Portfolio management
For an investor with sound judgement and business knowledge, excessive diversification can undermine the coherence of the strategy. Various studies suggest that a portfolio of around 15 companies already reaches a level of unsystematic risk similar to the market; beyond 20 holdings, the additional reduction in risk is marginal. What does increase, however, is the complexity of monitoring and the potential dilution of return potential.
Warren Buffett put it this way: “Diversification is protection against ignorance. It makes very little sense for those who know what they’re doing.” If you know the companies you invest in well, concentrating the portfolio in a limited number of high-quality ideas can be more coherent than spreading it across dozens of names. Moreover, the number of truly exceptional companies is limited; it is not realistic to aim to hold fifty in your portfolio.
The key is not “buy and forget” (buy & hold), but buy and follow: maintaining active monitoring of each position and of the investment thesis.
Risk
It is useful to distinguish:
- Systematic risk: volatility that affects the market as a whole (for example, an index such as the S&P 500).
- Unsystematic (specific) risk: volatility linked to a particular company.
The risk of an investment is not determined solely by the number of positions in the portfolio, but above all by the fundamentals of the business. Reducing the portfolio to a limited number of companies does not necessarily mean taking on more risk if they are solid companies acquired at reasonable prices. Ultimately, risk lies in the quality of the business and the price paid.
To explore the topic of portfolio size and diversification further, you can consult, for example: Ensemble Capital – Position Sizing.
Portfolio pillars
The portfolio should rest mainly on pillar companies: world-class companies with clear, durable competitive advantages (moats), in which you can have a high degree of confidence that they will still exist and create value in 10, 15 or 20 years. They are companies whose business model and competitive position justify an intention to hold for the very long term.
There are no more than a few dozen such pillars in the world (and no new ones appear in the short term). A reasonable core portfolio can be built around 8–10 pillars. Once bought at an appropriate price, the idea is to hold them almost permanently unless the fundamentals change.
Building that portfolio is not a matter of a week or a month; it can take years.
As with buying a home: the pace depends on the capital available and the pricing opportunities the market offers.
Take the time you need to research thoroughly any company you plan to invest in for the next ten years. Remember that in the markets, the train usually comes by more than once.
Liquidity in the portfolio
Keeping part of your wealth in cash has advantages and drawbacks:
| Advantages | Drawbacks | |
|---|---|---|
| Crisis / high volatility | It allows you to stay calm and, above all, to take advantage of buying opportunities when assets are “on sale”. | — |
| Expansion / bull markets | — | Idle cash generates no return. Worse still, inflation acts as a silent enemy that erodes your purchasing power day after day. In this scenario, the opportunity cost of not being invested can be high. |
The optimal proportion of liquidity depends mainly on market valuation and your profile:
- Very cheap market: 0% liquidity or prudent use of leverage.
- Normal market: ~10%.
- Expensive market: 20–30%.
Life cycle of a position
Managing a position can be summarised in three phases:
- Buy management
- Hold management
- Sell management
A basic rule: reviewing multiples and the market valuation context helps you decide when to buy, hold or reduce/sell. Knowing the historical average valuation of the sector and the market is a useful reference.
Buy management
It is difficult to succeed in investing without conviction. However, full conviction on the first purchase is rarely realistic. The usual approach is to start with an initial position and add to it over time, as knowledge and confidence grow — just as in a relationship, where it is actions that build trust.
In many cases, it is better to pay a reasonable price for a company you trust than to buy something that looks cheap but in which you do not really believe. Quality and understanding of the business usually outweigh a few percentage points of difference in price.
For this reason, it is usually not prudent to open a position with 100% of the capital planned for that idea. It is difficult to get the timing exactly right, and leaving room allows you to manage uncertainty better.
As a general guide:
- High initial conviction: start with roughly 50–70% of the target position.
- Medium conviction: 30–50%.
- Interesting idea but with more uncertainty: 15–30%.
Hold management
Every day you hold a position you are implicitly making the decision to keep it. Doing nothing is also a decision. So “hold” is not passivity, but an active choice that must be supported by the investment thesis.
It is advisable to review each position periodically — for example, every quarter or every six months — and to follow closely the results, relevant news and the evolution of competitors. This is one of the reasons why it makes no sense to accumulate an excessive number of companies: the more spread you are, the less depth of analysis and the greater the risk of missing key information.
It is also important to respect position limits, especially in the early stages as an investor. Concentration without experience can turn into unnecessary overexposure. Discipline in building and sizing positions is as relevant as the selection of the companies themselves.
Sell management
In general terms, the reason for selling should be consistent with the reason for buying. If you bought with a long horizon in mind but the price already reaches your estimate for 3–4 years ahead, it may be reasonable to consider reducing part of the position.
Some guiding criteria:
| Situation | Possible action |
|---|---|
| Grounds for concern about irregularities or corporate governance issues | Full exit; trust is hard to restore. |
| Permanent deterioration of fundamentals | Reassess the thesis and, if it is invalidated, exit completely. |
| Margin of safety reduced but thesis intact | Not necessarily sell; review valuation and expectations. |
| Price around estimated intrinsic value | Consider a partial reduction (e.g. 40–60%). |
| Price clearly well above intrinsic value | Consider a significant or full exit, depending on alternatives available. |
Do not anchor to the purchase price. Admitting a mistake in good time is usually better than holding a position that no longer fits your thesis and risking larger losses.
Portfolio valuation
Once you have calculated the valuation of the companies in the portfolio, you can aggregate metrics at portfolio level:
- Portfolio P/E
- Portfolio FCF yield
- Portfolio ROIC
- Margin of safety
- Upside potential
Compare these metrics with market averages. In general, your portfolio’s valuation should take precedence; but if the market is clearly expensive, it may be sensible to reduce exposure to ideas with lower potential and/or higher risk.