Facebook (NASDAQ: FB) has generated a lot of buzz over the past few weeks after its first-quarter earnings report shattered expectations. The stock's share price spiked in April after the report was released, leaving many investors to wonder whether they should make room for it in their portfolios.
While it could be a great decision for some, you need to be careful about investing too much in any single stock, even one with as much growth potential as Facebook. In this article, we'll look at why, as well as some safer ways to add Facebook — or any other company stock you're interested in — to your portfolio.
There's no such thing as a risk-free investment
It's easy to look at an industry giant like Facebook that sees billions of people visiting its sites every month and think it's a foolproof investment. A company like that isn't likely to go under anytime soon, after all. But a company doesn't have to go out of business to lose you money. Stock prices change minute to minute, and sometimes that means you lose money in the short term.
If you'd invested $10,000 in Facebook on Feb. 19, 2020, it would have been worth only $7,827 less than a month later on March 11, 2020 as pandemic fears gripped the world.And if you'd panicked and sold it then, that loss would've been permanent. But if you'd held onto that investment for a year from the date you purchased it, your shares would be worth $12,575.
This kind of volatility makes investing in stocks risky, especially for those nearing retirement age. If you really need cash, you may have to sell at a loss just to cover your bills. And while Facebook may not be in danger of going out of business, some companies do, and when that happens, you could lose all the funds you invested in them for good.
That's why it's so important to diversify by investing in many companies and sectors. When you have your money invested in a dozen or more companies, the ups and downs of a single stock don't have as large of an effect on your portfolio. With a solid base of strong companies, your savings will grow over time with fewer volatile swings than you'd have if you put all your money in one or two stocks.
You also should invest in several sectors to hedge against problems that affect entire industries. For example, the COVID-19 pandemic hit tourism hard, so if you had all your savings in consumer discretionary stocks such as restaurants and travel companies, you would've lost a lot even if you had your money invested in several companies. But if you also had some money in tech stocks, the big boom they saw amid the pandemic would have made up for some of the hits your other stocks took.
A safer way to invest in Facebook
If you want to invest in Facebook stock but are worried about not being diversified enough, there are two avenues you should consider: index funds and fractional shares. Index funds are bundles of stocks that track a market index. They're made up of all the same stocks as the index, so when the index does well, you do, too.
S&P 500 index funds are some of the most popular. These contain 500 of the largest companies in the U.S., including Facebook. When you invest in one of these, you're essentially buying a small portion of Facebook and 499 other companies in various industries, so your money is well diversified with a single purchase. Index funds also have low fees, so you won't have to worry about forfeiting a ton of your profits to some fund manager you've never met.
Fractional shares are just what they sound like — a fraction of a single share that you can buy the same way you'd purchase a full share. They enable you to invest in big, expensive companies even if you don't have a ton of cash. If you decide to purchase fractional shares, you could put a small amount of money into Facebook and use your remaining funds to invest in fractional shares of other companies to ensure you're properly diversified. However, not all brokers allow fractional share investing right now, so you'll have to look for one that offers this if you're interested in it.
Both of these strategies are viable ways to invest in Facebook while keeping your money diversified, but that doesn't mean you should never invest in a single stock on its own. If you already have a diversified portfolio and you think Facebook is a smart investment for you, investing some of your extra cash in Facebook stock could be a rewarding decision. But you have to remember you're dealing with your savings, so you should always err on the side of caution.
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Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to its CEO, Mark Zuckerberg, is a member of The Motley Fool's board of directors. Kailey Hagen has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Facebook. The Motley Fool has a disclosure policy.