An ETF holds a basket of securities and gives you the average of them for a small fee. Individual stocks give you the specific outcomes of specific businesses. The choice is less about returns than about whether you will do the work that individual stocks require, and most people will not.
The honest baseline
A broad index fund delivers the market return for a fee measured in single-digit basis points, requires no research, and beats the majority of professional managers over long periods. That is a genuinely excellent product and the correct default for most people.
Anyone selling you individual stock research who does not say that first is not being straight with you. It is the benchmark, and the only reason to depart from it is a specific one.
What individual stocks actually cost
Not fees. Time and temperament.
- Research per position: an afternoon initially, then a few hours a year to stay current. Twenty holdings is a part-time job, which is the arithmetic behind owning fewer than feels comfortable.
- Concentration risk: a single company can go to zero. An index cannot, short of a civilisational event.
- Behavioural cost: the largest one. Individual positions fall 40% while the index does not, and holding through that requires conviction you can only get from having done the work.
The narrow case for individual stocks
Three conditions, and the case is strong when all three hold and weak when any fails.
- You will do the work. Not intend to. Will. If you would not read a 10-K once a year for each holding, the honest number of individual stocks is zero.
- You have some genuine edge. Usually industry knowledge, occasionally a longer time horizon than the institutions setting the price. Being interested is not an edge.
- You can hold through a bad year. The returns come from holding through the periods that make selling feel sensible.
There is also a reason that does not appear in the returns data and is legitimate anyway: understanding businesses is interesting, and people who find it interesting learn things that make them better at judging their own industry and their own employer.
You do not have to choose
The common arrangement is an index core with a satellite of individual positions, which caps the damage from being wrong while leaving room to apply what you know. Ninety per cent index and ten per cent stocks means a total loss on a position costs 10% of that sleeve rather than your retirement.
It also solves the practical problem, which is that most people want to own some individual companies and cannot follow twenty. Owning four properly inside an index core is a coherent strategy. Owning twenty badly is not.
Test whether you enjoy the work before committing to it
The deciding question is whether you will actually do the research, and the cheapest way to find out is to try it once. Phase Check runs on any US-listed company free, and the free account walks a full analysis end to end.
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Frequently asked questions
Related
- How many stocks should you own, the arithmetic behind the satellite
- How to analyze a stock, the work individual stocks require
- When to sell a stock, holding through the bad year
- How to find stocks to buy, where the candidates come from