Gyroscopic Investing

I've decided to hold a pool of individual stocks for my equity PP allocation. Part of my reasoning is to mitigate 3rd party shenanigans, and part of it is because I believe I can select a group of 30 stocks that are "better" than an index fund. I can avoid crap like RIMM, Best Buy, Sears, etc by handpicking a mix of 30 stocks. So far for the last 3 weeks that I've been doing it, it's surprising similarly to the SP500 which is good. I've "beat" the index by a small percentage even including trading costs. On every day so far I'm within +/- 0.3% of the index.

I don't want this specific post to be about that strategy (I've discussed it in another post and understand the risks), I'm simply mentioning it to lead to my actual question:

What shenanigans if any, am I susceptible to by using this strategy? Can my brokerage lend out my securities to someone else as part of options trading, without telling me?

I'm under the impression that with SIPC, as long as I keep my securities under the $500k limit of protection, I'm a bit safer than owning a mutual fund because I eliminate manager risk.

I realize that manager risk is small in an index fund like the VG Total Stock Market, however it does exist even if it's close to zero.  I agree that the risk of me selecting he wrong 30 individual stocks greatly exceeds manager risk in an index fund.

Is there any risk specific to individual equity holding versus a mutual fund that I might not know about? Assume that I am aware of the risk of selecting individual equities, I am wondering what risks are involved with the stock ownership itself.

What shenanigans if any, am I susceptible to by using this strategy? Can my brokerage lend out my securities to someone else as part of options trading, without telling me?

The stocks will be registered in their Street Name, not yours. If you sign a margin agreement (even if you don't use margin), the shares could be loaned. Many brokerages are able to loan shares which is why their fees are so low. They make money in other ways that don't involve stock commissions.

So some of this is murky, but in general:

1) Do not sign a margin agreement.
2) Call your broker and tell them also you do not want any margin capability put on your account if it is there.
3) Do not allow shorting on your account which usually means you agree to margin.
4) Work with a broker that will hold the securities in custody (which probably only applies to non-US brokers and they have much higher fees).

I'm under the impression that with SIPC, as long as I keep my securities under the $500k limit of protection, I'm a bit safer than owning a mutual fund because I eliminate manager risk.

But now you are the manager and hand-selecting stocks is very risky vs. a big indexer like Vanguard that is unlikely to make an error big enough to cause a problem.

Is there any risk specific to individual equity holding versus a mutual fund that I might not know about? Assume that I am aware of the risk of selecting individual equities, I am wondering what risks are involved with the stock ownership itself.

A big risk is you can't diversify as widely and cheaply as an index fund can. You also are now opening yourself up to emotional pitfalls of not wanting to trade a losing stock because it will be coming back "any time now" or you won't sell down a winner because "it's just going to keep going up." etc.

In essence, you turn your non-speculative stock allocation into a very speculative stock allocation. You also add the stress of needing to closely watch your stock allocation and become susceptible to market gurus, trading systems, etc.

TripleB wrote: I can avoid crap like RIMM, Best Buy, Sears, etc

I seem to recall people saying that about AAPL in the 90s. you never know which company will be the next comeback kid!

Also the PP is really about capturing money as it sloshes around in the financial system. With an index fund I have a much broader net. Also, this stock picking might cause you to overly focus on micro issues when at the end of the day macro has the biggest impact.

Picking your own stock makes it harder to sell for rebalancing.  The question becomes, do you sell stock A or stock F or both.  Do you sell some of your best performers, or do you sell the dogs?  Then there Are the trading costs, and the issues others have mentioned.

I had considered this approach for mt PP until i thought about all of that.  Now i only do individual stocks for my VP.