Never put your eggs all in one basket. You’ve heard it a thousand times before, and you’ll hear it a thousand more times.
This simple concept is touted as one of the most important rules an investor can adhere to — a necessary fail-safe against swift and permanent capital loss.
Most portfolio managers cater their holdings around this principle. They seek diversification to insulate themselves from wild, often-capricious market fluctuations.
But some have found success in taking the opposite approach. In fact, one portfolio manager has trounced the market while having nearly 80% of his capital in just four stocks.
“It’s very concentrated. So, I will typically have five or six stocks that represent 80, 90% of the capital,” Huber said on “The Meb Faber Show,” an investing podcast.
Huber knows that sounds outlandish. But challenging convention doesn’t faze him.
He continued: “When you do the math on it, it’s very difficult to have 20 ideas in a portfolio and expect to earn, let’s say, 15% a year.”
He’s not wrong. The more disparate the ideas in a portfolio are, the more difficult it is for the proverbial stars to align for outsize gains. And though diversification will make market downturns easier to stomach, it can also limit upside in a rallying market.
Huber’s performance appears to be working. The table below depicts his fund’s performance since 2014, a period when it’s beaten the S&P 500 by nearly 10 percentage points — or roughly double the benchmark’s return.
In addition to a highly concentrated portfolio, Huber also adopts a long-term, patient view to bolster returns. This gives him enough leeway to pick his spots, minimize trading activity, and avoid knee-jerk reactions.
“I’ve made a living off of being able to capitalize on certain stocks where there’s absolutely no informational advantage,” he said. “But you can capitalize on sentiment changes, or undue pessimism, or just extreme pessimism — and then selling when there’s much more optimism present.”
But this strategy doesn’t come without risk.
Huber built the table below to highlight the volatility of some of the most loved, mega-cap issues.
In only 52 weeks, the average, peak-to-valley percentage change for these behemoths is close to 45%. That level of volatility highlights the amount of fortitude necessary to ride out downturns when you hold only a few stocks.
To be clear, Huber’s approach isn’t unheard of. In fact, the world’s best-known investor, Warren Buffett, once said the following: “Diversification is a protection against ignorance. It makes little sense if you know what you are doing.”
Buffett’s subtext is clear: It doesn’t matter how many stocks an investor picks, so long as they’re the right ones. So if Huber’s approach seems easier said than done, that’s probably because it is.
He’s scouring fundamentals and making high-conviction picks — and he’s been largely correct. That’s a tall order for the average investor. And, for that reason, ordinary investors are probably better off playing it safe.