The Hazards of Buying Individual Stocks
Everywhere you turn, financial media pundits seem to revel in the excitement and drama about the ups and downs of individual stocks in the market. In fact, you will likely find a wealth of commentary on the “top stock picks for 2016” floating around the web and on financial news shows as the New Year lurches to a start.
While all the fast talk and day-to-day highs and lows may be more exciting for TV, most of us are not day traders with lots to lose and really shouldn’t be dabbling in risky individual stocks to grow a comfortable nest egg for retirement or fund a child’s college education. Even those with the savviest understanding of balance sheets, income statements, cash flow, and financial forecasting models can still find themselves dealing with an erroneous prognosis of a company’s stock future or an unexpected turn of events within a company or industry that can quickly dig a deep hole in one’s portfolio. This is known as specific stock risk, and it lingers behind every individual stock.
Specific stock risk is really an aggregate of multiple risks that come with purchasing an individual company stock, including:
- Economic risk
- Industry-specific risk
- Government policy risk
- Material cost risk
- Technological risk
- Competitive risk
- Legal risk
- Executive Leadership risk
- Management risk
- Corruption risk
Even companies with proven business models, hot products that fly off the shelves, and wise leadership are not safe from risk.
Take Apple, for example. As the latest financial market shows, even the world’s most valuable company is not a surefire bet. Apple shares ended the year 22% down from its 52-week high and 4% down from the beginning of 2015. Many commentators speculate the reasons for Apple’s fall from the top. Some blame an abundance of activity by short-term options investors or a grossly overvalued stock price to begin with, while others blame a broken business model or disproportionate hype in the media. Whatever the exact cause of the tech giant’s tumble makes no difference. The fact is, even the hottest stocks can fall off their pedestals and wreak havoc in your financial portfolio.
If you were counting on the rise of individual stocks to bolster your retirement portfolio quickly last year, you are undoubtedly disappointed by year’s end. Speculation and risk is not a great strategy on which to build your future. Make a new resolution this year to not get caught up in the hype, trust your investment strategy, and stay focused on your long-term financial goals.
While they may not be as sexy, practical, long-term strategies that combine well diversified, passive, low-cost investments are proven to withstand even the toughest of market conditions. So while giants like Apple fall from grace, you can rest assured that you are secure in your financial future.