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Stocks 501: Constructing a Portfolio

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1.
What is a good rule of thumb for deciding how to weight the stock holdings in your portfolio?
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Use your confidence in each of the stocks as a guide. Be certain that the highest-weighted stocks are the ones you feel the most confident about.
2.
What's the largest potential problem with owning too few stocks?
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You run the risk that one bad stock pick could produce an extremely large loss. If you hold too few stocks, you run the risk that one bad stock pick could produce an extremely large loss. For example, if you owned three stocks, each worth one third of your portfolio, and one of your stocks went to zero, your portfolio would lose one third of its value. Swinging only at fat pitches is good, not bad.
3.
You can increase your odds of beating the stock market index performance by _______.
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Holding fewer than 20 stocks in your portfolio. If you hold a diversified portfolio, on average you should expect to achieve a market rate of return. By holding a concentrated portfolio you increase your chances of obtaining a better return than the market, but at the same time, you also increase your risk of obtaining a lower rate of return than the market.
4.
Instead of asking whether stocks or mutual funds would be better to have in your portfolio, a more strategic question might be, _______.
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How can my portfolio benefit the most from each of these investments? Though you may ultimately decide to stick with either, you should ask the question anyway. You may be surprised at the answer.
5.
Unsystematic risk can be diversified away by _______.
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Holding a larger number of stocks. Unsystematic risk is the risk involved in holding individual companies. It can be diversified away by holding a larger number of stocks.
6.
An advantage of investing within your circle of competence is that it is fairly easy to find companies to invest in.
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True. When you know an industry, it is usually fairly easy to evaluate potential investments in it.