Diversification across uncorrelated or negatively correlated asset classes such as equities and gold does reduce risk, since gold often acts as a hedge against equity.
However here I am talking about diversification across a single asset class : Equity. Within equities, excessive diversification often hurts more than it helps.
Look at most Mutual Fund Portfolios and you will find them highly diversified with maximum holding rarely crossing 6%. Most Money Managers rely on diversification as a method to reduce risk, but this also reduces return. Due to low allocation, winners in the portfolio don’t move the needle much, and wide diversification forces managers to trim successful positions to maintain balance.
Now consider the approach of legendary investors:
1️⃣ Warren Buffett held concentrated bets throughout his career, with the top four or five companies making up 50 to 60 percent of Berkshire’s portfolio.
He says: “Diversification is protection against ignorance. If you know what you’re doing, it makes little sense.”
Here you can get the details of his portfolio across decades: https://lnkd.in/dXz2WsJp
2️⃣ Charlie Munger had his life savings invested across Berkshire, Costco, and Li Lu’s Himalaya Capital.
3️⃣ Nick Sleep (Nomad Fund) ran one of the best-performing funds between 2001 and 2013 with a small number of high-conviction bets.
4️⃣ Li Lu (Himalaya Capital) at one point had BYD alone accounting for 40 to 50 percent of his assets.
5️⃣ Rakesh Jhunjhunwala had Titan forming 35 to 40 percent of his portfolio for years.
💡 The Lesson
An optimum equity portfolio usually lies in the range of 12 to 18 stocks. This is neither too concentrated nor excessively diversified. Over time, one or two of these gems will compound so strongly that they dominate the portfolio, sometimes becoming 40 to 50 percent of its value. And that is fine!
As Mohnish Pabrai advises: think like a business owner. If you believe in the story, you should be comfortable being heavily invested in it.
⚠️ Important Note:
Concentration works only if you have conviction, deep research, and the temperament to withstand volatility. For most investors without the time or expertise, some diversification is not ignorance but insurance. Disclaimer: The stocks cited are for informational purpose only and are not investment advice.
Leave a Reply