Hidden concentration: when twenty securities are one bet
intermediate
Automated material · TradeAlmanac editorial deskPrepared by a language model from our stored data and checked by an editor.
The number of positions creates an impression of variety. The impression is sometimes false.
How hidden concentration arises
By factor: ten companies from different industries that all depend on the price of one commodity or on one exchange rate.
By geography: the whole portfolio in one jurisdiction, with one infrastructure and one regulator.
By currency: every asset tied to one currency of income — Currency exposure: you have it even if you never opened it.
By counterparty: every asset recorded through one chain of depositories — Restrictions and infrastructure risk: how it differs from market risk.
How to check
List the positions and write next to each what its revenue depends on. Add up the weights by recurring factor.
If one factor accounts for most of the portfolio, a variety of names is not enough.
What to do
Add asset classes rather than names: bonds, money market, instruments with a different source of income — Asset allocation: the decision that shapes everything else.
Cap the share per factor the way you cap the share per security.
The other side
Removing concentration entirely means accepting the market's result. Deliberate concentration is a legitimate choice; unnoticed concentration is not.
Related: How many securities to hold and Correlation: why diversification sometimes stops working.
Prepared by a language model from our stored data and checked by an editor.
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