From all the kinds of literature and articles I have gone through in the last few years, I failed to figure out a clear-cut guideline on this topic. One school of thought suggests having a highly concentrated portfolio which includes around 4-6 stocks. They invest with a very optimistic and aggressive mind. Their point is, we should consider investing as a business itself and to run a business, you need to know inside out of the business. After the management, you should be the person who knows the company best.
Another school of thought suggests having equal to or more than 20-25 stocks. They are very conservative and defensive investors. They prefer to spread all the risk in different stocks. Even if few go down, as the portfolio is well-diversified, others will take care of your portfolio.
Let’s get to the point
For me, striking a balance between these two is the right strategy. Ultimately investing in equity without understanding the business and the industry the company is in is like learning to drive in the middle of heavy traffic. Also, continuously keeping a track of more than 20-25 stocks is a herculean task.
Now see what Warren Buffet has to say
If we owned stock in a company, in an industry, and there are eight other companies that are in the same industry. I want to be on the mailing list for the reports for the other eight because I can’t understand how my company is doing unless I understand what the other eight are doing. I can’t be an intelligent owner of a business unless I know what all the other businesses in that industry are doing. – Warren Buffet
Investing in a company without understanding the industry and what the competitors are doing is as foolish as scratching one’s head with a firebrand. You need to analyze the competitors with the same energy and effort you have taken to understand the company you have invested in. Just for a rough calculation, if you have invested in 25 stocks and on an average, there are 6 competitors for each stock, you need to analyze 150 stocks. If you have to analyze 150 stocks every year, that itself shows how impractical it would be for a retail investor.
Being a retail investor, possibilities of meeting the promoters to have a chat over a coffee in his office and visiting one of the manufacturing unit and the promoter briefing me the details is something that I can happily daydream about. Due to the same reason, a portfolio of just 4 to 6 stocks is not a prudent idea, at least for me.
Ultimately when you invest in a business you should think and act like owning that business. When you own a business and if you have appointed the top management, don’t you follow-up on how they manage your business. Won’t you keep a watch on what your competitors are doing? And to do so, just think on the time you need to spare.
Investing is all about making money work for you. Each and every day if you have to analyze companies one after the other, then, I don’t think it will serve the purpose. My view is to invest in only that many numbers of companies where I can analyze both the company I have invested in and their competitors. It all boils down to the time you can keep aside reading and analyzing the company and the industry. A full-time investor can afford to have more stocks in his portfolio. But for others who are engaged in some other active work, the number will be different. Having a well-diversified portfolio or a concentrated portfolio is never going to help you out if you are not able to give enough time to your company.