Portfolio Dilemma: how many stocks should I hold?

An ii Community member asks: how many stocks should I hold?

(ii Community is a social trading network to connect with investors, talk about your investments and see how your portfolio compares to others) 

Whether you prefer to invest in individual stocks, funds, investment trusts or exchange-traded funds (ETFs), the main thing to avoid when building a portfolio is unwittingly replicating the market. This is known as “diworsification”.

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For example, if you own half a dozen or more UK equity funds, you could potentially end up owning hundreds of different companies. That makes it harder to beat the stock market because your portfolio ends up looking like it.

For shares, the same trap needs to be avoided. Even if you spread your portfolio across different sectors and have some international exposure, a large number of holdings can mean you end up with a portfolio that performs similarly to a global tracker fund or ETF, which is much more cost-effective. In addition, owning too many holdings can dilute your best ideas.

The other thing to consider is time and dedication as every holding requires attention. For individual shares, key things to keep an eye on are annual results, trading updates, management changes and profit warnings. Staying on top of developments becomes increasingly difficult as the number of holdings grows.

The trouble is there’s no “magic number” that investors should aim for, and there’s the risk of a portfolio being too concentrated if, say, fewer than 10 holdings are chosen. 

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For investors, the sweet spot is likely to be somewhere in the middle, although I’m sitting on the fence by not suggesting an exact number or range, as ultimately that decision is a personal one.

However, bear in mind position sizing, a subject my colleague Dave Baxter covered last week. A large tail of small holdings – even if they perform well – won’t add much value to your overall returns. Ask yourself why you picked them and whether they are fulfilling their role in your portfolio. Consider whether you would buy more, making it a more meaningful position. Alternatively, if you have lost faith, it could be time to move on.

With funds, if you own a couple that invest in the same region and have the same investment style, consider doing some pruning. A quick way to check for overlap is to take a look at the respective top 10 holdings.

It is also worth considering diversifying by fund firm, as some follow a particular investment style that could go out of fashion.

How much money you have to invest is another factor. If you’re making your first foray into the stock market and have £1,000 to invest, opting for one fund makes sense. You could buy a one-stop shop multi-asset fund to obtain instant diversification, as such funds buy both shares and bonds.

For me, it makes sense to invest in a manageable number of different investments to reduce risk, while avoiding diversifying too much. Take a look at each investment you own and consider whether each one is pulling its weight in terms of performance, while ensuring your portfolio is sufficiently diversified.