Facebook, Stocks & Diversification

If you’re like me, sometimes you need a dramatic event to remind you about risk.Last month, I found myself face-down in the middle of a basketball court, trying to figure out where I was bleeding from. Do I still have my front teeth? This could be very bad.It turns out that my teeth were okay, but my chin was busted open. After a trip to urgent care for six stitches and a wrist x-ray, I was banged up and bruised, but basically fine.After my accident, I started thinking about all the basketball-related risks that I’d discounted, forgotten about, or never even considered. After successfully avoiding major injury for 31 years, I assumed that I’d just continue avoiding injury for the next 31 years. Big mistake.In my case, risk manifested itself through a bandaged face, a big unexpected medical bill, and the inability to swim with my kids on a long-anticipated family vacation.If nothing bad happens for a while, you might forget that something bad can happen. In the stock market world, Facebook was a good example of investors being lulled into a similar sense of complacency.That all ended with a bang two weeks ago when the social media giant’s stock plummeted in the biggest-ever one-day loss in market value for a U.S.-listed company. Facebook shares fell 19% and the total value of the company fell by ~ $119.1 billion. To put that into context, the entire market cap of Starbucks is only $70.3 billion.Single-stock risk is real, and it’s a risk that MUST be taken mindfully and with full understanding of the consequences. Any investor whose portfolio was heavy on Facebook would have seen extraordinary gains over the last five years. But on July 26th, the value of that portfolio could have fallen by nearly one-fifth.For those who aren’t interested in seeing their portfolios fall by 20% in a day, there’s an easier way -- diversification.Over the long term, diversification should deliver reasonably high growth while mitigating single-stock risk. I wrote all about it last fall, check it out for more details if you missed it.