Questions

Hi Saul and friends,

I have a couple questions about the philosophy:

  1. What was your experience of narrowing down your holdings like? I am very interested in getting a tight portfolio, I think it’s cool. Right now I follow MF Pro plus a few. (30 stocks total). This is pretty good but I could focus it even more.

Was it weird to put bigger dollar amounts into fewer companies? How did you get comfortable with big positions?

  1. It’s fascinating that you are a go-go growth investor. Most retired guys are about the dividends and bonds and a lower goal-oriented / lower growth target portfolio. But you are really in it. What made you decide to go in that direction? Obviously you are successful with it. Did you ratchet up your aggressiveness or focus on growth companies over time, with experience? How did you come to the decision of 100% growth, all the way?

Karen

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Karen,

Many investors, myself included, feel that we need to have many stocks in our portfolios for at least one or both of these reasons:

  1. It reduces exposure to any single company, potentially achieves diversification, and helps with managing a desired risk-reward tradeoff
  2. When new recommendations come up, many feel that they need to invest in it and if they don’t they will miss the upside. This is seems to be a driving force for those investing in ‘rule breaker’ type companies, i.e., ones with crazy multiples, little earnings, and a lot of possible earnings in the future.

Saul, Chris, and a few others on the board have a smaller number of stocks in their portfolio. While it may appear to increase risks, I don’t think it does, because the companies they invest in have certain characteristics. They look for companies with solid and growing earnings. And at the same time, they are looking for companies selling at decent valuation metrics. with a small number of holdings, they are able to follow the news, and take nimble decisions. A majority of investments are in companies with earnings, and there’s little room for speculation. I think this is the crux of the approach, and to me it appears to be a very good portfolio management approach …

A week or so back, Chris had a wonderful post that nicely explained the basic philosophy behind holdings in his portfolio. I think the general thinking also applies to Saul’s investing approach. Have a look at Chris’ post:
http://discussion.fool.com/swks-is-it-too-late-to-buy-31666303.a…

I 'm sure you will receive more qualified explanations from the experts.

Anirban

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1. What was your experience of narrowing down your holdings like? I am very interested in getting a tight portfolio, I think it’s cool. Right now I follow MF Pro plus a few. (30 stocks total). This is pretty good but I could focus it even more.

Was it weird to put bigger dollar amounts into fewer companies? How did you get comfortable with big positions?

Hi Karen,

Good questions. In the Spring of 2013 I had 62 stocks in my portfolio. This is when I started on a focused effort to reduce the number of stocks that I own. Today, I have 19 stocks which I will share further down on this post. Why did I have so many stocks? There were several reasons which I don’t find valid for me anymore.

1) Unclear about the value of each of my positions When you don’t feel comfortable with assigning your own fair value for a stock then I becomes harder to sell. Conversely, you you are very confident in youyr skill in valuing companies then you will be confident in make your buy, sell, and do nothing decisions. For me the tendency is to do nothing when I feel that my understanding is not where it needs to be.

2) Don’t want to take a loss When a position is in the red, it is better to not to worry about take a loss. Sometimes people don’t want to take a loss. Other times people hold on to hope that the price will recover. Hope is not a good strategy. It is better to make decisions based on reality.

3) What if I sell and it goes up? This is one that probably gets a lot of people into holding stocks that shouldn’t be held. It’s really about avoiding that feeling of missing out. I will miss out if the stock goes up after I sell. This type of thinking can be really harmful to returns. Instead, what people should ask is which stock, Stock A (the one that I currently own) or Stock B (the one that I don’t own), will go up more. It’s really about the relative percentage increase. So don’t stay in a stock that you feel will go up less than other another stock (all other things being equal).

4) If I sell then I’ll need to pay taxes Saul does not have this issue because most of his money is in tax deferred accounts. Most of my money (95%) is in taxable accounts. So this one still keeps me from selling in some cases and holding might be ok given the circumstances. For example, I own CMG which is up almost 1200% in a taxable account. This means that I’d lose 25% of the value in to tax payments is I sell. The adjusted P/E is in the high $40s so I wouldn’t buy it at these prices. I think they can still expand their store count for a long time so I’m not selling unless I have some losses that I can realize to offset the gain.

