Wednesday, May 9, 2007

Diversify your stock holdings

Once I create labels and categories for my blog, this will get the "Duh!" label!

When I talk diversification, I do not speak of holding xx% in bonds, xx% in muni bonds, xx% in international holdings. I don't own any bonds - well-picked stocks will always outpace bonds. And I'm 36 and feel I'm too young to be conservative. Diversification for me means ensuring that no one position comprises more than 5% of my portfolio. I make two exceptions: 1.) I own Vanguard 500 Index (VFINX) and the S&P 500 SPDR (SPY), and together they currently comprise 9.3% of my holdings. I recommend that young investors start out with a nice base of index funds, and then move on to stocks and mutual funds, and 2.) I own an apartment building and a lakehouse that currently comprise 49.3% of my portfolio. That number is dropping as I refocus on pumping cash into my 5 TDAmeritrade accounts. I am very unconcerned about this number, as real estate is an extremely safe place for my money.

Why do I apply this 5% rule to my portfolio? Take a look at Dendreon Corp (DNDN) this morning. It's off a whopping 58% on bad news. Now take a look at the Yahoo Message Boards for DNDN (warning: if you've never been to the Yahoo Message Boards, it can get a little "randy" in there, so if you're offended by foul language, do not click the link!). There is a thread with over 60 posts entitled "my life is over. God bless." The person that started the thread is claiming to have lost one million dollars, plus another million on margin.

As previously stated, the Yahoo Message Boards are, needless to say, a little wacky, so take it all with a grain of salt. But has this not happened to countless investors before? Some folks that worked at Enron had all of their eggs in one seriously shaky basket. If this investor at Yahoo Message Boards was worth $100 million, then this 58% price drop in DNDN is no big deal. If this person indeed lost everything (at least on paper), then this person was not diversified the Q way.

Monitor your portfolio and ensure that no one position makes up more than 5% of your holdings. Then, when bad news strikes one of your stocks, the stress will roll right off your back, you won't panic, and you'll keep your focus on your long term investing goals.

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