By Jonathan Harner, CFP®
When it comes to investing, it’s often said that diversification is key to financial success. But have you ever wondered how much stock from a single company is safe to own? It’s a question many investors grapple with, balancing the potential for high returns with the risks of overexposure. Let’s explore the risks of stock concentration and explore factors to consider when determining the ideal level of diversification for your portfolio.
The Risks of Investing in Any Single Stock
Individual stocks are much riskier investments than a well-diversified portfolio. Why is that?
Here are a few kinds of risk you are exposed to when you hold any single stock, or if your portfolio is heavily invested around one single stock:
- Management risk: A company may have a stellar history of management, but there are no guarantees that won’t change in the future. A change in management, like a CEO stepping down, can cause a significant shift in how the company performs, the future prospects for the company and, in turn, the current price of the stock.
- Industry-specific risk: When you are invested in a stock, you are also invested in that industry. If this industry takes a hit from world events, supply chain issues, changing consumer demand, or rising costs, your individual stock can also go down in price.
- Legal risk: If the company of the stock you hold gets into legal problems, it can lead to investor concerns, and the stock price could drop.
- Technological risk: Technology is continually changing and advancing. It is nearly impossible to predict these changes, and when major advancements in technology occur, it could render an entire company or industry obsolete.
Lastly, the more you concentrate your investment in a single company, you also run the risk of becoming emotionally invested in the company. When the company you’re invested in doesn’t do well, this can lead to sub-optimal investment decisions (e.g., selling at low prices).
When you have most of your money concentrated in any single stock, if something goes wrong, you stand to lose a significant portion of your investment. But this can be avoided.
The Importance of Diversification
Diversifying your portfolio gives you exposure to companies and industries that appeal to you without the danger of putting all of your eggs in one basket.
There are many factors outside your control, such as future company performance, industry changes, and world events.
Diversification means spreading your portfolio across different types of investments, and across many different companies in many different sectors, industries, and geographies. This reduces the risk that you will lose all your money to any single investment.
At Wichita Wealth Management, we understand how to build well-diversified portfolios suited to your individual circumstances.
The Bottom Line
With any investment, you need to consider your risk tolerance and goals before you make a purchase. All investments carry some amount of risk, but diversifying your portfolio can help you minimize the risks of owning concentrated positions in any specific asset, company, or industry.
So when it comes to how much stock from one company is safe to own, the answer depends on your needs, goals, and risk tolerance.
A Partner You Can Trust
Navigating the world of investing can be complicated without a clear plan. It’s like embarking on a journey without a map or destination in mind. That’s why partnering with a fiduciary financial professional is a smart move to gain confidence in your financial plan.
Our team at Wichita Wealth Management is dedicated to being your trusted partner, building a solid foundation for your future and guiding you toward financial success. We take a creative approach to help you identify and reach your financial goals, while providing transparent and clear communication every step of the way. With our guidance and ongoing monitoring, we’ll help you stay on track. Schedule an introductory phone call by contacting me at 316-722-1010 or firstname.lastname@example.org.
Jonathan Harner is a CERTIFIED FINANCIAL PLANNER™ practitioner at Wichita Wealth Management, a fee-only, fiduciary financial advisory firm dedicated to helping their clients thoroughly prepare for retirement. Jonathan’s goal is to simplify the complex so his clients can experience confidence and peace of mind as they work toward and live out their retirement dreams. He specializes in developing and implementing tax strategies that maximize his clients’ money and builds a tax-efficient withdrawal plan for retirement. Jonathan loves finding opportunities for his clients to save money and is dedicated to continual learning and growing in his profession so he can provide solutions for his clients’ financial needs. When he’s not working, you can find Jonathan spending time with his wife, Annie, and their daughter, staying active in his church community, and participating in his two favorite (but vastly different) hobbies: CrossFit and Dungeons & Dragons. To learn more about Jonathan and how he can help you, connect with him on LinkedIn.