5) Lack of confidence and conviction If someone doesn’t know how to value companies and they lack confidence in their own abilities then they probably largely rely on the market price and the movement of market price to make sell decisions. The cure to this is to learn and do all your homework once you have learned. The more comfortable you are n your own abilities, the more certain you will feel about your decisions.

6) Need to be diversified It is important to be diversified. Being concentrated in one stock can be disastrous if something happens to that company. What level of diversification is enough? Again, this probably depends on your own confidence level in your abilities and your level of understanding of the company, the market, the business, the competitors, etc. The more you know, the better but beware because knowing a lot can also give you a false sense of security. With each stock you add, you are gaining diminishing returns of diversity. IMO, owning 15-20 companies is plenty. Right now I own 19 but the top 6 companies make up >60% of my portfolio. Also, be care not just to look at the number of companies as some companies are inherilently more risky than others. Factors such as valuation, balance sheet strength, company size, market position, market competitiveness, speed of innovation in the market, and many other factors influence the firm specific risk. Thus, the primary aim of diversification is to minimize firm specific risk to an acceptable level.

There are other dimensions of diversity that I look at that I believe Saul largely ignores. These include market cap size (don’t want to have only small caps) and industry (don’t want to have all my companies in the same industry. More recently, I’ve even looked at the location of the company headquarters. I live in San Francisco and own real estate here. I think about risk of an major earthquake or a terrorist attack; the risk is small but I wouldn’t want such an even to be able to wipe out 90% of my net worth. I found that about 60% of my net worth is either real estate plus companies that are headquartered in the SF Bay Area; I wouldn’t want to go any higher.

So here’s my portfolio as it stands today which is up about 19.6% TYD:


SWKS	14.4%
SKX	12.0%
BOFI	10.5%
UBNT	9.5%
CELG	7.7%
cash	6.9%
MELI	6.1%
SYNA	5.8%
BWLD	4.5%
PRAA	4.3%
AIOCF	3.9%
AMBA	3.6%
CMG	3.2%
XPO	2.9%
PSIX	1.8%
CTRP	1.5%
CBI	1.1%
EPAM	0.9%
PFIE	0.6%
SCTY	0.5%

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Nice post Chris…

I guess great minds think alike…you ans Saul share a lot of overlap, especially in your top holdings…

you and Saul share a lot of overlap, especially in your top holdings

Hi Darrell,

Yes, we share about 60% overlap. The top 2 (SWKS and SKX) I found because of Saul so it’s not a coincidence that we both own them. I believe that these two companies offer the best value (of all my positions) relative to their historical growth and what I think (and what management says) the future growth will be. This is why they make up more than 25% of my portfolio. I should add that I also own SWKS Jan17 $95 calls and SKX Jan17 $65 calls and am short several SWKS put positions (May $85 and Aug $100) and one SKX put position (Aug $85). I have been selling the weekly SWKS puts all the way from the high $70 to the current price. These options trades have contributed to my YTD return being higher than the composition of my portfolio might suggest.

I plan on reducing my UBNT position to about 7%. I have been selling covered calls for 2 months and I could lose a bunch of shares tomorrow (strike price is $31 so it will be close).

I’ve owned both CELG and BOFI before I met Saul in the Fall of 2013. I’m not at all contemplating trimming CELG. I may decide to trim BOFI if it grows much higher than 10%.

Saul doesn’t invest in Latin America so he doesn’t own MELI. This company is growing its business so fast that I plan on holding despite the currency headwinds and country specific risks; I believe that the currency will someday reverse itself although this could be many years. I’m not that concerned about the company being headquartered in Argentina. Management has so far demonstrated itself to be honest and forthright; they also issue hardly any stock compensation. The founder and CEO graduated from Stanford business school (MBA) which gives me some additional comfort.

Other notable stocks:

XPO: I like this one but I want to see profits start and rise. I’d like to get this position to 4-5%. I am short the Aug $45 puts for which I received $7.50 in premium.

PSIX: I would like to have about 4% of this one. I am excited about the growth prospects but am unwilling to pay more than $52 per share.

SCTY: I just bought today after discussing it with an energy analyst friend of mine who as it as his top energy holding. I bought it so I would be forced to research it myself. I think that unraveling their future revenue streams from their leased install base will be challenging to say the least.

