Build Your Own Portfolio

Are for tired of reading about the parade of mutual fund scams, fund mismanagement, high fees and poor fund performance? I am. I'd rather spend my time making sound investment choices myself than fretting about what some "committee" of so called investment experts is doing with my money.

I've owned mutual funds for years but I've given up on most of them. Instead I've built my own fund. It's a portfolio of many stocks that I've carefully selected for the past 10 years. Most of the stocks are household names and many pay dividends, which I reinvest to buy more shares. The portfolio increases in value as the market increases and declines as the market falls. Because the market has been up more than its been down for my investing life, the portfolio is making money. But even in down markets the rich diversity of stocks across many industries protects the portfolio from severe, permanent declines in value. In this article I'll share with you what I learned and show you how to build your own stock portfolio.

The approach that I describe is for the long-term (10 years or more), conservative buy-and-hold investor who has time to spend making investing decisions and the patience for the decisions to pay off. The approach is not a get rick quick scheme and does not promise to double or triple your money overnight, in a few months or even in a few years. Rather, with patience and perseverance, you'll build and manage a robust stock portfolio that grows in value year after year while prices rise and protects you from serious losses when prices decline.

The strategy is based on the well know sound investing principles of buy-and-hold, diversification, dollar-cost averaging and dividend reinvestment. When you apply these techniques for a long period, you will be rewarded with a money-making stock portfolio. And you'll have the satisfaction that comes from building and maintaining it.

I own and recommend that you own stocks of large well-known U.S. companies that pay dividends. Many of the companies are household names like (Coca-Cola (KO), IBM(IBM), Colgate (CL), Proctor & Gamble (PG), Merck (MRK), Pfizer (PFE), Caterpillar (CAT), John Deere (DE), Heinz (HNZ), Hershey (HSY) and American Express (AXP)) with long histories of profitability and dividend payments.

Electric utilities and Real Estate Investment Trusts (REIT) are good candidates because they pay regular dividends. Shy away from small companies and fad stocks. Although these stocks can increase rapidly and you can make money quickly, their prices can drop even more quickly. I don't want that much volatility in my portfolio.

If you own many stocks, your diversified portfolio is insured against a large loss when the price one or two stocks falls significantly. For example, equal dollar investments in 20 stocks means than any stock represents 5% of the portfolio. For a portfolio of 100 stocks, each stock represents only 1% of the portfolio. With many stocks you have safety in numbers.

One negative consequence of owning many stocks is that a stock with a very good performance does not significantly effect the overall performance of the portfolio. So if you have a stock that triples in values, but it only represents a small portion of the money invested in the entire portfolio, its gain doesn't help the performance of the portfolio that much. So you always have a tradeoff between safety in numbers and very large gains.

Personally, I like to own at least 50 stocks and then I don't have to worry if a few of them go bad. I advise that you own at least 20 stocks. Make a master list of the stocks you want to own and then make a schedule to purchase them. Don't feel you have to buy the stocks all at once. You can buy them over a period of years.

Simply owning lots of stocks does not necessarily mean your portfolio can weather down turns in price. For example, if you owned 50 stocks and 30 of them were in technology, your portfolio would not do well when the tech stocks declined as they did from March 2000 to the present. But if you spread your 50 stocks across 10 different sectors a down turn in any sector could be offset by an up turn in another. Of course during a broad-based long-term market decline most of your stocks would go down.

So be sure not to concentrate a large proportion of your investment dollars in one or two sectors. instead spread your money across many sectors such as food and beverages, electric utilities, pharmaceuticals, heavy equipment, technology, real estate, natural resources and financial's. I suggest that to start you buy two stocks in a sector. For example, you could buy Heinz (HNZ) and Hershey (HSY) in the food industry or Colgate (CL) and Proctor & Gamble (PG) in the consumer products industry.

A stock that pays you a dividend is a wonderful investment. Imagine that you simply buy the stock, hang on to it and you receive a regular cash payment each quarter simply because you own the stock. And if you buy a dividend-paying stock at a relatively low price, hold it, and the dividend increases over time your dividend yield (dividend/purchase cost) can easily be double digit.

If you don't need the dividend payment to pay bills, reinvest it and buy additional shares of the stock. Over time your number of shares increases without adding any new money. Dividend reinvestment is a gift for long-term buy-and-hold investors. To make dividend reinvestment easy, setup an automatic dividend reinvestment plan in your brokerage account.

Of course there are many fine stocks that don't pay dividends. And some of these stocks are worth owning. But since dividend reinvestment is a given for the long-term conservative investor, I suggest you own no more than 10 percent of your portfolio in non-dividend paying stocks. Remember, you want your portfolio to generate lots of dividends to reinvest. Also many non-dividends paying stocks are small fast growing companies that tend to be quite volatile. Leave these stocks to the more speculative investors.

The key to making money with any investment is to pay the right price. The Wall Street Buy Propaganda Machine would have you buy stocks at anytime at any price. But the wise investor looks for bargains and buys low. You must be ever mindful not to buy on the downside and not to pay too much for a stock. Before you invest, read Making Buy Decisions.

I suggest that you buy shares of a stock with two or more purchases rather than buy all the shares at once. This practice is called dollar-cost averaging and you buy more shares at lower prices and fewer shares a higher prices. Thus your cost basis is the average of the prices you paid. Dollar-cost averaging lets you buy shares over time without spending much time agonizing about the price you pay.

But when you use dollar-cost averaging, be sure not to make a major purchase when the stock price is on the downside. For example if a stock has dropped to $10 from $30 it is not necessarily a good buy. Just because it's dropped significantly doesn't mean it couldn't drop further. Wait until you think prices have bottomed and are moving up before you buy. Also if prices are on the upside but seem very high relative to previous historical prices and price/earnings ratios, don't make large purchases.

Your long-term investment strategy is to buy and hold dividend-paying stocks. But if a stock starts to decline because the company is in serious trouble due to a scandal, a change in the business model or very poor management, sell the stock. Take the money and buy a new stock or add to existing positions. Don't hold a bad stock just because you've owned it for a long time.

Another time to sell is when the price of the stock reaches unsustainable high prices like many of the technology stocks did in 2000 before the price bubble burst. Don't believe the fallacy that prices go up forever. When a stock price exceeds its all-time highs and has a very high price/earnings ratio, consider selling it. Take your profit and buy another stock at a bargain price.

You'll need to setup an account with a brokerage firm (online or full service). Shop around and look for low transaction fees (buy, sell and dividend reinvestment) and low monthly or annual account maintenance fees. If you plan to make small dollar purchases, be sure your broker charges small or no transaction fees. I use BUYandHOLD.com. They don't charge for dividend reinvestment and you get two free buy or sell transactions each month. However, there is a nominal monthly account fee.

There's no need to check your portfolio everyday. When you own many stocks in different sectors the routine ups and downs in price are not a great concern. But you should check your portfolio at least once every three months. Look for any companies that are in trouble that you should sell. Check for any bubbles stocks that are sell candidates. Look for any bargains and add to those post ions.

Monitor your portfolio each quarter (three months) looking for very poorly performing stocks and stocks that may have reached bubble prices. Think about selling these stocks. Otherwise hold on to your stocks for the long run.

Conclusions and Recommendations

Start building your portfolio as soon as you can. To get started buy a few shares of one or two dividend-paying stocks and setup dividend a reinvestment plan for each stock. As you save money buy more shares of the stocks you own and buy new stocks. When I was building my account, I added 5 to 10 new stocks each year. You don't need thousands of dollars to get started. With a few hundred dollars you can begin to buy stocks.

Then monitor your portfolio, be patient and watch it grow in value.