We’ve all heard the saying, “Don’t put all your eggs into one basket.” That quote can have several different meanings, but in this case we’re referring to your investments – specifically the stock market and the case against buying individual stocks. 

Let me tell you a story…

In 2007 a friend of mine was 12 years old. And like most of the world, completely enamored by Steve Job’s unveiling of the new iPhone. His father taught him the value of saving and he had accumulated over $12,000. Because he thought the iPhone was “so cool” he decided to invest his entire life savings into Apple stock. At the time, one share of Apple stock was trading at $10.78. He bought 1,130 shares. When Apple stock peaked at $860 a share, my friend was nearly a millionaire as a teenager.

Now, why would I tell you this at the beginning of an article about NOT buying individual stocks?! Because that story is a unicorn. The problem is that a lot of folks will hear it and try to replicate it – scheming to outsmart and beat the system. But many instances like this in life are based on luck and timing. And my friend will readily admit, “I was pretty lucky.” 

In this article we tackle reasons against investing in single stocks, and how you should invest your money instead. We’ll also share why single-stock investing is difficult, unnecessary, and can often create additional problems for the investor who is trying to build wealth.

Dangers of individual stocks

There are a variety of reasons why you shouldn’t invest in single stocks. Below are some of the most significant items that should make you pause and say, “Hmm…” 

1. Most stock pickers underperform

Most individual stock pickers end up losing money. Meaning, single stocks are regularly underperforming the S&P 500 – and humans are really bad at picking which companies are going up and which ones are going down. 

In fact, the NY Times came out with an article last year after analyzing 2,132 actively managed funds. These are stock experts who devote their lives (or at least their lengthy work weeks) to picking the best times to buy and sell individual stocks. And do you know how many beat their target benchmarks? ZERO. That one stat should tell us something significant about how likely we are to outwit the market!

2. Lack of diversification

You’ll hear a lot of stock picking experts say, “Invest in what you know.” But should you be investing in the single stock of your employer or be buying bits and pieces of companies that are in your industry? Or even buying stock in companies because you like them? We say, no.

Buying your own employer’s stock is almost never a good idea because it’s too risky from a diversification standpoint. You already get your paycheck there… Don’t increase your risk level by also investing in their stock. It’s easy to become overconfident because you work in an industry, you can read the tea leaves and pick the right companies, but the opposite is often true. Your judgment is clouded.

Diversification is the real winning strategy. Total Stock Market (TSM), Target Date Funds (TDFs), and S&P 500 index funds are what we recommend you consider instead. Each of those funds will buy you a massive basket of different companies.

Will you own the losers? Yep. But you will also own the winners. And the winners will balance out (and overcompensate) for the losers. Owning that diverse basket of hundreds or thousands of stocks means you’ll be average. While owning fewer hand-picked stocks gives you a minute chance of outperforming, it would also come with dramatically increased odds of severely underperforming, too. 

3. Timing the buy and sell

The famous quote, “Timing is everything,” is completely applicable here. Let’s assume you have found a great company where the fundamentals appear to be strong. They look to be undervalued and you think that they have room to grow. However, there are a couple of key questions that still remain, like when to buy, and when to sell.

Real-Life Example – let’s turn back the clock to 2015 and put Tesla under the microscope. In hindsight, that definitely would have been the time to seize the moment and purchase some of that stock. By the middle of 2017, you would’ve been up around 75% while the S&P returned less than 25%. But then, would you have been able to hang on while Tesla plummeted in 2019? By the end of that May, they were sitting at a -15% return based on where you had bought 4.5 years prior.

I’m not sure if I would’ve been able to have the stomach for that. All while the S&P would have returned a cool 40% during that same time period! Picking a winner AND getting the timing right is what makes this such a difficult proposition, especially for folks with families and day jobs. 

4. Research constraints

OK so after weeks of intense research on hundreds of stocks you’ve narrowed your picks down to just 20 that you believe are absolute winners. You invest your money and wait for things to grow…

But hang on a second, what if things change within these 20 companies? As the year proceeds, how are they all responding to changing market conditions? Are they hiring or firing any key officers? What about opening or shutting down any departments? Are they keeping up with all their promises and meeting the proposed deadlines for product launches?

Knowing everything about a publicly traded company is hard. Heck, even when you work for a company it’s hard to know what’s going on inside it! How can you expect to be an expert on analyzing stocks when it’s almost impossible to stay up to date on what’s happening inside the underlying company?

