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Why Buy Individual Stocks?

Individual stock ownership provides both the hope of great returns (for example, if you were to early on discover the next Google) as well as the potential for disastrous results (you could end up with a significant holding in the next Lehman Brothers).

But because investors are not rewarded by the markets with higher expected returns for taking uncompensated risk—risk that is easily diversified away—the rational strategy is not to buy individual stocks.

Unfortunately, the evidence indicates that the average investor, while nominally risk averse, doesn’t tend to act that way. In fact, individual investors often fail to properly diversify. That is the triumph of hope over wisdom and experience.

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