How 1 Winner Wipes Out 5 Losers

Quick! How much has the SPDR Trust (AMEX:SPY) S&P 500 tracker moved in the last 15 years, with dividends reinvested? (Cue Jeopardy! music.)

The answer: about 120%. (Sorry, you didn't phrase your answer as a question.) That's 5.4% a year, or a bit better than a boring money market account over the same period. But we can do better without risking much.

Game time!
Let's play another little game with that number. Here's a miniature portfolio of four stocks that came close to matching the S&P's return over the last decade and a half:

Data from Yahoo! Finance with dividends reinvested. As of Jan. 30.

If you invested $1,000 in each of these stocks back in 1994, you'd have a 119% return on that investment today, or about 5.4% annualized. That's our baseline -- now let's see what happens when we throw a fly into the ointment:

Ouch! Adding that stinker to our model portfolio must hurt!

It does, but perhaps not as badly as you might have thought. With Goodyear in the mix, we end up with a 78% 15-year return, or 3.9% a year. We moved our cash from a broad market index return to a virtual money market account -- and it's still much better than a regular savings account. So yes, one bad stock in an otherwise solid portfolio causes pain, but it's manageable. That's how multiple holdings can buffer your portfolio against wild market drops.

But doesn't that mean we're giving up on outstanding returns, too? Well, let's see.

The other side of the coin
Okay, how about replacing Goodyear with a superstar? Here we go:

With Stock Advisor recommendation Precision Castparts cast in the mix, we've juiced the five-stock portfolio to a 352% return -- 10.6% a year. Despite enduring a dot-com crash and a housing disaster, plus the worldwide banking chaos of the mid-90s, this simple portfolio of mostly unexciting industrial stocks beats the pants off any fixed-income investment you'd care to name.

And there are dozens of stocks with 15-year returns in Precision's 13-bagger class. If you can find a real world-beater instead, a 250-bagger would boost you to 30% annual gains. But good luck finding the absolute top dog before that rocket takes off.

Oh, and keeping both Precision and Goodyear still makes for a very nice 9.3% compound return. One winner can easily make up for several losers -- while also pulling mediocre returns up by their bootstraps. It pays to reach for big winners, even if some of your tries fall short.

Go forth and diversify!
This is why Fools diversify their portfolios. Several mistakes can be erased by a single smart pick. See how our oldest and most successful newsletter keeps beating the odds with a supremely balanced investment philosophy. And you know what? Both of this month's picks are ostensibly boring industrialists.

Grab a free 30-day Stock Advisor trial pass to see if either of them could boost your portfolio over the next decade and a half.

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