A diversified portfolio limits investors' losses in the event of a much-fancied share crashing unexpectedly, but buying a range of shares individually or investing in a unit-linked fund can be an expensive business for small stock market players.
But now the Irish Stock Exchange has set up a new mechanism that gives investors diversification in a single, low-cost transaction: an exchange traded fund (ETF).
Investors can place their bets on the 20 most-liquid and largest-capped equities on the Iseq index via one single security. It is, broadly speaking, a 20 for the price of one kind of deal.
The main advantage of the Iseq 20 ETF, which is itself listed and traded on the Irish Stock Exchange, is that investors gain exposure to each of the shares without having to fork out for the fees, commissions and stamp duty associated with buying each share individually.
They can also beat the annual management charges of 1 to 1.5 per cent payable on a managed fund and avoid all kinds of hidden charges buried within the terms of some index-tracking products.
The charge on the ETF is 0.5 per cent, which covers all management fees and operating expenses.
The only additional cost is the normal commissions charged by the stockbroker or intermediary selling the ETF, which usually arrive at about 1 per cent.
Although this means investors won't be able to avoid taking an upfront hit, as they may be able to do on a managed fund, there are still good savings to be made from buying in numbers.
Buying one share of the Iseq 20 ETF currently costs around €12. An investor purchasing 1,000 shares will, therefore, pay €12,000, plus 0.5 per cent or €60, then a possible stockbroker fee of €120 (1 per cent). The total cost of buying the 1,000 shares is €180, meaning the fund will have to rise in value by more than 1.5 per cent before investors can actually make any money.
However, if an investor was buying 1,000 shares in a single stock priced at about €12 each, they would pay the 1 per cent stockbrokers' commission and a 1 per cent stamp duty, meaning their typical total trading cost would be 25 per cent higher at €240. And as the exposure would be limited to a single share with unpredictable fortunes, the investment would also be much more of a gamble.
ETFs are tax efficient. Individual investors pay tax at a rate of 20 per cent on dividends, compared with a possible 42 per cent on dividends paid out by regular shares.
Although the ETF acts like a fund, it trades like a share. This means that prices and trading volumes are published in real time on the Irish Stock Exchange website, giving investors more transparency than they could expect from other index trackers, which only give one opening and one closing price each day.
Although the Iseq 20 ETF is the first ETF to be based on the Irish stock market, the concept was introduced in the US and Canada more than a decade ago. At the end of last year, there were 336 ETFs listed on 29 exchanges worldwide.
Trading in ETFs has grown rapidly, with the assets under management in European-based ETFs mushrooming by 66 per cent in 2004.
Bank of Ireland Asset Management buys and manages the underlying stocks on the Iseq 20 ETF, while NCB is the promoter.
Tom Healy, Irish Stock Exchange chief executive, believes there is clear demand for an ETF based on the Irish market.
The fund attracted reasonable volumes of money during its first full week of trading, according to Peter Duff, director of NCB Investment Services. Up to €500,000 was invested on a daily basis with the money mostly coming from private clients.
Some investors may be wary of placing too much cash in the ETF on the basis that the Iseq index is dominated by a handful of large stocks capable of sinking the entire index into negative territory if they have a bad day.
And there is no geographical diversification. In other words, they may be spreading their eggs over several baskets, but all the baskets are being stored in the one warehouse.
According to NCB, Iseq 20 ETF investors are buying Europe's best economy in a single share.
"The Irish market has become one of the strongest performing markets over time and we would expect it to continue to outperform," says Mr Duff.
"You would have to be happy that you want exposure to the stock markets in the first place but, if you do, the Irish market is one of the best places to be."
