Understand the maximum percentage to allocate in a single investment – 06/01/2023 – From Grain to Grain

There are two major feelings that lead individuals to make inefficient investment decisions. Usually, when we make a mistake, we are dominated by one of these two. They encourage investors to concentrate their portfolios. One concentration may result in a large financial loss and the other may result in lost opportunities.

A question I get frequently is: what maximum percentage would it make sense to invest in a single asset or asset class?

There is no right answer as it depends on a number of factors, but I will discuss what you should avoid.

Some individuals, trying to replicate the success of big investors, concentrate all their savings in stocks. These are driven by the greed of winning and overlook the risks involved. Until they found out, belatedly, that they were wrong.

These act naively believing that they can repeat the same steps taken by those who were successful. I remember that my father repeated the following phrase: “a man does not cross a river twice. Either the man changes, or the river”.

I bet that even Warren Buffett and Luiz Barsi, if they went back in time, would not be able to repeat the feat that made them reach the level they are today. So don’t expect to be able to do the same.

Even for an aggressive investor, it is inefficient to have 100% of the resources in a single asset class, such as stocks, real estate funds or another. Don’t illustrate the few success stories to counter-argument.

However, I am not saying that at a certain more favorable moment, the aggressive investor cannot concentrate. In this case, you should reflect a lot if the moment is really favorable or if it is just your greed that is justifying itself.

Also, the conservator can make a similar mistake. However, your mistake does not have the potential for a financial loss, but a lost opportunity. They are driven by fear. They are afraid of everything and everyone.

Many concentrate everything in one place. Usually, in that investment that until now has not caused them to suffer disappointment. For example, some concentrate all their resources in savings, or in the Selic Treasury, or even in a single maturity of some government bond.

It is known, for example, that some private securities, guaranteed by the FGC, provide a superior return and behave as risk-free assets due to the guarantee.

Both extremes should be avoided as a permanent form of allocation.

Remember, poison kills by dose.

You can be a conservative investor and have a diversification in fixed income, distributing it in indexes, maturities and issuers. This will provide a better balance of return and risk in the long run.

The aggressive investor must also have fixed income to be able to rebalance the portfolio in times of market decline.

Also, it should have different risky assets to reduce portfolio volatility. Reinforcement, it is not because a sailor is good that it is interesting for him to walk in rough seas all the time.

In general, avoid a single asset, be it a bond or a fund, representing more than 10% of your portfolio on a permanent basis. However, a higher allocation is tolerable, but if it is in a low-risk fixed income fund, as it is already diversified.

The allocation must be aligned with your return objective and have a margin for the possibility that something goes wrong and you distance yourself from this objective.

Michael Viriato is an investment advisor and founding partner of Investor House.

Talk directly to me via email.

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