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Three Questions

03.05.25 // Markets & Investing // Blog Article

I received plenty of feedback regarding this post about individual stocks. Here are three of the most asked questions:

  • What about mutual funds?
  • How many individual stocks do I need to be appropriately diversified?
  • Doesn’t a huge part of your value come from the investment decision-making process?

Let’s review one at a time.

Be warned: this post is longer than usual.

What About Mutual Funds?

Mutual funds get a bad rap for two reasons: they are expensive, and they underperform relative to the market.

Have a look at the most recent SPIVA report (link here). At the time of writing, 93.41% of all mutual funds mandated to invest in the Canadian stock market underperformed the Canadian stock market. Those are terrible odds.

The primary reason mutual funds underperform? Fees.

As of January 31, 2025, the S&P/TSX Composite has a 10-year annualized return of 8.99%. Here are the 10-year annualized returns, after fees, of three major Canadian equity mutual funds:

  • RBC Canadian Equity Fund Series F - 8.2% (link)
  • BMO Canadian Equity Fund Series F - 8.63% (link)
  • TD Canadian Equity Fund Series F - also 8.63% (link)

For simplicity, let’s assume an advisor fee of 1%, and let’s say you invested entirely in the RBC Canadian Equity fund. Your total return, after fees, would be 7.2%.

At 7.2%, your investments double roughly every 10 years. At 8.99%, they double every 8 years.

That two-year difference may not seem like much at first, but over decades, it compounds significantly:

  • A $100,000 investment at 7.2% grows to $200,000 in 10 years.
  • That same investment at 8.99% grows to $231,000 in 10 years.
  • Extend that over 30 years, and the gap becomes even more substantial, $805,000 versus $1,323,000.*

Instead of one of these three mutual funds, you could invest in a broad-market index fund like XIC (link), which has a 10-year annualized return of 8.94% after fees.

This is why I prefer broad-market index funds and Dimensional Funds over traditional mutual funds.**

How Many Stocks Do You Need to Be Diversified?

Not as many as you think, but more than you’d pick on your own.

Studies suggest that holding about 30 stocks eliminates most company-specific risk. That means if one business crashes, your investment portfolio won’t be ruined because the others make up for the loss.

Owning 30 stocks in the same sector isn’t diversification though. If you own 30 different bank stocks, you are not diversified.

Here’s how adding more stocks affects risk:

  • 1 stock: insanely risky
  • 10 stocks: cuts risk almost in half
  • 20 stocks: a little better than 10
  • 30 stocks: as diversified as you’re going to get
  • 100 stocks: same as 30, but now you have way more to keep track of

After 30-50 stocks, you aren’t reducing risk as much as you’re making things complicated.

Even if you hold 30+ stocks, you’re probably still making mistakes:

  • You’re likely overweight in Canada (which is only 2-3% of the global market).
  • You might be too focused on one type of stock (all dividend payers, all tech, or whatever The Globe and Mail was talking about last week).
  • You still won’t match the diversification of a single index fund that owns thousands of companies globally.

If you’re picking stocks, aim for at least 30 across multiple sectors and geographies.

Or just own an index fund like XEQT (link here).

Yes, you can build a diversified stock portfolio. But why would you?

Doesn’t a Huge Part of Your Value Come from the Investment Decision-Making Process?

Yes. But so long as you are appropriately diversified, as noted above, the most important decisions aren’t about picking the ‘right’ investments.

They’re about staying invested, avoiding emotional mistakes, and building a portfolio that gets you to where you want to be. Investments are just tools. My job is to make sure they’re used properly.

The hardest part of investing isn’t picking stocks. It’s sticking to a plan when emotions run high. I can’t describe how difficult it is keeping fear and FOMO out of your investment process. That’s why having a disciplined process (or someone to help you stick to it) makes all the difference.

There are countless studies from DALBAR, Morningstar, and Vanguard describing the gap between investment returns and investor returns. It’s become known as the Behavior Gap.

The Behavior Gap is real, but it’s overstated. Investors tend to underperform their own investments by chasing performance and panic-selling in downturns, driven by fear and FOMO.

Studies like DALBAR’s QAIB report, Morninstar’s ‘Mind the Gap’ report, and Vanguard’s ‘Alpha Report,’ suggest this can cost investors several percentage points per year. While their methodology has flaws, like ignoring asset allocation, the message is straightforward: stay invested no matter what.

Beyond Investments

Investment selection is just one small part of the investment process. What matters just as much is tax efficiency, managing withdrawals effectively, and ensuring the right investments are in the right accounts.

That’s where the real value of financial planning comes in, helping you reach your goals in the most efficient way possible, while factoring in tax and estate planning, debt management, and managing the trade-offs that come with every financial decision.

*This is the primary argument behind those famous “Retire X% Wealthier” DIY ads.

**I personally use Dimensional Funds (DFA) in client accounts and for my own investments. In Canada, they are technically mutual funds, but they function more like smart index funds with very low costs. Ben Felix recently put out a great video (link here) explaining the benefits of DFA funds.

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