Implement a Focused Strategy

Publicly traded stock markets are an incredible phenomenon. It is truly an amazing feat if you consider that in seconds, legal ownership of businesses can change hands all around the world. Compare this to the past. If you wanted to own a business or invest in one, you had to find the opportunity, negotiate a price, write up the contract, and then operate the business/partnership. Today, if you want to invest in a restaurant, you can buy stock of Chipotle or McDonalds in seconds and you are now an owner. You will receive quarterly and yearly updates on the financials.

Now take that concept further. If you were to buy a restaurant, what would you do? You would probably spend weeks, months, or even years preparing. You would research the best locations, the best menu, and the best concept. You would study other restaurants and see which is most profitable and which had the best chance to grow. You would narrow it down to the best option. If done correctly and you invested heavily in that restaurant (and yes, that is a big IF), you would have a very satisfactory return on your investment.

If you could invest $100,000 in the best restaurant and at a decent price, would it make any sense to instead invest $100 in 1000 restaurants without doing any research? Would taking money away from the best investment to buy mediocre businesses regardless of price just to diversify make sense? Does this diversification eliminate risk?  I don’t think so. But don’t just take my word for it. Warren Buffet, Charlie Munger, Ray Dalio, and many of the other BEST money managers in the world not only say this, but they practice it as well. You can see that they do not overly diversify, rather they concentrate most of their wealth in their BEST ideas. 

If we find a great investment at a great price, it will do us no good to only put 1% of our wealth into it. Great investments are hard to find. When you do find them, you need to invest a significant amount of cash so that you can benefit proportionally. 

So, if diversification does not safeguard our investments, why are we taught that? Simply put, professional money managers push diversification because they get paid to push diversification. Many can only sell services that offer a diversified fund or investment option, so that is what they say is the most beneficial. Investing can be very trying on an individual’s psychology. Even though we hope our investments go up consistently every year, they don’t. Stocks can be volatile. Look at the stock history of some of the greatest investments of all time like Amazon or Google. The stock price fluctuated wildly throughout the entire period. This volatility has been made synonymous with risk, and this is not true. But because individuals for the most part do not like volatility, financial institutions found a way to create stock portfolios more stable, and that is with massive diversification. While this does eliminate volatility, it also eliminates the ability to have outsized gains and the ability to beat the market. 

On the subject of beating the market, I’ll leave you with one last point. Beating the market is a goal for any investor that actively manages their investments. To beat the market, you must be different from the market. And the only thing that you can do differently is to eliminate the loser companies and add more money to the winner companies, or simply put, concentrate your portfolio.