Today’s volatile markets have challenged the active approach to long-term investing, causing many professional money managers to huddle close to their benchmarks as they construct portfolios that look and act like the indexes. This is simple job preservation, but it demonstrates a lack of conviction — and without conviction, you might as well index. The only way to beat the market is to be different from the market. That means you need a high-conviction portfolio, positioned for long-term appreciation.
A white paper by RS Investments, “The Case for High-Conviction Investing,” claims that high-conviction active management can generate a reliable source of improved risk-adjusted returns across multiple market environments. As an individual investor, you are your own portfolio manager, so it makes sense to consider what works for professionals. After all, you have chosen to pick your own stocks rather than pile all your money into mutual funds and exchange-traded funds or hire a manager.
High-conviction investing follows a concentrated, low-turnover investment approach, which can help you evaluate portfolio companies and factors that influence their long-term performance. Besides being costly, investing in a large number of companies is more suited for those seeking to capture short-term gains.
High-conviction strategies are sometimes criticized for being inadequately diversified because of concentration. But portfolio risk, as measured by standard deviation, is often diminished with fewer holdings.
“Portfolio concentration may well decrease risk if it raises, as it should, both the intensity with which an investor thinks about a business and the comfort level he/she must feel with its economic characteristics,” Warren Buffett, CEO of Berkshire Hathaway, wrote in a 1993 letter to shareholders.
As an individual investor, you are concerned only with your own risk appetite, and a high-conviction approach may help you add value to your own portfolio. You do need not own specific companies based on index weightings. You can be selective and invest only in stocks that meet your investment criteria.
BetterInvesting is a national nonprofit organization that has been empowering individual investors since 1951. Founded in Detroit, the association (formerly known as National Association of Investors Corporation) was born out of the conviction that anyone can become a successful long-term investor by following commonsense investing practices. BetterInvesting has helped more than 5 million people become better, more informed investors by providing webinars, in-person events, easy-to-use online tools for analyzing stocks and mutual funds, a monthly magazine and a community of volunteers and like-minded investors. For more information about BetterInvesting, visit its website at http://www.betterinvesting.org/investing/landing/openhouse/blog/index.html or call toll free (877) 275-6242.