Latest / Stock Picking with Fexingo: Individual Equities, Research, and Building a Concentrated Portfolio / The Art of the Concentrated Portfolio
Transcript
- Lucas: The S&P 500 closed today at 7,575. That's up about half a percent over the past five days. But look under the hood and the dispersion is wild — Meta up 11.5 percent in a single week, NVIDIA up nearly 8 percent, while Berkshire Hathaway dropped two and a half percent. Luna: So the index is masking some massive individual stock moves. That's actually a perfect setup for our topic today — concentrated portfolios. Lucas: Exactly. We've talked a lot about picking individual stocks on this show. But how many should you actually own? The academic answer is 'as many as possible to eliminate idiosyncratic risk.' The real-world answer for many great investors is 'far fewer than you think.' Luna: I want to start with a concrete example. There's a well-known value investor I follow — he runs a public fund — and at the end of 2025, his top six positions made up over 80 percent of the portfolio. Lucas: Right. And that fund has beaten the S&P 500 by something like 400 basis points annually over the last decade. So concentration isn't automatically reckless. The question is: when does it become smart versus when is it just gambling? Luna: Let's define concentrated. For me, it means holding fewer than 15 stocks, maybe even fewer than 10, where each position is sized at 5 percent or more of the portfolio. Lucas: That's a good working definition. And the key insight is that if you truly have an edge on a stock — you understand the business better than the market, you've modeled the cash flows, you've met management — then owning a 2 percent position is almost a waste of that edge. You need to size it to matter. Luna: But how do you know you actually have an edge? That's the hard part. Lucas: It's the hardest part. And I think that's where a lot of people go wrong. They confuse conviction with certainty. I like a framework from Michael Mauboussin at Morgan Stanley. He says your position size should be proportional to your edge divided by your risk. If you have a high edge and low risk, you can go big. If your edge is modest, even if conviction is high, you should keep the position smaller. Luna: So it's not just about being confident. It's about being calibrated. How do you assess your own edge? Lucas: One practical method: write down three specific reasons why this stock will outperform over the next three years. Then write down three reasons it could underperform. If you can't come up with three solid reasons on either side, you probably don't understand it well enough. If you can, then you can weigh them. Luna: I like that. And I'd add: check your track record. If you've picked ten stocks over the past five years and only two worked, maybe your edge is smaller than you think. But if you've consistently been right, maybe you do have an edge. Lucas: Exactly. And that brings us to the role of temperament. Holding a concentrated portfolio is emotionally brutal. When Meta drops 20 percent in a month — and it has done that before — can you hold? Or do you sell at the bottom? Luna: And that's where diversification provides real value. It's not just about risk reduction; it's about behavioral protection. If you own 50 stocks, you can ignore the volatility of any single one. If you own six, you feel every tick. Lucas: So the case for concentration is strongest when you have a genuine informational or analytical edge, a long time horizon, and the emotional fortitude to withstand drawdowns. If you lack any of those, you're better off with an index fund or a broadly diversified portfolio. Luna: Let's talk about position sizing within a concentrated portfolio. Say you decide to hold 10 stocks. How do you decide how much to put in each? Lucas: A common approach is equal weight — 10 percent each — and then let winners run. But that can quickly become unbalanced. Another approach is to size based on your confidence level. I've seen investors use a tiered system: tier one stocks get 15 to 20 percent, tier two get 8 to 12 percent, tier three get 4 to 6 percent. Luna: And then you have to have the discipline to rebalance. If a tier one stock doubles, it could become 30 percent of the portfolio. Do you trim it back? Lucas: That's the million-dollar question. Some say never trim a winner — let it run. Others say always trim back to original weight to control risk. I think the answer depends on whether your thesis has changed. If the stock is now priced for perfection and your margin of safety is gone, trim. If the business is even better than you thought, let it ride. Luna: So it's dynamic. It's not a set-it-and-forget-it strategy. Lucas: No, it's active. And that's why concentrated portfolios are really only suitable for people who are willing to put in the time to monitor their holdings continuously. If you're not doing that, you're better off with an ETF. Luna: Let's look at a recent example. Meta had a huge week — up 11.5 percent. If you had a concentrated portfolio with Meta as a top holding, you'd be feeling great. But suppose you also had Berkshire Hathaway, which was down 2.5 percent. The divergence is stark. Lucas: Right. And that's exactly the kind of volatility you sign up for. In a concentrated portfolio, your performance will diverge from the index significantly — sometimes for quarters on end. You have to be okay with that. Luna: There's another angle: when to go concentrated. Is it better to start concentrated or to build concentration over time? Lucas: I think most people should start diversified. As you gain experience and identify your best ideas, you can gradually concentrate. Legendary investor Phil Fisher once said he'd rather own a few great companies than many good ones. But he also spent years researching before he made his big bets. Luna: So the takeaway isn't 'go out and buy six stocks tomorrow.' It's 'if you have a genuine edge, don't be afraid to bet big — but only after you've done the work.' Lucas: Exactly. And speaking of doing the work — this podcast itself is a labor of love. We don't run ads, and that's intentional. We want the content to be clean and focused. A small group of listeners already supports us through buy me a coffee dot com slash fexingo, and that's what keeps the lights on. Luna: Yeah, it's a simple model. People who find value in the show chip in a few bucks a month, and it covers production costs. No pressure, but if you've gotten something out of our episodes, that's the way to help. Lucas: And it keeps us independent — we don't have to chase sponsors or tailor content to advertisers. We can talk about concentrated portfolios or anything else we think is genuinely useful. Luna: Alright, back to the portfolio. One last point: how do you know when concentration is failing? What's the red flag? Lucas: The biggest red flag is when you start making excuses for a stock that's broken its thesis. If a company misses earnings, loses market share, or management changes direction, and you still hold because you're 'convicted' — that's not conviction, that's stubbornness. Luna: So you need a sell discipline as much as a buy discipline. Lucas: Absolutely. In a concentrated portfolio, each position has to earn its keep. If it's not working, you have to be willing to cut it and redeploy into something better. That's harder than it sounds. Luna: I think the bottom line is: concentration is a tool, not a goal. Use it when you have an edge, but don't mistake confidence for competence. Lucas: Well said. And with the market at all-time highs but with huge dispersion, this is exactly the environment where concentrated portfolios can either shine or get crushed. The next few months will be telling.