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Every so often somebody asks me to have a look at their portfolio and make recommendations about what they own and give a critique on how the portfolio is structured. I always decline.
I’m not certified to give individual portfolio advice and – even more importantly – a portfolio forms part of a broader scenario in which one also has to take into account the following: the investor’s age, other retirement products, medical aid, insurance and so on. Sure, a portfolio is important, but it is just one part of a bigger picture.
But, if I were to look at your portfolio, this is what I would be looking for:
1. How many companies do you hold?
I have seen portfolios with 100 shares and that is far too many, by about 80 shares. Sure, we want to diversify our holdings, but if we go too diverse with our selection, we end up with nothing. A far better option would then be to buy an exchange-traded fund (ETF) that gives instant cheap and easy diversification. Further, the ETF will manage itself, deleting and adding shares and changing weightings as things change within the benchmark.
On the opposite side of the coin is a portfolio with only a few shares in it, resulting in over-concentration in just a few positions. The ideal is a small selection of 10 to 12 stocks, with a maximum of 20. They must be great companies of excellent quality, extending across a diverse range of sectors and with earnings across a range of geographies and currencies.
2. Get rid of those dogs
I have written about this before – that nasty, tiny little share you own because you hope one day it’ll rocket to the moon and make you fabulously rich. It won’t. All it’ll ever do is make you sad every time you check your portfolio as it taunts you. Now, sure, one or maybe two small speculative stocks is fine. But first, only one or two out of 10 to 20 stocks – at a maximum – should be speculative.
In addition, such stocks may be small and speculative, but they should still have great promise of quality. Hope can’t be your only justification for holding them.
3. Consider your position sizes
You may have a nice diverse portfolio, but if 50% is all sitting in one stock, that’s a problem and you’ll need to correct this by adding to the lower weighted stocks and/or selling off some of the heavily weighted stock. The other side of this coin is a stock or two that have a tiny weighting, almost as if you don’t have any conviction about these shares but want to hold them anyway. Or maybe it is the result of an unbundling that gave you a small holding.
A portfolio of 10 to 20 stocks should have each stock at around 5% to 10% per stock. Sure, those levels will change as share prices move higher and lower and independently of one another. But that’s more or less the target: a largely equally weighted portfolio that may have some modest skewing to a few stocks.
4. What’s in there?
A last point is that I worry less about the actual shares I’m holding and focus more on the overall portfolio construction. Sure, I have my preferred stocks, but there are many ways to build a market-beating portfolio. So, for example, you may have Pick n Pay while I’ll hold Shoprite*, or maybe you hold several banks while I only have Capitec*. One of us will be right, or maybe we’ll both be right or both wrong.
The actual stocks you hold are important and that’s why you read this publication, but the issue is how the portfolio looks overall. If we get that aspect right, it goes a long way in helping us to manage risk and helps us in creating wealth.
*The writer owns shares in Shoprite and Capitec.
This article originally appeared in the 8 June edition of finweek. Buy and download the magazine here.
