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Re: Risk vs. the number of stocks:

I thought some of you might be interested in the links provided at the following site:

http://webpage.pace.edu/pviswanath/class/classnotes.html

More specifically, the figure titled "Standard Deviation of Portfolio Return as a Function of Number of Stocks in Porfolio" from Fama (1976) under the section III (More Securities and More Diversification) at:

http://viking.som.yale.edu/will/finman540/classnotes/class2.html

Try to ignore the technical stuff for a while and concentrate on this plot. This is a classic result for which Fama won a Nobel Prize. It simply states that the more stocks you own, the lower the risk. However, the reduction in risk becomes negligible after 20 or 30 stocks. This is because there are two types of risk. The first has to do with the overall market. This type of risk can not be eliminated. The second type of risk is associated with individual stocks. This you can reduce by diversifying your porfolio. The plot shows that after 20 or 30 stocks, the second type of risk has been virtually eliminated.




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