In the news this month the sharp share price declines of My Food Bag and Laybuy, are a reminder of the risk of investing into individual shares and that diversification is your friend.
Laybuy (a NZ company) listed on the Australian stock exchange in September 2020. Sixty million shares were listed at A$1.41 each. By the end of the day they were A$2.30 per share. Less than 3 years later investors will vote on whether to delist. The shares had dropped to A6c before the plan to delist and A$3c after the announcement.
My Food Bag listed in 2021 at $1.85 and last week the share price had declined to 25c as inflation bites into consumers budgets. Competition has also increased such as Hello Fresh and Woop.
There are many other examples like Theranos (Elizabeth Holmes) at its peak was valued at US$9 billion, now zero. She’s currently in jail for fraud.
Why invest in individual shares?
The reason you think a newly listed company is going to do well is often a thought based on “I would like to get in at the bottom and make lots of money”. Usually this idea comes from a hunch, or friends saying “it’s a good share to invest in” which is only a hunch they have.
A professional investor will look at many factors and do their due diligence looking at the company’s financials, market competition, and the background of the directors.
At the end of the day when you invest in an individual share you are gambling that you know more than other investors and can get in at the right time and exit at the right time. An exit strategy is always good but can go astray if the share price rises above your limit.
Diversification is your friend
There are several reasons why investing in managed funds can be a better choice for many investors compared to investing in individual shares. Here are a few:
- Diversification: Managed funds typically invest in a portfolio of assets, which can include a mix of different asset classes, sectors, and regions. This diversification can help to reduce the risk of losses from any one individual stock or sector. In contrast, investing in individual shares can be riskier, as the performance of your portfolio is tied to the performance of a few companies.
- Professional management: Managed funds are usually run by experienced investment managers who have the skills and knowledge to make informed investment decisions. These managers conduct in-depth research and analysis, which can help to identify undervalued stocks or opportunities for growth. In contrast, individual investors may not have the same level of expertise, resources, or time to conduct such research.
- Lower transaction costs: Managed funds benefit from economies of scale. This means they can buy and sell securities at lower costs compared to individual investors. This can be especially beneficial for smaller investors who may not have the resources to trade in individual shares frequently.
- Access to different markets: Managed funds can provide access to markets or asset classes that individual investors may not have access to or may be too complex to invest in directly. For example, investing in emerging market stocks or alternative assets such as infrastructure, private equity, or real estate can be challenging for individual investors.
- Convenience: Investing in managed funds can be more convenient than investing in individual shares. Once you have invested in a fund, the investment manager takes care of the day-to-day management of the portfolio, including buying and selling of stocks and rebalancing the portfolio. This can save time and effort for investors who may not have the time or expertise to manage their own portfolio.
Of course, there are also advantages to investing in individual shares, such as the potential for higher returns, greater control over your portfolio, and the ability to choose stocks that align with your personal values or beliefs. For many investors, however, the benefits of investing in managed funds make them a more attractive option. Ultimately, the best investment strategy will depend on an individual’s goals, risk tolerance, and investment horizon.