A Very Simple Formula For Figuring Out How Many Stocks To Hold

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A Very Simple Formula For Figuring Out How Many Stocks To Hold

At the Acquirer’s Multiple we believe your equally weighted portfolio should consist of 20-30 stocks generated from our Deep Value Stock Screens.

In general terms, holding more stocks leads to greater diversification, and lower volatility, but is harder to manage and requires more purchases. Fewer stocks reduces the number of purchases, but leads to great volatility, and magnifies the impact on the portfolio of an unexpected event.

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So, it was interesting to find an article by Boris Marjanovic, the Managing Director at A North Investments (ANI), who has arrived at a similar conclusion using a very simple formula for figuring out how many stocks you should hold.

Here’s an excerpt from his article:

Studies say the magic number is at least 20 to 30 stocks. I myself prefer to use the 1/N rule as it takes into account investors’ subjective risk tolerances.

The denominator “N” is the maximum percentage (of your equally-weighted portfolio) that you can afford to lose if one of your stocks goes bankrupt. For the typical investor, it’s about 5% – the equivalent of owning 1 / 0.05 = 20 stocks. If you happened to be a more conservative investor, it might be 1% or even lower, in which case you should own at least 1 / 0.01 = 100 stocks.

You can read the complete article here.

This article was originally published at The Acquirer's Multiple

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The Acquirer’s Multiple® is the valuation ratio used to find attractive takeover candidates. It examines several financial statement items that other multiples like the price-to-earnings ratio do not, including debt, preferred stock, and minority interests; and interest, tax, depreciation, amortization. The Acquirer’s Multiple® is calculated as follows: Enterprise Value / Operating Earnings* It is based on the investment strategy described in the book Deep Value: Why Activist Investors and Other Contrarians Battle for Control of Losing Corporations, written by Tobias Carlisle, founder of acquirersmultiple.com. The Acquirer’s Multiple® differs from The Magic Formula® Earnings Yield because The Acquirer’s Multiple® uses operating earnings in place of EBIT. Operating earnings is constructed from the top of the income statement down, where EBIT is constructed from the bottom up. Calculating operating earnings from the top down standardizes the metric, making a comparison across companies, industries and sectors possible, and, by excluding special items–earnings that a company does not expect to recur in future years–ensures that these earnings are related only to operations. Similarly, The Acquirer’s Multiple® differs from the ordinary enterprise multiple because it uses operating earnings in place of EBITDA, which is also constructed from the bottom up. Tobias Carlisle is also the Chief Investment Officer of Carbon Beach Asset Management LLC. He's best known as the author of the well regarded Deep Value website Greenbackd, the book Deep Value: Why Activists Investors and Other Contrarians Battle for Control of Losing Corporations (2014, Wiley Finance), and Quantitative Value: A Practitioner’s Guide to Automating Intelligent Investment and Eliminating Behavioral Errors (2012, Wiley Finance). He has extensive experience in investment management, business valuation, public company corporate governance, and corporate law. Articles written for Seeking Alpha are provided by the team of analysts at acquirersmultiple.com, home of The Acquirer's Multiple Deep Value Stock Screener. All metrics use trailing twelve month or most recent quarter data. * The screener uses the CRSP/Compustat merged database “OIADP” line item defined as “Operating Income After Depreciation.”
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