Portfolio Concentration | The Secret

Harder Than It Looks, Poorly Understood, Easy When You Know How

Are you a patient investor with a concentrated portfolio, or do you prefer broad diversification to capture everything?

Concentrated or Diversified? Let’s Settle the Debate

Someone recently asked me:

“Concentrated portfolio or diversification, which do you prefer?”

Great question! And one that deserves more than a quick answer - so here we are.

Over the years, my perspective on this has been shaped by some of the world’s most successful investors.

In this post, I’ll not only answer the question but also share key insights, powerful reasoning, and some jaw-dropping facts and figures that might just change how you think about investing.

By the end, you’ll have a much clearer sense of whether a concentrated portfolio is the right approach for you.

Let’s dive in!

Part I: The Perspective of Eminent Investors

Lou Simpson, handpicked by Warren Buffett to manage GEICO’s equity portfolio, delivered an incredible 20.3% compounded annual return over 25 years. His secret? He avoided excessive diversification.

As GEICO’s 1986 annual report revealed, Simpson believed in making big bets on a small number of exceptional companies

“Good investment ideas - that is, companies that meet our criteria - are difficult to find. When we think we have found one, we make a large commitment. The five largest holdings at Geico account for more than 50% of the stock portfolio.”

Lou Simpson

Buffett supported Simpson’s approach, explaining that if you have one great investment option that outshines 98% of everything else, you can confidently ignore the rest. Buffett emphasized:

“With this attitude, you get a concentrated portfolio, which we don’t mind.”

Investing isn’t just about picking good companies; it’s about finding the best place to put your money. Every dollar invested in Apple is a dollar not invested in Microsoft. A skilled investor weighs both options and makes a clear choice, while a less experienced one might spread his bets by putting $500 in each. Over-diversification is often signals a lack of competence rather than smart investing.

“Opportunities come infrequently. When it rains gold, put out the bucket, not the thimble. Diversification is protection against ignorance. It makes little sense if you know what you are doing.”

Warren Buffett

Charlie Munger framed investing through the lens of probabilistic thinking. In baseball, he would say, the best hitters wait for the perfect pitch. Similarly, to be successful, an investor must wait for clear, high-probability opportunities - and bet big when the odds are favourable, doing nothing the rest of the time.

He expressed astonishment that so few in investment management operate this way. According to Munger, most investors hold the misguided belief that working harder - constantly buying, selling, and rebalancing diversified portfolios - will lead to greater success.

“All there is to investing is picking good stocks at good times and staying with them as long as they remain good companies. Calling someone who trades actively in the market an investor is like calling someone who repeatedly engages in one-night stands a romantic. The stock market transfers money from the active to the patient.”

Warren Buffett

Standout companies tend to share certain characteristics - traits that make them resilient, dominant, and built to last for decades. The key is recognizing them early, investing with conviction, and largely ignoring everything else on the menu. This was the approach advocated by Philip Fisher, with his famous phrase, “Our favourite holding period is forever.”

Diversification does not lend itself to long duration holding periods. Investors with overly diverse portfolios often find themselves constantly tweaking, trading, and second-guessing - a sign of uncertainty, not expertise.

“Students of America go to these elite business schools and law schools and they learn corporate finance the way it’s now taught and investment management the way it’s now taught. And some of these people write articles in the newspaper and other places and they say, ‘Well, the whole secret of investment is diversification.’ That’s the mantra. They’ve got it exactly back-ass-ward. The whole secret of investment is to find places where it’s safe and wise to non-diversify. It’s just that simple. Diversification is for the know-nothing investor; it’s not for the professional.”

Charlie Munger

Even Peter Lynch, who managed the Fidelity Magellan Fund to an extraordinary 29% annual return from 1977 to 1990, cautioned against diversification for its own sake. He coined the term “diworsification” to describe the mistake of investing in second-rate opportunities just to spread risk.

“If you look at Berkshire Hathaway and all of its accumulated billions, the top ten insights account for most of it. Just think of it as a heavy odds against game full of craziness with an occasional mispriced something or other. You're probably not going to be smart enough to find thousands in a lifetime. And when you get a few, you really load up. It's just that simple.”

Of course, the challenge is no one knows in advance which companies will turn out to be the next Amazon, Apple, or Google. So, if concentration is the goal, what’s the best way to achieve it without taking unnecessary risks?

Let’s explore.

Part II: Achieving Concentration, Easier Said Than Done

In his 2022 shareholder letter, Warren Buffett took a refreshingly honest look back at his 58 years managing Berkshire Hathaway. His verdict? Not all that impressive - at least in his own words:

“Most of my capital-allocation decisions have been no better than so-so. In some cases, bad moves by me have been rescued by very large doses of luck… our satisfactory results have been the product of about a dozen truly good decisions.”

