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An Empirical Analysis of Some Aspects of Common Stock Diversification

Published online by Cambridge University Press:  19 October 2009

Edward H. Jennings
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Extract

Some recent empirical studies have concluded that the common stock investor can virtually eliminate diversifiable risk with a portfolio that contains a “small” number of separate common stock issues [5, 6, 10, 11, 13]. The conclusion has several important implications. One of the inherent limitations of a portfolio manager is his inability to evaluate an infinite number of securities. The seriousness of this problem is directly related to the risks associated with a “small” portfolio. The economic function of a mutual fund industry is to provide diversification and professional management. If it is assured that a “small” portfolio can virtually eliminate diversifiable risk, the necessity of these functions may be questioned. In addition, the strategy of concentration may be less “risky” than is commonly supposed. Finally, the modern portfolio models generally assume that portfolio additions are costless.

Type
Investments I
Information
Journal of Financial and Quantitative Analysis , Volume 6 , Issue 2 , March 1971 , pp. 797 - 813
Copyright
Copyright © School of Business Administration, University of Washington 1971

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