<beliavsky[at]aol.com> wrote in message
news:3064b51d.0402090823.172102f8[at]posting.google.com...
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This is interesting in that we recently had a poster state that he "no
longer trusted mutual funds." Does that investor therefore invest in
individual stocks? Does he therefore expose himself to increased risk? I
thought the purpose of investing in mutual funds was to diversify and
therefore to mitigate the inherent risk of the market.

Elizabeth Richardson

In article <3064b51d.0402090823.172102f8[at]posting.google.com> ,
beliavsky[at]aol.com wrote:

these two sentences do not seem to agree with each other:

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and

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It seems that the first sentence suggests that the least diversified
group makes lower returns, and the second states that the stocks with
the least diversified investor base outperform stocks with more
diversified investor base. I suppose it is possible if some investors
lose everything, but still it is counterintuitive. Did I misread the
abstract?

i

A recent working paper has found that individual investors who own
stocks directly usually have under-diversified portfolios. This
probably won't come as news to financial advisors.

http://papers.ssrn.com/sol3/papers.c...ract_id=469441

Diversification Decisions of Individual Investors and Asset Prices
WILLIAM N. GOETZMANN
Yale School of Management, International Center for Finance,
National Bureau of Economic Research (NBER)
ALOK KUMAR
University of Notre Dame - Mendoza College of Business
January 14, 2004
Yale ICF Working Paper No. 03-31
Abstract:
In this paper, we examine if the diversification decisions of
individual investors influence asset prices. First, we show that a
vast majority of individual investors in our sample are
under-diversified and the unexpectedly high idiosyncratic risk in
their portfolios results in a welfare loss - the least diversified
group of investors earn 2.40% lower return annually than the most
diversified group of investors on a risk-adjusted basis. Next, we
examine the determinants of investors' under-diversification and find
that younger, low-income, and relatively less sophisticated investors
hold less diversified portfolios. In addition, investors who prefer
skewness, exhibit relatively stronger familiarity bias, and exhibit
greater over-confidence are less diversified. Finally, we show that
the systematic under-diversification of individual investors influence
asset prices. A zero-cost portfolio (DIV factor) that takes a long
position in stocks with the least diversified individual investor
clientele and a short position in stocks with the most diversified
individual investor clientele earns an annual excess return of 7.44%
on a risk-adjusted basis. Furthermore, this factor has power to
explain the cross-sectional variation in returns for a considerable
group of stocks
Keywords: Individual investors, Diversification, Idiosyncratic risk,
Behavioral biases, Asset pricing.
JEL Classifications: G11, G12