MICHEL MARTIN, HOST:
The U.S. stock market saw big gains in 2024. And in fact, the last 15 years have been pretty incredible for the market. Does that mean investors should put all their eggs in the U.S. stock market basket? Here are NPR's Darian Woods and Adrian Ma from our Planet Money podcast, The Indicator.
ADRIAN MA, BYLINE: Looking at the earnings of U.S. companies, on average, they have made out handsomely. Now, critics will say a lot of that is concentrated in just a handful of tech companies. Also, they point out that the U.S. government deficits might be juicing the economy temporarily.
DARIAN WOODS, BYLINE: Regardless, how much money these companies are making doesn't tell the full picture. Dan Villalon is a principal at AQR Capital Management.
DAN VILLALON: As the U.S. has outperformed, it has also become more expensive.
MA: So take Amazon, for example. At the start of 2024, the share price was around $150. Now, towards the end of the year, it was around $230. Amazon may be extremely profitable over the next 10 years, but a lot of people already think that. So when someone invests into Amazon now with that high share price, it's not as good a deal as it used to be. And that's where one investing magic trick comes in - diversification.
VILLALON: Not having all of your eggs in one basket is a great way to build a portfolio that's likely to hold up better.
WOODS: Diversification also means investing in lots of different industries, plus lots of countries. Maybe one year, the U.S. goes into recession, but Japan doesn't. Diversifying which countries people invest in would protect against losing a chunk of their savings.
VILLALON: Diversification is famously or maybe infamously called the only free lunch in finance.
MA: And the free lunch is this - you've heard the expression, higher risk, higher reward. And that is basically how markets work. Riskier industries, riskier countries, more chances to lose, but possibly a better return on investment when things go well. Now, if someone is diversified, they can still get some of those higher rewards while being insured. So if one company fails, another might do well. So it's a low-risk, high-ish reward, but there is a cost.
VILLALON: Psychologically, mentally, the lunch may be free, but it's not easy to consume.
MA: I mean, yeah, it's like you could have a perfectly balanced, healthy lunch, but is it really as fun as just, like, housing an entire bag of chips?
WOODS: Yeah, a bag of chips is pretty easy to wolf down.
MA: (Laughter).
WOODS: And so what he's saying is that when an investor has a diversified portfolio, there can be this kind of FOMO. Well, Dan says those thoughts can tempt investors away from diversification. And that brings us back to why it's particularly tempting now to stick with only U.S. stocks, even though Dan cautions otherwise.
VILLALON: The U.S. has become pricey, and other markets, you know, even though they are less loved, may be offering a better deal over the next five to 10 years. I would never say, you know, to get out of a market altogether, but I would use that as an encouragement to get folks to diversify a little better across all.
MA: In some ways, if someone's been heavily investing in U.S. tech stocks recently, it must feel like they've stumbled upon a gold mine. So why would they pack up and explore elsewhere?
WOODS: Leaving when the party is just getting good can be hard, but Dan says it can be wise to have other options for when things start to get messy.
Darian Woods.
MA: Adrian Ma, NPR News.
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