So far, from speculating in Sendai a couple of years ago, James has learned a couple of valuable lessons in order to avoid losing big in the stock market, they are;
- It pays to be a Doubting Thomas when investing, instead of being a sucker following blindly a simplistic golden rule.
- Beware of the dark side of margin finance and avoid it as much as possible.
“Don’t put all your eggs in one basket”.
James have read many comments in i3investor from two to three years ago in i3investor as below,
[Posted by stockmanmy > Jul 6, 2017 09:51 AM | Report Abuse
and of course, I am very impressed by anyone who can put substantial portion of their wealth into Jaks and Sendai, don't blink, no fear, ......
You want the stock market to make a real difference? develop such qualities first.
There are not many who can do it, ....and that is why there are not many super investors.]
[Posted by stockmanmy > Jul 6, 2017 10:51 AM | Report Abuse
like playing poker.....don't all in....how to be a good poker player]
Posted by stockmanmy > Jul 7, 2017 11:25 AM | Report Abuse
Jaks and Sendai are for super investors...These super investors intend to make multiple baggers from Jaks and Sendai and already half way there.
The above three comments, out of hundreds of similar calls enticing readers to were made by in July 2017 when kcchongnz posted an article on “Stop being a patsy in the stock market” in the link below,
https://klse.i3investor.com/blogs/kcchongnz/127246.jsp
Basically, the pitch by the commentator was asking everyone to put all their money in the two stocks, Jaks and Sendai. In poker, it is putting all the chips in the pot. Note the share price of Jaks and Sendai were at RM1.50 and RM1.20 respectively.
Jaks share price went down to 40 sen one and a half year later at the end of year 2018, for a whopping loss of 73%. It has recovered somewhat and close at 85.5 sen today on 9th October 2019, still at a substantial loss of 43%, as shown in the chart below.
Sendai’s share price, on the other hand, dropped relentlessly, non-stop and close at 39 sen today, for a loss of whopping 68% in two years. James felt a little relieved when he cut loss Sendai at 50 sen. Note the broad KLCI Index has lost about 10% during the same period.
With all money put into two stocks, Jaks and Sendai in equal weighting, the average loss in the last two years was 55%. And that was the problem; a focussed portfolio of only two stocks, exaggerated by the stocks being in the same industry, the Construction Industry. In 2018, there was a change in Government, resulting in some uncertainties political situation, and the Construction Industry was the hardest hit and the share price of many of the construction companies went into a tailspin.
Stocks Portfolio Diversification
Investing in the stock market is a very risky endeavour. Even though you understand well and have done thorough analysis on a stock, you may have missed something which you may not know, and as a result, lose money and can even have your investment down by 30%, 50% or even more.
Every investment is subject to the influence of fear and greed in the marketplace. The duration, intensity and frequency of the unexpected changes of the macroeconomic, sectors and political situations are very difficult to predict. Some sectors of the market will do well while others falter. For example, export stocks seem to be doing very well in 2017 and their share prices have risen to all-time highs, while property, plantation and oil stocks are lagging. However, this could just reverse suddenly. The once-strong sector could fall, and the once-poor sector could gain.
Focus investing in just a handful stocks in one or two sectors with all your wealth can provide you with outsized return if your analysis is right and continues to be correct with no change in macro or microeconomic factors. However, these factors are unknowable, unpredictable, and they are filled with uncertainties.
Stock Diversification: Academic Approach
Many academicians believe there is a kind of free lunch in the market, i.e. in portfolio diversification. In academic, risk is measured by the standard deviation of return, the higher the variance, the riskier is the portfolio. So, to reduce risk, more stocks are included in the portfolio.
Figure 2: Reduction of idiosyncratic risk
As the number of stocks in the portfolio increases, the variation of return reduces sharply initially as shown in Figure 2 below. Studies and mathematical models have shown that maintaining a well-diversified portfolio of about 20 stocks will yield the most cost-effective level of risk reduction as shown in the figure 2 above, beyond that, there is negligible additional benefit for more stocks.
Stocks diversification won’t ensure gains or guarantee against losses but strives to smooth out unsystematic risks of companies in a portfolio which are not perfectly correlated so that the positive performance of some companies will neutralize the negative performance of others.
Stock Diversifications: Recommendation in Practice
The popular adage of "Don't put all your eggs in one basket" is very much suited for investing in the stock market for individual investors. It advocates diversification, a technique that reduces risk by allocating investments in a number of stocks in the portfolio. Ideally the stocks chosen should be spread come from a diverse range of industries, cover several geographic regions having different and uncorrelated underlying drivers that would each react differently to the same event.
In practice, the decision about how many stocks to own is the balance between risk and return. The more concentrated your holdings, the greater the chances of exceptional returns if you are right, but there is also a higher risk of a substantial decline if you stock picking is poor.
Another factor is your tolerance for volatility. If you are heavily concentrated in just a few fast-moving names or small-caps issues, it won't be uncommon to have swings of 5% daily. Many retail investors cannot handle that sort of movement and probably lose sleep at night.
Time frames also influence the number of stocks you hold. Some traders take the approach of high concentration for short periods of time. They can handle the lack of diversification because they are willing to move quickly at the first sign of trouble.
Another factor that will influence how many stocks you own is the amount of capital with which you are working. If it a very small account, it isn't possible to be highly diversified because of the high costs of transaction. On the other hand, there are large funds that will hold many hundreds of stocks because there isn't any other way to put their capital to work.
My take as a guide of number of stocks to own from different industries,
Less than RM100k capital: 5-8 stocks
RM500k: 10-15 stocks
RM1m: 15-20 stocks
More than RM10m: more than 30 stocks
For those who have more than RM1m for stock investment, it is advisable to diversify into the regional and world markets. With a diversified number of properly selected stocks in the portfolio, it is expected that some of them may not do well but won’t lose much, but more of them will earn satisfactory returns over the long term. Hopefully, a few of them become multi-baggers.
The above are discussed in more detail in an eBook which I have written. Anyone who is interested to obtain a copy of it may contact me at
ckc13invest@gmail.com
It is free.
Happy investing.
KC Chong
https://klse.i3investor.com/blogs/kcchongnz/229159.jsp
