Do you diversify? Diversification must be one of money managements most important concept. When you speak to just a regular financial advisor they will probably mention that you haven’t diversified enough. Have you diversified lately?
Two Different Applications
The way Buffett sees it, diversification falls into two categories.
1. Diversification for the conservative, lazy investor
2. Diversification for the intelligent or enterprising investor
The Conservative/Lazy Investor
By definition, a conservative or lazy investor is a person who does not spend too much time studying or being involved with their investments. These people are happy to buy a fund or a stock and check up on it once or twice a year. Wall Street claim these people have ‘boring’ and ‘dull’ strategies. People in this group also prefer not to have realised or unrealised loss.
For this group, Buffett informs us that conservative investors should diversify extensively and keep trading to a minimum. Diversifying extensively simply means buying more stocks or mutual funds. Basically this is what a mutual fund or index fund does. This is a way of owning a tiny piece of America.
The Enterprising Investor
Proud to call yourself an enterprising investor? This is a term created by Benjamin Graham in The Intelligent Investor
Enterprising investors are confident in their research, analytical abilities and decision. For enterprisers, Buffett tells us that you should not diversify. Owning around 6 companies is all you need.
“Wide diversification is only required when investors do not understand what they are doing.”
Back to Sprint Training
Let me explain it in terms of baseball again. You step to the plate and the pitcher throws a dead straight fat yet slow fastball right through the middle.
Do you
a) let it go
b) bunt it and try to get to 1st base
c) flex your muscles, lick you lips, swing hard and try to hit it to the sun
People who chose a and b, don’t hesitate and just buy index funds. C choosers, you know pitches like this don’t come very often. If it does come, are you going to diversify by putting a small portion of the your capital into it and then go searching for 30 identical pitches just to reduce the chance of getting out?
The Key to Diversifying..
is to not diversify. If you are confident in your analysis, you tend not worry about price fluctuations. If it goes down, it is just a greater opportunity to buy more of a great business at a great price. Diversifying is for the conventional safety seekers and followers of Wall Street. Wall Street claims holding less stocks is risky, but the results of Buffett and the Super-Investors prove otherwise. At most times, more than 70% of Buffett’s capital was invested into 4-5 companies. He knew he could hit that fastball and did it. Are you scared to swing at your fastball?
“Diversification is a protection against ignorance. It makes very little sense for those who know what they’re doing.”
February 6th, 2008 at 7:34 am
yea i sort of agree with you. but it’s not to draw a line and saying that a diversification is white or black. depending on the nature (ability,knowledge,degree of patience, investment objectives etc) of investors, some will be better off by diversification and others will be successful in their investments by focusing on a few great stocks like Warren Buffett.
February 6th, 2008 at 11:34 pm
yea i sort of agree with you. but it’s not to draw a line and saying that a diversification is white or black. depending on the nature (ability,knowledge,degree of patience, investment objectives etc) of investors, some will be better off by diversification and others will be successful in their investments by focusing on a few great stocks like Warren Buffett.
February 7th, 2008 at 12:06 am
Great point. There is always a grey and lots of people will fit in that category as well.
February 7th, 2008 at 8:06 am
Great point. There is always a grey and lots of people will fit in that category as well.
February 10th, 2008 at 4:32 am
I am in complete agreement here, my portfolio is concentrated in 6 stocks. When one of those stocks drops to a price I deem undervalued I add what money I have to buy more stock usually from dividends!!!
February 10th, 2008 at 12:32 pm
I am in complete agreement here, my portfolio is concentrated in 6 stocks. When one of those stocks drops to a price I deem undervalued I add what money I have to buy more stock usually from dividends!!!
February 10th, 2008 at 1:05 pm
I too only usually have 5-6 investments. It allows me to get to know the company in more detail as well as keeping up with what’s going on in the company.
February 10th, 2008 at 9:05 pm
I too only usually have 5-6 investments. It allows me to get to know the company in more detail as well as keeping up with what’s going on in the company.