How To Build A Healthy Portfolio

Have you ever been shocked by how much supermarkets charge for store-bought breakfast cereals? I was.

I nearly lost my trolley the first time I looked at the price label. It can cost a packet for a small box of granola, which, I should point out from experience, doesn’t stretch very far.

Someone somewhere is making far too much out of me, and I don’t like it. So, my response has been to learn how to make my own granola.

A pinch of commitment

It is really not that hard to do. Quite apart from saving us money, there is something else to bear in mind too. By making our own breakfast cereal, we can choose what exactly we want to include and what we should leave out.

We can judiciously select the right mix of rolled oats, dried fruits, seeds and nuts that suits our taste. The choice is ours, entirely.

A healthier, wealthier choice

What’s more we can even cut down or omit altogether any of the less desirable elements such as sugar, unhealthy trans-fats and salt. I feel so much healthier, already.

Buying a managed fund is a lot like paying over the odds for a box of branded cereal.

Some of us do it, partly because we think that it is convenient. Some of us do it because we might think that a managed fund is our only route into the stock market.

Others might do it because they believe that building a portfolio of shares is beyond their capabilities. So, they choose the easy way out by delegating the responsibility of managing their investments to someone else.

They can’t beat the market

But consider this: Some two-thirds of managed funds can’t even beat the market. It’s true. They charge too much for their services, which mean that there is less for us.

That, I believe, is all the reason we should ever need to take matters back into our own hands.

Building our own portfolios – just as making our own granola – is not really that hard to do. The general rule of thumb is to hold around 15 different good shares from a wide selection of diverse industries. The choice is ours, entirely.

By holding a broad range of shares in our portfolios, we can spread the risk of being exposed to company-specific factors. In other words, diversification helps to reduce our exposure to unsystematic risk.

Singapore Telecoms (SGX: Z74), for example, is exposed to a different set of risks to, say, Golden Agri-Resources (SGX: E5H). And Singapore Airlines (SGX: C6L) is unlikely to face the same risk factors as a Real Estate Investment Trust such as SPH REIT (SGX: SK6U).

Minimising risk

The first few stocks that we buy should bring about the biggest decline in our exposure to unsystematic risk. As we increase the number of companies in our portfolios from one to 10, we could reduce our exposure to company-specific risk by as much as a half.

After that, though, the addition of more stocks might only reduce risks, marginally. That is why 15 shares are about as much as most investors can manage. It can also be quite hard to keep track of the happenings at the companies we own, if we have too many to look after.

Bad things can happen

However, diversification will never eliminate our exposure to risk entirely. Some risks that can affect the entire market cannot be reduced through diversification. We just have to accept that bad things could happen, every now and again.

For example, stock markets around the world fell, following the cowardly attack by terrorists against innocent civilians in Paris. We can never avoid that kind of risk.

But we should also never allow terrorists to scare us, ever. Their aim is to disturb and disrupt. Our job is to carry on regardless.

A version of this article first appear in Take Stock Singapore. Click here now for your FREE subscription to Take Stock – Singapore, The Motley Fool’s free investing newsletter.

Written by David Kuo, Take Stock - Singapore tells you exactly what's happening in today's markets, and shows how you can GROW your wealth in the years ahead.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Director David Kuo doesn’t own shares in any companies mentioned.