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Hi Karen, Great questions. To start with. please, please, PLEASE, read the FAQ KNOWLEDGEBASE, which is a compendium of great posts, all organized.

As to why I have “so few” stocks (currently about 18), that sounds like a reasonable number to me. I know some people, especially following the MF Mantra, have 50, 100, or even 200. I feel they have just a big index, and are hoping, by judicious picking, to do just a little better than the S&P 500 (mostly they’d be happy with just 2-3% better) and call it a victory. My goal is to average about 30% gain per year compounded (which I have succeeded at for the most part), and I can’t do that with 200 stocks. Even if my best picks do very well the overall results would be damped down by the other 190 stocks.

Secondly, if you have 200 stocks, you have no idea what is going on with most of them. You can’t read all the quarterly earnings and conference calls on 200 stocks, neither can you graph them, or even remember what lots of them do. Or even remember what names all the the symbols stands for.

Look, at the beginning of the year, the S&P 500 was at 2058. Now it’s at 2089, up 1.5%. I am up, at yesterdays close, 18.5%. I’m thus beating the S&P 500 by 17% and the first quarter isn’t even finished yet. How can that be??

Well, look: at the beginning of the year, my top 4 positions, which make up roughly 50% of my portfolio, were my highest conviction stocks. They were BOFI, CELG, SKX and SWKS (in alphabetical order).

BOFI has gone from $77.81 to $96.45, up 24.0%
CELG has gone from $111.86 to $125.33, up 12.0%
SKX has gone from $55.25 to $71.96, up 29.6%
SWKS has gone from $72.71 to $99.57, up 36.9%

They have gone up an average of 25.6%, and have carried the rest of the portfolio, which must have been up roughly 11.5%, to give a total of about 18.5%. Focusing really works.

As for why I invest in growth stocks, I have always done so. And I see no reason why, because someone is older, they should invest in crap instead of good stocks. Just my opinion, but I know that that is what they teach investment advisors, who certainly know much less about investing than I do.

Saul

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SCTY: I just bought today after discussing it with an energy analyst friend of mine who as it as his top energy holding. I bought it so I would be forced to research it myself. I think that unraveling their future revenue streams from their leased install base will be challenging to say the least.

Hi Chris, Although I’ve briefly held positions several times, I can’t unravel what their future revenue streams will be. In other words I can’t understand their finances and projections, and risks of fight-back by the utilities, and all the rest. I prefer simpler stocks to understand.

Saul

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Karen:

On the question of the number of stocks to hold, the reason for diversification is to reduce portfolio volatility and risk, the more stocks you have the lower the chances that any one will wipe you out.

But, volatility is reduced only if the stocks are not correlated, if they don’t go up and down together. That means that the stocks should be from diverse industry groups. While I can’t prove it, it seems that about 12 stocks from diverse industries is enough to protect your portfolio.

There should be a strategy behind the number of stocks in a portfolio. For example, Charlie Munger advocates a concentrated portfolio with your best picks and watched like a hawk. Peter Lynch had hundreds of stocks in the Magellan Fund but not evenly distributed. He had large positions in the core holdings and a long tail of small positions of potential ten baggers.

Volatility is a funny thing, if you don’t need the money to cover current expenses volatility has little effect on you but volatility for a mutual fund is a problem because lots of people bail if the fund goes down. Volatility is also a problem if the stock price is tied to some kind of covenant, for example, if you are forced to “mark-to-market” even if you have no intention of selling.

What it comes down to is that you have to know yourself and how best to meet your own needs and style.

Denny Schlesinger

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Great reasons, right now with 30 stocks, I am holding on to several because I'm not sure about letting them go.

Also, there are all the stories of people who have made fortunes with simple dividend stocks.

Some are like a security blanket, I know they won't go to zero even if they are not big growers. 

With the Pro port that I mostly follow, the goal is inflation + 7%, doubling money every 10 years, and I am happy with achieving that. 

I would like to follow the companies I hold more closely.  

You are right about lack of confidence for valuation, and also just for market timing too (I know, I have read the compiled posts)…  

AAPL is my #1 port holding and I thought it was so interesting that Saul says it's not enough growth potential for him.  (But maybe it is just fine for me, that is OK).

