Thoughts on portfolio allocation

With the recent addition of Origen Financial the number of companies in my public portfolio reached the magical number ten, and I thought It would be a good idea to talk a bit about my ideas on portfolio allocation.


The essence of my thinking is simple:

Don’t put all your eggs in one basket.

While I guess most readers would agree with this statement, it probably also means something different for everybody reading it. Some people think you should concentrate your money in your best idea’s and owning a half dozen companies is enough to not have all your eggs in one basket. Others might want ten times as many baskets.

I think both approaches can both be right and wrong. While it’s not irrelevant the number of companies you have doesn’t necessarily say how diversified you are. You can own a lot of different companies, but if they are all located in the same country your geographic exposure might be very concentrated. But just looking at where the company has headquarters is not enough: there is a big difference between a company that only serves the local market or one that has a global reach. If you buy an oil major it’s nearly irrelevant in what country it’s headquartered.

It also matters how big and risky the company is: a company that has just one niche market, be it local or global, is probably more vulnerable than a company with multiple divisions and countless different products. If market conditions for one product develop unfavorable it doesn’t have to be a huge problem for the big company while it can mean the end for a smaller company.

What this means in practise: I have a fair amount of micro-cap companies in my portfolio, and I don’t think these are suitable for large outsized bets and a super concentrated portfolio. Especially not since there is almost always something ugly in the story of cheap stocks. They might have a strong balance sheet, but they are almost never strong companies with a great competitive advantage. And if the business does deteriorate you never know how much good money management will throw after bad.

Another thing to look out for is that you don’t want too much companies that have their fortunes linked because of some underlying economic force that might not be directly obvious. Two companies can be active in total different industries; but if they are both small and highly leveraged they are probably both getting in trouble in a global liquidity crisis. Or maybe companies are linked because government spending is the biggest source of revenues, or maybe because they are both exporting to the same country.

Especially if you use screeners to find investments you might want to be careful that you don’t end up with a lot of similar companies. Past year value screens used to find a lot of Chinese RTO stocks, and I think you can guess what would have happened if you would have bought a bunch of those stocks.

I don’t think diversification means that you need to have exposure to everything. I don’t care if there is for example a specific industries that I have zero exposure to: as long as I have exposure to a sufficient number of different industries I’m happy.

Keeping cash

A lot of value investors believe that you need to keep a lot of cash so you can capitalize when the market offers great companies for bargain prices. I’am not doing this, because while it’s very nice to have cash when the market is dropping it certainly not a free option. If I’m finding companies that I expect will on average generate a >10% return I prefer to put my money in those than in cash that will generate a near zero return. If there is some truly great opportunity I can always sell some of my existing holdings.

And who knows how successful I’m going to be to buy those bargains. Maybe I’m going to buy too early or too late, in both cases reducing the value of the option. I’m not going to try to time the market. I guess I could end up with a lot of cash if there is simply nothing I want to buy, but that’s so far absolutely not the case.

Closing thoughts

There are a lot of subtleties and nuances with regards to portfolio allocation, and there are also some major subjects I haven’t talked about at all. What to think about different asset classes; should I own bonds? Or what about currency hedging? Going to leave that for another post, but hopefully I’ve given some insight in my thinking and strategy.

3 thoughts on “Thoughts on portfolio allocation

  1. kroeliewoelie

    This post doesn’t really clarify your position on diversification to me. It seems you even like to diversify your position on diversification. Exception is your statement on not holding cash. I can understand you don’t want to share everything on a website, but are you sure you have a well-defined position on this topic?

    Another question: Is your public portfolio of 10 stocks a significant part of your holdings? Or is just a sandbox environment in which you like to dabble and learn?

    1. Alpha Vulture

      I’m not sure how well I can define my position; it’s like poker, it depends in a lot of circumstances.

      The 10 stock in my public portfolio are a reasonable significant part of my holdings. Would have to count it; but maybe have ~20 positions in individual stocks, and a few big positions in index tracking ETF’s.


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