Canadian Dividend Investors
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Avoid Over-Diversification
This worshipping at the altar of diversification,
I think that is really crazy.
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Charlie Munger
Charlie Munger was Warren Buffett’s partner in Berkshire Hathaway for about 20 years, from 1979 until Munger’s death in 1999. Charlie had trained as a meteorologist and a lawyer and never took a single college course in economics, marketing, finance, or accounting. Nevertheless, he became a leading business and investing genius. He was a man of few words and became well-known for his pithy comments on the financial industry.
Some diversification of your holdings is recommended, even with a dividend investing strategy, so that if one company in your portfolio is financially unsuccessful or goes bankrupt, only a portion of your retirement savings will be affected. However, many investors are over-diversified, such that the overall performance of their portfolios is mediocre, simply because many of the companies they own are only marginally profitable.
We can obtain some guidance with respect to the optimal number of companies to hold in your portfolio by drawing from the practices of Warren Buffett and other successful money managers, as reported by Hagstrom, as well as from two other very successful managers reported by Benallo et al.
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As indicated in Figure 1, these managers held anywhere from five to thirty companies in the very large investment funds they managed. In addition, they made no attempt to equalize the proportions of their fund's assets held in each company and, in fact, some managers concentrated most of their fund's assets in just two or three companies, with smaller amounts allocated to the remaining companies.
Many folks who have a career and family commitments, in addition to their investing activity, find that they can successfully manage a portfolio containing between five and fifteen companies. In my case, I found that I could easily manage ten holdings.
Figure 1: The number of companies held in very large investing funds managed by exceptionally successful money managers.
1. Clark, D., 2017. The Tao of Charlie Munger. A Compilation of Quotes from Berkshhire Hathaway's Vice Chairmen on Life, Business, and the Pursuit of Wealth. Simon and Shuster, New York, NY.
2. Hagstrom, R.G., 1999. The Warren Buffett Portfolio, Mastering the Power of the Focus Investing Strategy. John Wiley & Sons, Inc. New York, NY pp.40 to 58
3. Benello, A.C., Van Bieman, M., and Carlisle, T.E., 2016. Concentrated Investing, Strategies of the World's Greatest Concentrated Value Investors, John Wiley & Sons, Inc., Hoboken, NJ, p.106