Welcome to another issue of Investors Ask where I post my answers to interesting questions from readers or members of the investment communities I engage in.
At the risk of beating a dead horse, I feature yet another question related to position sizing, but it’s an interesting subject, there’s many questions about it, and it may very well be the most important factor to achieve outperformance. But I digress.
The Question
I’m trying to figure out what the minimum percentage a position should be in my portfolio.
I was doing some math, and came to the realization that to impact my portfolio by 1%
a 1% position would need to go up 100%
a 2% position would have to go up 50%,
a 3% position would have to go up 33%,
etc.
A 7% position would only have to go up around ~15% in order to impact my portfolio by 1%. ~15% is realistic, and it’s what I aim for when I pick a stock.
With this math in mind, should I never aim to have a stock be less than 7% of my portfolio? What minimum position percentage would you recommend?
Let me start off by saying that I am not a fan of minimum position sizes because
it needlessly excludes some opportunities, and
it can lead to lazy decision-making
where position sizing is not a function of the risk and reward of a given investment, but rather a mechanical decision.
So the minimum position percentage I would recommend is 0%. Let me explain why.
Small Positions, Big returns
As I discussed in the previous issue of Investors Ask, some opportunities are too risky to warrant a large position, but have such big potential upside that they can have a material impact on portfolio returns.
Of course, such positions must still be favorable bets.
I do believe this investor is thinking along the right lines, however. Monitoring and managing positions takes time that could be spent doing more research or simply enjoying life, so, all else being equal, you want to have as few positions as possible. However, for risk management purposes, it’s usually not ideal to have a single stock.
So what do you do?
Rather than focusing on minimum position sizes, it’s better to focus on the maximum amount of stocks that you can follow. At least when investing purely for financial gain. And that number depends on
how skilled you are at equity research,
how much time you can commit to investing, and
how difficult the companies you follow are to analyze.
At one extreme, you have neither the skill nor the time to research stocks, so you simply index invest. At the other extreme, you are able to manage hundreds of positions like Peter Lynch. But what that number is for you, no one else can tell.
That’s my thoughts on the topic!
If you have a question you’d like me to cover, leave a comment below, and it might be featured in the next issue of Investors Ask.
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