Even the Oracle of Omaha admits he can’t reliably predict which stocks will be the big winners. He’s picked investments, sure, but he hasn’t deliberately chosen which ones would dominate his portfolio - that happened all by itself.

“When you find a truly wonderful business, stick with it. Patience pays, and one wonderful business can offset the many mediocre decisions that are inevitable.”

Warren Buffett

For this strategy to work, discipline is key. Keeping your portfolio lean forces you to be highly selective. Buffett once told students at Columbia Business School:

“I could improve your ultimate financial welfare by giving you a ticket with only 20 slots in it—representing all the investments you could make in a lifetime. Once you’d punched through the card, you couldn’t make any more investments. Under those rules, you’d think very carefully about each decision, and you’d be forced to load up on what you truly believed in. You’d do so much better.”

Nick Sleep, one of the most successful investors of his generation, took this principle to the extreme. His Nomad Investment Partnership, which he co-managed from 2001 to 2014, returned a staggering 921% - a 20.8% compound annual growth rate. How? By focusing on just three companies: Costco, Amazon, and Berkshire Hathaway. Sleep often remarked that he never identified a fourth stock compelling enough to warrant reallocating capital from his three core holdings.

“It’s crazy to put some money in your twentieth choice rather than applying more money to your first choice… It was natural for me to think in terms of opportunity costs. So once I owned three securities - A, B, and C - I wasn’t going to buy any other security.”

Charlie Munger

The Survival of the Fittest Approach

A strict limit on holdings forces you to make tough choices.

“If we have a lot of money around, we are a little dumber than usual; it tends to make you careless. I would say that the best purchases are usually made when you have to sell something to raise money to get them, because it just raises the bar a little bit that you jump over in the mental decisions.”

Warren Buffett

Every new investment must be worth replacing an existing one. This naturally raises your standards over time. Eventually, new opportunities struggle to clear the bar, leading to very little trading.

This approach ensures that:
✅ Weak investments get weeded out.
✅ Strong performers keep compounding.
✅ Your portfolio gets better and better over time.

If you’re lucky, one or two of your picks will turn out to be exceptional. Over the years, they’ll grow to become dominant positions in your portfolio - compounding does that!

If you are lucky maybe one or two of your holdings will prove exceptional and, over a long holding period, will grow to become dominant positions in your portfolio - compounding does that!

Let’s look at a real-world example. Back in 1997, the S&P 500 was averaging 873. Today, it's closer to 6,000. If you had simply parked your money in the index and let it ride, your investment would have grown 6.87x - meaning $10,000 back then would be worth $68,700 today. Not bad!

Now let’s consider a star performer like Amazon. It went public in 1997 at $18 per share. Since then, the stock has split four times, so one share bought at the IPO would have become 240 shares today, making the adjusted IPO price a laughably low $0.075 per share.

Fast forward to today, with Amazon's share price at averaging over $200 this year, your investment would have grown ~2,700x. To put it in perspective, a $10,000 investment in Amazon at IPO would now be worth a jaw-dropping $27 million.

Of course in 1997 you couldn’t have known Amazon would become the juggernaut it is today. But maybe you liked the idea and decided to give it a modest 3% slice of your portfolio, putting the other 97% into the S&P500 for the sake of good old-fashioned diversification. So you start with a portfolio of 501 companies (Amazon was not an S&P500 stock in 1997), with no single position being larger than 3%. Then, you did nothing for the next 28 years - no tinkering, no rebalancing, no trading.

Here’s the wild part: that tiny 3% Amazon allocation would have grown so much it would now make up 93.2% of your portfolio. Meanwhile, your investment in the S&P 500 would have shrunk to an almost irrelevant 6.8%. What started as a diverse portfolio would have become super concentrated with no effort on your part.

Moral of the story? For patient investors, portfolio concentration often takes care of itself. Sometimes, all you need to do is pick a few good bets and let time do its thing.

“The weeds wither away in significance as the flowers bloom. Over time, it takes just a few winners to work wonders.”

Warren Buffett

This is exactly how Buffett ended up with such a massive stake in Apple. Between 2016 and 2019, Berkshire Hathaway bought Apple shares for a total of $35 billion. By the end of 2023, that investment had ballooned to $175 billion, making up roughly 50% of Berkshire’s entire stock portfolio.

Again, this wasn’t by design - it was by default. The winners take care of themselves.

For long-term investors, the key isn’t constant buying and selling. It’s patience.
Pick a handful of great companies, hold onto them, deploy a survival of the fittest approach to managing a small number of positions and then let time work its magic.

That’s how real wealth is built and I hope it has sufficiently answered the question posed at the beginning of this post.