A few individual stocks are soaring this year, like Zoom, Peleton, DraftKings, Pinterest, and Bill.com – each one up more than 225%, with Zoom leading the way, rising almost 500%, far outpacing the Dow’s gain of 7.75%. It seems logical to sell boring index funds to buy high flyers; after all, who wouldn’t want to earn 500%?
However, we have seen this movie before. During the last speculative bubble that popped in April 2000, companies like Microsoft, Cisco Systems, Qualcomm, Intel, and Applied Materials were all the rage. If you invested $10,000 into each stock on January 1, 1999, and sold them on April 1, 2000, you made 592.5%! If you only invested in Qualcomm, you turned $10,000 into $231,510 in sixteen months, a gain of 2,220%. Investors who bought these companies were making money hand over chips.
If you chased these stocks and purchased them on April 1, 2000, and held them through December 31, 2015, you lost 40%. A $50,000 investment ($10,000 for each security) dropped to $29,903.
During frenzied markets, low-cost index funds get a bad rap. Still, during the fifteen-year stretch, where the high-flying technology stocks dropped 40%, a globally diversified portfolio of low-cost funds increased 198%. A basket of five Vanguard mutual funds – Vanguard 500, International Growth, Emerging Markets, Small-Cap Index, and Real Estate Index, performed well. If you invested $10,000 into each fund, the portfolio grew to $149,304 from April 1, 2000, to December 31, 2015.
The lure of high-flying stocks is difficult to ignore, but you can’t buy them all. A 1% weighting means you’d own 100 companies, and at that point, you may as well purchase an index fund. If you increase the allocation to 5%, you’d own twenty companies. YCharts tracks 23,536 individual stocks. Is it possible to regularly pick the twenty best? Doubtful.
It’s impossible to buy every individual company, but you can purchase a global portfolio that owns more than 7,000 stocks in forty-seven countries through Vanguards’ Total World Stock Fund (VTWAX)[1]. Year-to-date, it’s up 13.88%, and it has generated an average annual return of 10.10%, 11.64%, and 9.41% over the past 3, 5, and 10 years, respectively.
A globally diversified portfolio of low-cost index funds is one of the best ways to create generational wealth, but I understand investors occasionally want to speculate on stocks. If you’re investing in high-flying stocks, limit your initial investment to 3% to 5% of your portfolio. If it climbs, you can continue to hold it, but it will not lead you to financial ruin if it falls.
Happy Trading!
“October. This is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August, and February” ~ Mark Twain
December 8, 2020
Bill Parrott, CFP®, is the President and CEO of Parrott Wealth Management in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level. PWM’s custodian is TD Ameritrade, and our annual fee starts at .5% of your assets and drops depending on the level of your assets.
Note: Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor.
Data source: YCharts
[1] https://investor.vanguard.com/mutual-funds/profile/portfolio/vtwsx, website accessed 12/8/20