It’s a full time job doing stock research. Do you really want to be that involved in the process? And isn’t the point of investing: passive income?

5. You can get emotional and attached

Humans are emotional creatures. When we get close to things, our judgment tends to get clouded and it leads us down the rocky road to making decisions that don’t make much sense.

My dad works at Coca-Cola so I’m going to buy their stock. I love McDonald’s cheeseburgers, I’ll by their stock. I’ve been using Facebook for a long time and love their platform…how much is their stock? Do you see where I’m going here?

What’s wrong with all these decisions? It goes back to the flawed “invest in what you know” comment. I probably don’t have to tell you that it’s not wise to make decisions (especially financial decisions that can drastically alter your future) based on feelings and emotion. 

We also tend to get emotional about the price machinations of a single stock that we own. If it’s soaring, we’re pumped. If it’s dropping like a rock, we’re tense and primed to sell. It’s far easier to remain emotionally distant from a basket of hundreds of stocks. The ability to reduce our ‘emotional investment’ will often give us the ability to stay the course, allowing our actual investments to thrive.

6. Volatility and sticking out downturns

It’s tough to witness one of your favorite companies experience a decline in stock price of 50-70%. And let’s not forget how the pandemic showed us a clear picture of winners becoming losers quite quickly.

You’re going to see massive swings in price with individual stocks as opposed to larger indexes. Gains and losses get racked up more quickly and the swings can feel either exhilarating or like a gut punch. 

For some individual companies, the pandemic was great for business. If you bought Zoom, Teladoc, or Peloton in early 2020 you would have seen some incredible returns…for a while. Those stocks are all now FAR below where they were three years ago, before the pandemic started. Would you have sold at the top before their stock prices collapsed? It’s highly unlikely. 

The same is true with companies like Roku and Zillow. Are they bad companies? Of course not. However, it doesn’t mean that owning their stocks outside of an index fund makes sense. Buying individual stocks offers the potential for greater gains but it also opens you up to psychological pitfalls that don’t apply to nearly the same extent when you own most of, or even all of the stocks that reside in index funds.

7. Being right for the wrong reasons 

Back to my friend’s story about hitting the jackpot with Apple stock… Now, imagine that happened to you. How would that make you feel? Like an empowered stock-picking genius? Or just lucky that the stars aligned and your timing was perfect? 

Part of the problem with individual stock investing is that you can fool yourself into thinking you’re great at picking stocks. Those longtime Tesla investors look like geniuses right now! This reminds me of another one of our friends, Carl Jensen, who has a lot of his net worth tied up in that one company. Ironically, even he says to not go the route of single-stock investing! Yes, it’s been good to him. But he’s got enough humility to know that it’s darn near impossible to replicate that success.

The question is, what’s your measure for judging success? Selecting individual stocks is like playing a game where it’s basically impossible to determine whether you’re good or just getting lucky. When stock prices shift by 20% literally overnight, it certainly feels more like luck than skill. And that luck might not last for long.

Investing for beginners

Despite all of the other reasons not to invest your hard-earned money into a few companies, single-stock investing just takes more time and brain power. Investing in the stock market is one of those rare arenas where working harder and doing more almost always leads to worse results.

It’s a shocking thing to hear because nothing else in life works like that. You get ahead in your job, or you build muscle mass more quickly by putting in more work either at the office or the gym. That’s just not the case with investing in the market though. The lazier you are, socking money into those accounts like clockwork and not fiddling with it, the better off you’ll be.

The goal of investing is to simply buy assets that will increase in value over time. If you’re new to the concept and want to learn more check out our investing megapost that covers a basic, five-step plan and FAQ guide to start investing for beginners. It includes setting a budget, how and where to open accounts, and what assets/funds to invest in. Simplicity for the win!

The Bottom Line

Investing in single stocks can be exciting, but it won’t provide the best long-term results. There are too many challenges and downsides that not even the experts on Wall Street can overcome consistently.

If you really want to buy single stocks for fun, go for it. Just make sure to do it with only a small amount of your portfolio. We suggest, at most, 5% of your portfolio value. It’s helpful to create a firewall to prevent your interest from spreading and contaminating the rest of your portfolio that you’ve decided to be a boring index fund investor with. 

If you are going to buy individual stocks, do it inside of a brokerage account, and only after you’ve maxed out your tax-advantaged retirement accounts. That will ensure that you take the prudent route with the vast majority of your investment dollars and you’ll always have what you’ll need to live on in retirement.