Starting my investing journey I’ve noticed such a huge trend of people glorifying ETFs like $VOO$QQQM$SCHD$VXUS and more but I have such a huge problem with that. Although there are good things about ETFs and reasons to use them I feel as though we are leading a lot of new investors astray. The purpose of ETFs: ETFs are exchange traded funds used for the purpose of diversification. But why do people want diversification? Well it’s less risk, you can gain profits from tons of companies all in one. So why would I be making a post opposing ETFs. Well it all comes back to the concept of risk pooling. Risk pooling is a strategy where one splits risk across multiple sections or areas. So instead of having one stock I would have many and the reason for this is reduced risk. Where one stock may be losing profitability another could be gaining profitability and together they will neutralize each other out so I neither loose nor gain. Risking pooling creates a safety net against major losses but what we forget is that it also creates a safety net against major gains. Neutralization affects both sides. Why does this matter: Taking that understanding of risk pooling we see the purpose of risk pooling is reduced risk. But does reduced risk align with investor goals? Are we investing to keep our money safe or to make our money profitable. Investors goal should be profitability and that is what the stock market is for. So when you invest in ETFs remember ETFs are not built for profitability but for safety. The best gains aren’t in ETFs but rather the concentrations of individual stocks, but then again is an individual stock the best strategy either? That’s an immense amount of risk in one company that could go down. So maybe the best strategy isn’t one or the other but maybe a combination of both. Your Portfolio of Individual Stocks is your ETF: With ETFs you are forced to neutralize losses with profits as all stocks are combined into one big one. But if I mimicked $VOO as individual stocks I would have way higher profitability and here’s why. What ETFs take away from you is inflation. Inflation is a third variable to risk, as we all know the stock market grows with inflation and even bad buys over time even out. So instead of the losses stealing your profits you can use inflation to neutralize the risk of underperforming stocks. But let’s take it a step further. ETFs remove your choice: What if you instead of being forced into a diversification you didn’t really choose or understand you made a portfolio of stocks you knew and understood. An ETF where the likelihood of green was 70/30 not 50/50. Then profitability would increase further. We also know that diversification doesn’t have to look like hundreds of stocks it can be much less. Risk’s correlation with Profit: You see what I have been trying to point out here is that diversification has an inverse relationship with profitability. The further you diversify the lower your profitability threshold is. So instead of going straight ETFs or just a single individual stock maybe the best investors are in the middle. Where investors diversify but only to the point of statistical necessity. My recommendation: So in all of this I would recommend mixing up your portfolio. Have some ETFs but don’t choose broad ETFs and when you see good individual stocks maybe don’t pass it up cause of some risk, if you have researched a company that already reduces your risk. If you want another helpful tip: Stocks all fall under a sector and not only do stocks have individual performance but they also have sector performance so if you want to diversify but increase the likelihood of profitability choose a sector focused ETF and research what sectors are performing better in the market and that will give you what you really want, an ETF that generates real profitability. So if this post seems like a controversial take to you I advise you to look into it yourself. Study risk pooling and look at the best investors portfolios and see what’s in there portfolio, cause the best investors I know are never talking about $VOO or $VXUS they are talking about $META they are talking about $NVDA and they are talking about the future of this country which most likely will involve a lot of AI.
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14 Comments
Max Penders
@mjpenders · 12h
This is very wrong. You are correct that idio returns could be positive if you are a gifted investor, but you are taking on massive amounts of other risk, both idio and factor, that are unrelated to any possible alpha. You need to read some books on risk management (I recommend Advanced Portfolio Management)
Kirtan Varasia
@kvarasia · 12h
I agree with your hypothesis and you have explained it well. The thing is one can only be open to such ideas when they have not already made up their mind that broad market is all what you need. If that was the case wouldn’t the whole world just invest in one broad market fund?
Nate
@hoodnate · 11h
interesting take. i own mostly etfs so this made me think about what im actually paying for
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