Last updated 2020-11-25.
Some people hold most or all of their wealth in a single asset. A few examples of common situations where people do this:
- Alice works at Google. A large chunk of her compensation comes in the form of Google stock.
- Bob bought bitcoin a few years ago and the price went up a lot. Now, bitcoin accounts for 50% of his net worth.
- Carol used her retirement money to buy a second house, and she earns income by renting it out.
This is usually a bad idea, and you should go to great lengths to avoid it. It’s bad even if you have high risk tolerance, because you can get a better expected return by building a diversified portfolio and then adding leverage.
- On average, an individual stock provides the same expected return as the total stock market, but with 2-3 times as much risk. You could apply leverage to a total stock market index and get 2-3 times the expected return for the same level of risk as an individual stock. Or you could add leverage to the global market portfolio and get 3-4 times the expected return. [More]
- The same principle applies to other types of individual assets, such as private company stock, rental properties, and cryptocurrency. [More]
- If you hold a lot of money in a single asset and want to diversify, you may have to pay capital gains tax when you sell. The diversification benefits probably overcome the tax hit after about 3-10 years. [More]
- You can reduce taxes by donating to charity, or by putting the money in a donor-advised fund or a foundation. [More]
- If you’re a major stakeholder in an asset, you might depress the price by selling. You can reduce your market impact by selling slowly, or by paying your broker to manage the sale for you. [More]
- An exception: Altruistic investors don’t just care about their own investments, but about the overall altruistic portfolio. If you hold an individual asset that other altruists can’t hold, such as equity in a private company, it might make sense to keep it. [More]
- If the effective altruism community holds on the order of $10 billion in overly concentrated investments, then diversifying these funds could be worth as much as hundreds of millions of dollars in additional donations per year. [More]
Note: In this essay, I make some illustrations using historical market data. Future market behavior will probably look different, so the exact numbers I use won’t apply. But I expect the basic principles to remain true in the future.
Disclaimer: I am not an investment advisor and this should not be taken as investment advice. Past performance does not indicate future results. This content is for informational purposes only. Please do your own research or seek professional advice and otherwise take reasonable precautions before making any significant investment decisions.Continue reading