Recently I’ve posted my love of index funds and ETFs. I’ve proven this love by rebalancing my portfolio thru selling off the stock and using the proceeds to buy into Vanguard fund products. But what exactly is driving me to take this action? That’s what I’d like to share to solidify to myself that I’m making a logical move and of course get your feedback as well. 🙂
Lack of Diversity
Plain and simple, stocks themselves lack diversity. If you’re invested in a technology stock like IBM, you don’t have any other sector like consumer goods, energy, industrials, financials, etc. If you then buy some Bank of America (BAC) stock, again you still don’t have any exposure to other sectors like consumer goods, energy, industrials, etc. You get the picture right? You’re only as diversified as the individual, specific company shares you have purchased.
The lack of diversity creates risk. If IBM reports horrible earnings, has a fraud scandal or closes down some of its operating sites, there’s a good chance the stock will fall and you will at least experience an unrealized loss. The same holds true for BAC. There is also a risk that if other sectors (s) experience massive gains, you will not benefit because you are not invested in those sectors, that is an opportunity cost.
None of us have a crystal ball. We invest based on the best information we have available to us and then based on past, present and future expected data, we take a little leap of faith. If a stock tanks, you don’t have much protection. One way to achieve protection is through diversity.
Poor Performance & Too Much Outside Influence
An example I can think of off the top of my head Under Armour. It’s particularly devastating to me since I bought it at its peak over a year ago (red circle in the chart). It has dropped a painful 68%! I feel weak just typing this and had to calculate it a couple of times, which added salt to my wound:
To top it off, last summer, NBA superstar Kevin Durant made a comment about Under Armour shoes saying “Nobody wants to play in Under Armours. I’m sorry. The top kids don’t because they all play [in] Nike.” Whether we like it or not comments like these from popular people affect a business’s reputation and ultimately stock price.
It could be very likely that Kevin Durant’s comment at least contributed to its poor earnings report for the third-quarter as mentioned by Business Insider. It reports that youth sales were significantly low. Youth are more likely influenced by comments from athletes and celebrities on brands and products rather than adults.
If you own any Under Armour products, you’ll most likely find that it produces quality products. As a matter-of-fact, I bought Under Armour shoes, a sale of course, and they are one of the best and most comfortable running shoes I have ever owned. But I can’t sit here and say it’s a good company to invest in right now and one of the reasons is because of comments made by athletes; whether they are true or untrue.
Ofcourse this does not happen all the time with stocks. Some stocks, actually these days many stocks perform are continuing to do great. When you look at Nike (NKE), it has performed much better than UAA, up almost 20% over the past year:
But wait, there’s more. Look at the S&P 500 index. It has performed well over the past year and only recently due to market corrections has underperformed compared with Nike. Additionally, you get the benefit of diversification with an S&P 500 index fund:
So looking at the bad, the good, and the better, it is apparent that index funds and ETFs are a safer investment and still provide performance.
And if you’re really into sports, you can even consider a new ETF that was launched in 2017, FANZ, which specifically invests in major sports sponsors.
Additionally, why would athletes and celebrities make negative comments on low-cost index funds and ETFs? An ETF is an investment that is invested in many stocks all across an exchange. The reputational risk is at least minimal if not none. We all know Warren Buffett has good things to say about low-cost index funds.
Go With Non-Managed Funds
We’ve read time and time again that actively managed funds are not able to beat the indexes they track. Well, I decided to check that. The Clear bridge Value Trust Fund – LMVTX (which has been running since 1982 and has $2.38 billion in net assets did not beat its benchmark, the Russell 1000 Value Index over the past five years:
Keep in mind that it is important to look carefully within a particular ETF or index fund to make sure it is truly diversified. A good sized chunk of an ETF could be concentrated into one sector like technology and if you want to be more diversified into financials, it is important to find a more balanced fund.
Last but not least, big index companies like Vanguard believe a correction in stocks is more and more likely to happen in 2018. Personnel I think it’s unreasonable to expect returns to rise the way they have in recent years. Vanguard promotes long-term investing. I’m a big fan of their low-cost index funds and ETFs and with stock price valuations so high, these provide affordability, not to mention diversity.
Join The Discussion:
- Are you invested in stocks, but are moving towards index funds?
- Do you invest solely in stocks for the belief of higher returns?
- Has one particular stock provided with a very high return or has been the cause of a massive loss?
I use Personal Capital because (1) it’s free, (2) it tracks all of my accounts and overall net worth, (3) my account balances automatically update, (4) it shows how my investments are diversified and allocated in various sectors, and (5) can use built-in tools like “Investment Checkup” to get….wait for it…free personalized advice!