Desired return and appetite for risk can determine how many stocks investors trade

One of the most important decisions people have to make when investing and trading equities is how many stocks to hold.

The choice is personal. An argument can be made for holding stocks anywhere from one to more than 100.

Experts agree that the bedrock of a portfolio is diversification – diversification that helps people maximize their gains and/or minimize their losses and of course manage their risk.

There are several elements to diversification:

·       Company size: small-cap, mid-cap and large cap.

·       Industry-sector, such as technology and financial services.

·       Geography, which includes developed markets, like the U.S. and emerging markets, like Mexico.

·       Investment style: growth, which includes companies with fast-rising earnings, and value, which consists of companies seen as undervalued based on metrics such as price to earnings.

·       Short positions also are a possibility – to hedge against potential losses on the long holdings or to take advantage of pullbacks you expect in specific stocks.

So here are some possibilities. Lets keep in mind that these are only food for thought. They are not recommendations. (Full disclosure: I personally own some of the stocks mentioned in this article. See the list at end of story).

The option of just one holding

Most experts recommend having at least 10 stocks. But if the choice comes to holding just one, Berkshire Hathaway (NYSE: BRK.B), led by investment legend Warren Buffett, could be very prudent.

The company is a conglomerate of more than 40 stocks and more than 70 operating companies, such as Geico insurance and Dairy Queen. So there’s diversification already built into the company stock.

The biggest Berkshire Hathaway stock positions include: tech/retail stock, Apple (NASDAQ: AAPL); a financial services company, American Express (NYSE: AXP); a consumer staples company, Coca-Cola (NYSE: KO); and Chevron (NYSE: CVX), an energy company.

All of those companies have substantial business overseas, and the group includes value and growth stocks.

When creating a small portfolio of more than one stock, consider a small-cap stock, a mid-cap stock, a large-cap stock, a foreign developed-country stock and an emerging market stock.

A hypothetical portfolio

Here are possible combinations. (Remember, these aren’t recommendations. They’re just suggestions for research):

·      Small-cap stocks (market cap $250 million to $2 billion): Because it’s difficult to obtain research on small-caps, you might opt for a diversified ETF (exchange traded fund). Examples include Vanguard Small-Cap ETF (NYSE: VB) or iShares Core S&P Small-Cap ETF (NYSE: IR).

·      Mid-cap stocks (market cap $2 billion to $10 billion): Again you might contemplate an ETF, given the dearth of research on mid-caps. But possible individual stocks include Viking Therapeutics (NASDAQ: VKTX), a drug company, and Sweetgreen (NYSE: SG), a restaurant company.

·      Large-cap stocks (market cap above $10 billion): Perhaps Caterpillar (NYSE: CAT), the world’s biggest maker of construction equipment, or Apple.

·      Foreign developed country stocks: You might look at BAE Systems (OTC: BAESY) of the UK, Europe’s largest defense contractor. Or you might consider Nestle (OTC: NSRGY), the Swiss food and beverage maker.

·      Emerging market stocks: Again, an ETF may be appropriate, because information can be scarce for these stocks. But one possibility is Taiwan Semiconductor Manufacturing (NYSE: TSM). Another is HDFC Bank (NYSE: HDB) of India.

A plethora of options

Owning one stock in each category mentioned above would give you five. But if any one of those stocks lost its value significantly, the entire portfolio could be in trouble. Creating a strongly diversified portfolio probably will need at least 20 to 30 stocks.

Once the number gets around 100, it’s really a private index fund. There’s nothing wrong with that. But it will minimize the impact of any one stock’s significant gain. I myself own more than 100 stocks, because I enjoy buying and holding long-term versus making frequent trades.

Of course weighting holdings to adjust the portfolio’s aggressiveness can be beneficial. Tilting toward large-cap US and developed foreign-market stocks tends to increase your safety, while limiting your returns. Tilting toward small-cap and emerging-market stocks could juice your returns, while lifting your risk.

Finally, it’s never too late to consider adding short positions to the portfolio. They could act either as a hedge against the long positions, or a way to profit if a particular stock declines. Buying strength can be equally rewarding as selling weakness.

To summarize, it can be justified to hold any number of stocks. It’s just a matter of how big of a return is sought. The larger gains pursued, the more risk taken.  

The author owns shares of Apple, Coca-Cola, and iShares Core S&P Small-Cap ETF.