.
We focus on world-changing companies such as Tesla because these companies are likely to experience high rates of growth over the long term. We focus on holding periods of 20 years or longer because world change takes time. Also, more critically, the most fabulous returns are realized when a stock is held for as long as possible. For example, a $10,000 investment in Apple stock in 2003 would be worth $6.5 million today.
We believe that if you ask yourself to focus only on ONE company to own over the next 20 years, you are more likely to correctly identify from today’s investment opportunities the next world-changing company like Apple. As of December 2023, I believe that company is Tesla.
Very few people have gotten rich on their seventh best idea. But a lot of people have gotten rich with their best idea. So I would say for anyone working with normal capital who really knows the businesses they have gone into, six is plenty.Warren Buffett
Warren Buffett in his early investment days described an investing strategy he called “The Generals.” He would devote approximately 50% of his capital to five or six stocks, his best ideas, and take up smaller positions in another ten to fifteen stocks. For the small investor, a modified version of the “The Generals” strategy would be to devote 50% of your investment capital to no more than five of your highest-conviction investments, and your surplus money to an S&P 500 Index fund.
Many investment articles advise individual stock investors to own at least 25 to 30 companies for the purposes of building a well-diversified portfolio and reducing risk. I believe this approach is incorrect and the ideal number of individual stocks to have in a portfolio is no more than five stocks. We believe investors should seek world-changing companies that are more likely to experience high rates of growth over the long term. We believe that individual stock investors will generate their best returns with their best ideas.
As Warren Buffett advised, most investors will only have five or six really good stock ideas in their lifetime. Fund managers fail to beat the market because they are forced to diversify across dozens of stocks, watering down returns. But as an individual, you can embrace volatility and risk to concentrate only on your best ideas.
The key is to identify companies with enormous long-term growth potential that can change the world over the next 20 years or more. Historical returns show it is the home run stocks like Apple that can turn a small investment into a fortune when held for multiple decades. Ask yourself: if you could only own one stock for 20 years, which company would have that world-changing potential?
In the end, owning just five stocks concentrated among your highest conviction investments is the ideal approach for individual investors. Match this with index fund exposure for the remainder of your portfolio and you have a simple formula to beat the market’s long-term returns.
Is 20 Stocks a Lot?
Many investment articles advise owning at least 25 to 30 companies for purposes of achieving diversification and risk reduction. However, if diversification is your concern, then you should simply buy an index fund that mirrors the S&P 500. According to investor Warren Buffett, “Very few people have gotten rich on their seventh best idea. But a lot of people have gotten rich with their best idea. So I would say for anyone working with normal capital who really knows the businesses they have gone into, six (stocks) is plenty.”
Is 100 Stocks Too Much?
Yes, buying 100 stocks is too much. According to billionaire fund manager Charlie Munger, “It’s absolute insanity to think owning 100 stocks instead of five makes you a better investor.”
Is Owning 200 Stocks Too Much?
Yes, there is no need for an individual investor to own 200 individual stocks inside their investment portfolio. You are better off buying an exchange-traded fund that mirrors the investment goals you are hoping to achieve by buying 200 stocks.
How Many Stocks Should I Own with $10k?
With $10,000 to invest in stocks, owning too many individual stocks can lead to a portfolio that is complex and difficult to effectively track. A good rule of thumb is to own no more than five individual high-quality stocks. One approach is to allocate your $10,000 using a “barbell” asset allocation strategy. With this approach, you would invest a portion of your investment into a broad index fund ETF that tracks the overall market, and the remainder into one or two individual stocks that you believe have the potential to outperform over the long term.
For example, you could invest $5,000 into an ETF that tracks the S&P 500 index, providing low-cost exposure to 500 of the largest U.S. companies. This covers the stability and diversity of the overall stock market. For the other $5,000, identify 1-2 constituents of the S&P 500 that you believe have competitive advantages and the ability to outperform over a long investment time horizon of 20+ years. This barbell approach balances overall stock market exposure with one or two high-conviction stock picks. With discipline and fundamental analysis, a portfolio of one index fund and 1-2 individual stocks can provide solid returns over time without taking on excess risk through over-diversification.
- Mark Fortune is a seasoned journalist and editor with more than two decades of experience. Specializing in technology, cryptocurrency, and stock investments, his incisive writing has made significant contributions to the business journalism field. Mark’s work is celebrated for its depth, clarity, and influence on a global readership.
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