Diversify: Stay away from individual stocks

Yes, the market overall is not doing great now, but it could be a lot worse if you had a lot of your money invested in some individual stocks like Countrywide or Bear Stearns. Try losing 90% or more on these stocks, instead of 9% on the market. That is why the general rule of thumb is to never have more than 4% of your money invested in a single company. Most investors understand the value of diversity, but still don't follow this rule for a number of reasons:

• they see stocks like Google, Microsoft, or Apple beating the market regularly and think these stocks are sure bets
• they think they know a lot about specific companies or industries and feel comfortable taking a gamble
• they see certain retail products everywhere and think the company must be doing well
• they work for the company and get discounts on stock purchases, pressured into buying, or free shares as bonuses

Despite any of these reasons, you should try to maintain diversity in your portfolio. This is even more critical if you own a lot of your company's stock, as your employment, retirement, and savings may all be tied to a single company. The moment things turn bad at the company, you could lose all three. For that reason, I would suggest holding even less than 4% of your company's stock. Sometimes it cannot be avoided, such as when you are awarded stock options or shares as compensation. However, if that is the case you should try to maintain diversity by doing the following:

• immediately exercise options when vested and sell the proceeds to maintain the 4% ratio
• do not invest your 401(k) in company stock based mutual funds
• resist enrolling in employee stock purchase plans (even if there is a discount) unless you can immediately liquidate. Avoid costly transaction fees by selling the shares only once or twice a year, reinvesting in diversified funds
• Balance your portfolio by purchasing enough other funds or stocks to keep that 4% ratio
• Elect to receive cash bonuses vs. stock or options, whenever possible

This applies equally, whether you are at a public or private company. I have had this situation come up many times at my job, which is privately owned, but does have shareholders. The problem with private companies is that there is no liquid market to sell shares and often there are strict rules as to when and how you can sell them back. I have been awarded bonuses in the form of shares for many years and have no choice in the matter. So I have avoided investing my own money in shares whenever possible. I haven't participated in stock offerings and I have elected to receive cash the one time the choice was offered. I know there can be a lot of pressure to buy company shares to show your committment, but I value my personal financial freedom and philosophy higher than making a good impression and I have had to explain that on more than one occasion.

The stock market has shown to go up over the long term, but individual stocks have not. Stock prices depend on companies constantly growing. It is not enough for a company to continue to make a steady profit every year, it has to continue to increase that profit. So rather than guess which company will continue to grow, keep a broad, diverse portfolio.