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Do NOT put all your eggs in one basket (Part 2)

A couple weeks ago, we all got to see "sc2006" on the Top 10 list every day.  I admit, I was jealous.

Today, no more.  His portfolio has collapsed into a mockery of being worth only $2,369 (starting with $100,000).  At first, he picked Freddie Mac (FRE) and got his ass handed back to him.  Then, he picked Washington Mutual (WM), and this time, got his head served on a platter.

I am reminded once again of the quote on the first page of “Security Analysis” from Horace's “Ars Poetica”: "Many shall be restored that now are fallen and many shall fall that now are in honor.'"

The same will be had by similar portfolios here which follow the same idea of "put all your money in your best idea".  To me, this is a retarded way of investing.  For the others, it's not a question of "if" they collapse, but rather, "when" they collapse.

For the answer, we look to the Buffett Partnership Letter of January 20, 1966.  The key points:
- Do not own more than 100 stocks (I believe Fisher came along later and said, "No more than 20 stocks").
- Do not put more than 40% into 1 stock (this is where "sc2006" failed)
- We probably have had only 5 or 6 situations in our nine-year history where we had over 25% invested in one security.

I cannot stress this enough for those who think they can game the market with their best idea all the time.

Diversify.

- Vooch

P.S.  If you are a master, you will own no more than 6-7 stocks personally, imo.  Unfortunately, I am not there yet.

By Vooch at 2008-09-27 15:41 | Stocks | Vooch's blog


Re: 40%

How dare you mock me when i'm down :-)

Vooch, you are right 100%. hopefully people can learn from my example.
Unfortunately i followed David Dreman's pickings like sheep & w/o following the 40% rule. Actually the most important lesson for me is that even the experts can be wrong. I read this weekend that so many AAA rated securites have defaulted. There is no way of knowing these things for a layman investor. The balance sheets dont reflect this.
By sc2006 at Mon, 2008-09-29 10:58 | login or register to post comments

>  Actually the most

>  Actually the most important lesson for me is that even
>  the experts can be wrong.
>  I read this weekend that so many AAA rated securites
>  have defaulted. There is no way of knowing these things
>  for a layman investor. The balance sheets dont reflect this.

Yeah, I've gotten burned on my fair share of financials.

A lot of experts were caught with their pants down this time:  Bill Nygren, Bill Miller, David Dreman, Richard Pzena, etc.

It sucks when the balance sheet does not reflect reality.  I own GE and I wonder if they're still AAA-rated.

With diversification, it's important to not only diversify among holdings, but it's also important to diversify among sectors.  I see too many people here with 100% in commodities.  If one wants to bet heavy on commodities, bet 40%.

- Vooch
By Vooch at Mon, 2008-09-29 12:15 | login or register to post comments