There is a lot of confusion out there on the topic of diversification when it comes to growth investing. The common theme is that when investing for growth, concentration is good but not diversification. While concentration is important diversification is also just as important.
In this post, I’ll go over how one can think about diversification and concentration from the growth investing perspective to limit the downside and maintain high growth.
Disclaimer: None of what I’m talking about should be considered financial advice. It is for entertainment and educational purpose only.
Diversification Is Good
It is commonly known that diversification is good to limit your downside and helps preserve your wealth. The issue is diversification is also tied to stagnation. However, this is not always the case. It comes down to how diversified you are. With the right balance, you can maintain high growth and yet limit your risk.
Invest In Different Stories
When you’re diversifying for growth investing, you should invest in different stories. A story in this case is like a big macro trend. At any one time, there can be multiple stories. Some will be larger than others. Which stories to invest in is completely up to you as it is a balance between risk and reward. Choose the ones that you feel the most comfortable with and have the most conviction in.
Concentration in Each Story
Within each macro trend (story) is when concentration comes in. Having dozens of companies that is part of the same macro trend for the sake of diversification doesn’t help. It can actually drag you down in this case. Remember when you’re investing for growth, it tends to be new industries with many unproven companies. To limit your risk and increase your chance of success, you want to invest in the top players in the new industry.
Since the industry is new that means your upside is asymmetric already. While going with unproven companies can give you an even higher return the risk goes up exponentially. When you invest in the top players with a proven record the upside will still be large and your risk is much lower.
Diversification and concentration are powerful tools that can limit your downside and increase your upside when you find the proper balance. Too often diversification and concentration are seen as black and white and that shouldn’t be the case. Concentrate on the winners in multiple stories to limit your risk and keep the high upside. Don’t keep all your eggs in one basket as the saying goes.
I hope this post was helpful to you. If you found this post helpful, share it with others so they can benefit too.
If you’re new to investing and need a guideline to help you start your investment journey you can check out my post on setting yourself up for financial success. I also have a post about beginner mistakes to avoid in the stock market.
To get in touch, follow me on Twitter, leave a comment, or send me an email at steven@brightdevelopers.com.