facebook twitter instagram linkedin google youtube vimeo tumblr yelp rss email podcast phone blog search brokercheck brokercheck Play Pause
The Stock Market vs. Stocks in the Market Thumbnail

The Stock Market vs. Stocks in the Market

We’re pleased to share this article written by David Booth, Executive Chairman and Founder of Dimensional Fund Advisors. We utilize Dimensional’s mutual funds and ETFs as part of our Value Added Indexing® investment approach.

The collapse of First Republic Bank is a harsh reminder that any stock can go to zero, no matter how established a company is, or how loyal and wealthy its customers are. The failure of what many considered to be a rock-solid regional bank should serve as powerful evidence of the importance of diversification, what I consider to be one of the first principles of investing.

If your wealth is highly concentrated in any one individual stock, take this opportunity to learn an important lesson: While many people think they know more than other investors, none of us knows more than the market.

Many years before he became a Nobel laureate, my friend and mentor Merton Miller used to say, “Diversification is your buddy.” Diversification is the practice of spreading investments across a variety of assets. It’s a time-tested strategy to mitigate risk. Children learn about it early in life with the phrase “Don’t put all your eggs in one basket,” but all too often, grown-up investors forget.

Anyone who lost their shirt when First Republic Bank stock lost its value had too much invested in it.

I think it’s safe to assume that the total value of the stock market will not go to zero. But the same cannot be said about any individual stock, no matter how promising the future of a company might seem. Why not? Because we cannot predict the future.

The current price of any stock reflects the value of all its future income streams, but it’s no guarantee. Some companies fail. Can anyone predict which ones? Fortunately, there’s no need to. You can have a positive investment experience without knowing what’s going to happen with any individual stock because of diversification. In investing, diversification is the closest thing any of us can have to a free lunch.

Nearly all investing horror stories start with a simple fact: Someone took too much risk. In the case of First Republic, management took too much risk. But investors don’t have to. Anyone who lost their shirt when FRB stock lost its value had too much invested in it. Everyone who invests in the stock market should prioritize diversification in their portfolio. And it’s never been easier to do so, because with mutual funds and ETFs — many of which allow you to invest in a broad range of stocks by buying just one security — you can achieve a high level of diversification with the same number of clicks as buying a single stock. 

In my opinion, when you concentrate your wealth in single stocks, you’re gambling, not investing. And that’s fine, as long as you don’t mind losing what you bet. First Republic has been included as part of the S&P 500 index since 2018. On the day JP Morgan Chase announced that it was taking over the troubled bank, how did First Republic’s dissolution impact the S&P 500?1 When the market closed, the index was down 0.039%2

Now do you see why diversification is your buddy?


David Rappaport, CFP®
David is the Co-Founder and Chief Investment Officer of Rappaport Reiches Capital Management. He acts as personal CFO to entrepreneurs and corporate executives, providing organization and clarity in their finances. Please connect with David below. He loves to talk about investing, financial planning, and Aspiritech, a non-profit hiring individuals on the autism spectrum.



FOOTNOTES
1  “First Republic Bank Is Seized, Sold to JPMorgan in Second-Largest U.S. Bank Failure,” Wall Street Journal, May 1, 2023.
2  S&P data © 2023 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. Indices are not available for direct investment. Index returns are not representative of actual portfolios and do not reflect costs and fees associated with an actual investment. Decrease of 0.039% was on May 1, 2023. 
DISCLOSURES
The information in this material is intended for the recipient’s background information and use only. It is provided in good faith and without any warranty or representation as to accuracy or completeness. Information and opinions presented in this material have been obtained or derived from sources believed by Dimensional to be reliable, and Dimensional has reasonable grounds to believe that all factual information herein is true as at the date of this material. It does not constitute investment advice, a recommendation, or an offer of any services or products for sale and is not intended to provide a sufficient basis on which to make an investment decision. Before acting on any information in this document, you should consider whether it is appropriate for your particular circumstances and, if appropriate, seek professional advice. It is the responsibility of any persons wishing to make a purchase to inform themselves of and observe all applicable laws and regulations. Unauthorized reproduction or transmission of this material is strictly prohibited. Dimensional accepts no responsibility for loss arising from the use of the information contained herein.
This material is not directed at any person in any jurisdiction where the availability of this material is prohibited or would subject Dimensional or its products or services to any registration, licensing, or other such legal requirements within the jurisdiction.
“Dimensional” refers to the Dimensional separate but affiliated entities generally, rather than to one particular entity. These entities are Dimensional Fund Advisors LP, Dimensional Fund Advisors Ltd., Dimensional Ireland Limited, DFA Australia Limited, Dimensional Fund Advisors Canada ULC, Dimensional Fund Advisors Pte. Ltd., Dimensional Japan Ltd. and Dimensional Hong Kong Limited. Dimensional Hong Kong Limited is licensed by the Securities and Futures Commission to conduct Type 1 (dealing in securities) regulated activities only and does not provide asset management services.
RRCM DISCLOSURE
The author does not intend to provide investment, legal or tax advice as these materials are for general educational purposes only. Please consult your legal, tax or investment professional for advice on your particular situation. This material is derived from sources believed to be reliable, but its accuracy and the opinions based thereon are not guaranteed. It is not intended to be a solicitation, offer or recommendation to acquire or dispose of any investment or to engage in any other transaction. Investing involves risk including the possible loss of principal. Past performance does not guarantee future results. Please refer to RRCM’s Form ADV Part 2 for additional disclosures regarding RRCM and its practices.