Thanks for the chat, 
Karen

I am also long SWKS (4.4%), CMG (1.9%)and AMBA (1.4%).  AMBA scared me when it grew so much!
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Hi Denny, after returning to the Fool the summer of 2013, I am learning who I am and what works for me. It will probably take some more time to tighten up.

I have a question about the graphing. When you say a weekly graph, does that mean you are graphing the price at the end of the week for 52 weeks in the year?

Although I have a lot of stocks, I have not listened to any of the conference calls. I had started to listen to the CNI (1.8% of my port) (Canadian National Railway conference a few months ago and it felt so sleepy). Yesterday I listened to most of Under Armor’s (2.2% of my port) last conference call and it was exciting!! However the price on that stock is kind of scary.

I had started over at Supernova and then had the experience of selling off a lot of those picks when I switched over to Pro. I like narrowing the field (although I did hack out SWIR, which seemed to do well last year, I also hacked out TTS, that is OK!)

Do you have any pictures of your graph paper graphs? Thanks, Karen

Having been through 1999 and 2008, I am concerned about volatility. A huge goal is to avoid massive losses because as Saul has said, it takes a massive gain to make up for a big loss, and catching up is harder than it looks. So preventing or softening the blow of big losses is a part of my goal.

My portfolio is too concentrated just now, I currently hold 12 positions but three are rare earths so in reality it’s only 10 positions. My top position way too large and I need to whittle it down. I’m selling covered calls against it for either a better price or income if they don’t get assigned.

Denny Schlesinger

“FOCUSING REALLY WORKS”

I hope every reader of this board will slowly read and absorb those 3 words for a few minutes. Thank you, Saul!!!

It has taken me 3 years to understand the wisdom of this simple yet profound concept for our investment returns.

Like most of you, I have lived by the MF Mantra of continuously buying (and never selling) more and more stocks. I was barely keeping up with the S&P 500 Index.

As I have whittled my portfolio down over the past 3 years to a more manageable 25 stocks, the returns have begun crushing the Index’s.

FOCUSING REALLY WORKS: our new mantra for 2015.

Jim

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Hi Karen (and other fools on thread) - I don’t chime in that often but wanted to comment on your comment that you don’t want to lose a lot of money and were somewhat scared of AMBA or UA run up as of late.

I don’t know the exact quote from David Gardner, earlier today, on one of his paid services. Basically it was that he has had some big losers. He looked at his top 17 losing rec’s (and some were rerec’s, with worst being Satyum) and then looked at his 17th best performer (Hasbro, roughly 483% since 2003 rec), his Hasbro gain more than wiped out over half the total of losers. So just know - you will have losers, and repeat, you will have loooosers. I have had two such just in the past three years, recommended by a small cap “guru” analyst who had been praised by the street - HAWK and Velti.

On the flip, I thought I was pretty smart back in 1990 picking up a company called EMC, local to me in Boston. After quadrupling my money in the first 18 months, I dropped the stock. I dropped it b/c of the money was fast and easy, not based on business fundamentals.

You can look at some of the best companies in the world over the years: Dell, Apple, Priceline, that almost went under but their business was relatively solid. Same if you were a buyer during our last bubble - one of my favorites, which I still own, is Select Comfort (SCSS), a mattress company. Lost 98% of its value. I was dumb luck smart that I didn’t sell but if I could of understood that it had enough cash and wasn’t going bankrupt, it would of been fantastic picking up shares at 35 cents.

I am sure everyone has these types of stories and hope it added some color to the discussion.

Sox Nation (whose team knows something of being last, then first, then last)

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I have a question about the graphing. When you say a weekly graph, does that mean you are graphing the price at the end of the week for 52 weeks in the year?

Karen, I keep a vertical list of my 18 positions on a piece of blank paper. Each day, after the close, I fill in the closing price to the right of the day before, going across the page. It takes about 5 minutes per day.

The graph paper I use is millimeter graph paper (with slightly darker lines each cm, naturally). I graph each stock on a separate piece of graph paper, with the prices down the left side. Each week I graph a line from the highest close of the week to the lowest, with a little cross bar for the weekly close.

By the way, I have the list of my stocks for the weekly list on my computer so I can just print it out and not have to copy it manually.

Hope that helps.

Saul

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