Putting stock in Facebook

When Facebook went public in the largest IPO in U.S. history (as measured by market value), it provided some much-needed excitement for stocks and investing.

Aside from the hoopla, there are some valuable lessons to take from this IPO.

Stock investing pros and cons

A prudent investor should always have a “core” portfolio built with diverse mutual funds. Consider funds for at least 90-95 percent of your nest egg. Then you might explore individual stocks for some of the following reasons:

1. Potential rapid growth

An individual stock can move quickly. It is not unheard of for a stock to move up 20-50% or more in a few months. That happens occasionally with funds, but is more exceptional.

2. Tax control

If you own an individual stock that has gained in value, you might not sell for years. This will defer taxes and allow you to plan with your tax professional when best to realize gains.

Whereas in mutual funds, an investor can potentially lose value per share and still have a tax bill for the year.

3. Fewer fees…maybe

Individual stocks can be more fee-efficient than funds. If you buy a stock and hold for five years you typically pay just the commission going in and out. You have no internal annual fees.

What can bite investors is rapid trading. Changing your mind, finding an exciting new stock or other justifications can increase your trading costs. Besides paying extra commissions, this might result in selling at a loss. A double whammy.

These are some benefits of individual stocks. Here is the other side of the proverbial coin.

1. Enron-scale losses

Just as stocks can rise rapidly, they can fall just as quickly. Potentially, they can go to zero. Or worse. If an investor used margin (borrowed against their stock), then the losses can get bigger. This recently happened to the billionaire founder of Green Mountain Coffee. His stock dropped and he got a $100-million-plus bill, forcing him to sell.

2. Less diversity

Using Enron as an example again, would you rather have had all of your nest egg in Enron stock? Or in a diverse mutual fund that owned Enron and 99 other major U.S. companies? That is a no-brainer.

3. Amateur management

Mutual funds offer professional management. For a small fee you can hire the best and brightest money managers on the planet. With individual stocks you are usually on your own or have limited resources compared to institutional managers.

Only time will tell what will happen to Facebook and their popular stock. I hope everyone makes plenty of money from it. Invest wisely.