Just by looking at the title, Long Tail or Focused, you might have guessed it that it is about managing a stock investment portfolio. Arguably, portfolio management is both the most important and the least discussed topic in investing. 

However, I want to start a little differently today.

Look at this meme.

This meme is both funny and ironic at the same time.

I will leave the funny part for your imagination as I am sure you see the humor.

I’d rather expand on the irony.

And the irony is simple. You always think of yourself as special and others as ordinary.

Maybe, not always. But there are times when you get into that zone where you consider yourself to be superior.  

And the worst part. You often don’t realize when you are in that zone.

It is human nature. We all think we are great. or have at least one characteristic that makes us special or unique. All couples consider themselves special. So do athletes, sportsmen, celebrities, politicians, and the list is endless. 

We investors are no different. We fall for the same trap. Including yours truly. 🙂

As investors or fund managers, our foremost job is to manage our portfolio with a strategy that suits us. However, there is no one-size-fits-all. And definitely, no one style is superior.

Don’t worry! 

I am not going to give gyaan on Momentum vs Value Vs Technicals Vs Algorithmic. Internet is filled with an ocean of podcasts or essays on this subject.

Neither am I going to talk about concentration vs diversification. This topic is also covered by many great minds.

So this lesser mortal is sharing his naive thoughts on a far more nuanced concept. 

And that is Long Tail Vs Focussed. 

Let’s see if I can keep you interested till the end.

First things first.

People often confuse long tail with diversified and focussed with concentrated.

So let me start with busting that myth.

Suppose, Sharma ji invests 100% of his investible money in a 10-stock portfolio. It is a concentrated portfolio. And yes, you are right, it is also focused.

Now if Kohli ji invests the same in a 25-stock portfolio, it is a reasonably diversified portfolio. However, it is still focussed. If you have doubts bear with me for a while.

Now, Pant ji invests 90% of his sum in a 10-stock portfolio, and the remaining 10% in a scattered manner in 10-20 stocks with each stock having an allocation between 0.25% and 1% of the total sum. So Pant ji has a concentrated portfolio but with a long tail.

And finally, Pandya ji invests 70% of his sum in a 25-stock portfolio, and the remaining 30% in a scattered manner in 30-40 stocks with each stock having an allocation between 0.25% and 1% of the total sum. So Pandya ji has a diversified portfolio and also has a long tail.

Let me put it in a tabular form below to make it more clear.

So, whether you have a concentrated portfolio or a diversified portfolio,  you have to ask yourself another question. 

And that question is whether you want a focused portfolio or a portfolio with a long tail. 

Before letting your biases come in the way of choosing one over another, let’s peel a few layers to know the pros and cons of both strategies.

Let’s start with the focused strategy.

A focused investor is a much more confident investor. He is sure of his abilities. And he wants to put his money only on ideas where in his assessment probability of success is pretty high. He doesn’t want to dilute his portfolio with half-baked uncertain ideas. He knows that those half-baked ideas would have a very low allocation in the portfolio. Hence, that won’t move the needle.

He knows that a 10x on 2% allocation is just 20% returns at a portfolio level. In contrast, a 10x on 10%  allocation is a 100%  return on the portfolio level. 

But you may say now that he may miss on a few multi-bagger opportunities of 50-100x just because he never invests in ideas where the uncertainty about the future is large. As he cannot put a sizeable allocation, he refrains from investing unless he gets more hang on the business. In doing so a large part of returns are already behind you. You may still end up with a 10x. Which is great. But not as great as 50-100x.

At this juncture, I am reminded of this passage from the book

This is from Mr. Pulak Prasad’s book, What I Learned About Investing From Darwin, which is a detailed account of Nalanda’s philosophy.

Here Mr. Prasad talks about two types of errors. I am sharing my short interpretation below

Type 1 error-  You made the error in selecting a company. You thought it was a great idea, but you were wrong.

Type 2 error- You made the error of missing out on buying a wonderful company. You missed a multi-bagger because you were focused on something else.

You cannot avoid both errors. At best you can avoid one. And when you optimize on minimizing one error, you are more prone to commit the other.

So it is not a bug but a feature. 

Focused investors will optimize on reducing type 1 error, and hence they will end up committing type-2 errors from time to time. And they should be fine with this.

Remember, focused investors have more confidence in their abilities. Hence, they want to put less emphasis on serendipity or luck. 

It’s not that they do not believe in luck. We all know the importance of luck. But they do not want to put their portfolio performance depend upon luck. So, they will avoid taking tiny positions in many businesses because doing that means losing control over your portfolio performance.

I invited Rohith Potti, a dear friend of mine, on our MissioN SMILE investing podcast to learn from his journey and experiences in investing. I think that he falls under the concentrated and the focused category, however, he refuses to give himself a label. You may immediately jump to the 25th minute of the session here to get his views on this aspect. If you can spare 2 hours on the full video, I am sure, you will thank me later. 🙂

Masterclass on “The Evolution of a Bright Investor” Ft. Rohith Potti | Smart Sync Services

Now that we have covered the focused portfolio bit, let us look at the one with a long tail.

Long Tail is just the opposite of Focused.

Here, you optimize for reducing type 2 errors. Hence, you are prone to committing type 1 errors from time to time.  

The good part about this strategy is that you are exploring a lot of unknown, uncertain opportunities. And you are making tiny incremental bets. As the story unfolds, you keep reviewing your initial bets. Some get kicked out of the portfolio because of underperformance in the business, and in some of them, you start allocating more as you gain more confidence.

I invited Mr. Ayush Mittal on my podcast sometime back. Mr. Ayush needs no introduction in India. He along with his brother, Mr. Pratyush, started screener. I have not come across any Indian investor who doesn’t use screener.  Ayush is an investor who has a Long Tail in his portfolio. And it has worked for him well. In fact, in the course of our discussion here, he candidly accepts that there have been multiple occasions in his journey where he made a lot of money in businesses where he did not do much analysis. On the other hand, there have been multiple occasions where he did a lot of analysis and was very convinced about his work, and yet the stock did not do well. So he gives due respect to serendipity and wishes to position his portfolio to gain from it.

Surviving & Thriving in the Smallcap Space ft. Ayush Mittal | Smart Sync Services #screener

So, now you can understand how a Long Tail portfolio is different from a focused portfolio.

But do not try to make the mistake of thinking one is superior to another. 

I repeat:  there is no one-size-fits-all. And definitely, no one style is superior

I just wish to give you a perspective. Both strategies are good and both optimize for minimizing one type of error. Hence, both are vulnerable to committing another type of error. Pick one that suits your thinking.

Stock ideas get all the eyeballs, but if you ask me, I think, without a sound portfolio management strategy, you will not be able to make the best out of your stock ideas.

Investing and portfolio management is a long journey.

And the best of journeys are those that take you home.

So, where is your home? 

Long Tail or Focused?🙂

Thanks for reading.