Are You Taking Too Much Risk?

Last Updated Jun 26, 2009 10:45 AM EDT

(Note: This is part two of a series regarding how your financial makeup should determine your investments. For other posts in the series, see the link at the bottom of the item.)

One of the hardest things for some investors to do is to diversify away from investments that made them wealthy. If this is you, please keep in mind that staying with those investments can take you right back to where you started, or even worse. Consider the following story from my book Wise Investing Made Simple.

In March 2000, I met with an executive of Intel. His net worth at the time exceeded $10 million, mostly in Intel stock. At the time, Intel was trading at around 70.

He was taking a big risk by having his current income and his retirement assets tied to a single company. Despite his acknowledging the risks of this strategy, he was so confident of the outlook for his company that he would not consider selling the stock and diversifying his holdings.

I met with the Intel executive two years later, with the stock at about 30 and his financial assets down more than 50 percent. Unfortunately, there was still no convincing him to diversify his holdings. I met him again a year later, with the stock at about 16. And there was still no convincing him. As of this writing, the stock still sits around 16.

There some risks not worth taking. One of them is to never have more than a small percentage of your assets in the stock of any one company, especially your employer. The Intel executive not only made that mistake, but he also failed to consider that he had no need to take risk when his portfolio was worth more than $10 million. He was continuing to play a game he had already won.

Prudent investors know that there are some risks worth taking and some that are not. When the cost of a negative outcome is greater than you can bear, do not take that risk -- no matter how great the odds of a favorable outcome.

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    Larry Swedroe is director of research for The BAM Alliance. He has authored or co-authored 13 books, including his most recent, Think, Act, and Invest Like Warren Buffett. His opinions and comments expressed on this site are his own and may not accurately reflect those of the firm.

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