Concentrated Portfolio strategy for next 3 years

Q&A: Questions & Answers Portfolio Q&A
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This is how I plan to approximately restructure my portfolio in next 3 months:

Granules India: 40%
Alembic Pharma: 30%
Canfin Home: 20%
MPS: 10%

I am skipping with reasoning of the choice of stocks as it is very very well documented in the respective threads.
However,
some points I want to make:

The whole portfolio around 25% of networth.
Although it is still a very significant amount, the risk appetite is on the higher side (worst case, getting the principal back)
70% are in small caps
70% are in pharma
3 sectors: Pharma, NBFC, Publishing
Most belong currently in PE bracket of 18-27. (Please note the tricky situation of Alembic in PE calculation due to two extraordinary quarters)
Portfolio growth target is 3x-4x (including dividend yields) with a combination of earnings growth and PE expansion.

Would like to know the viewpoints on allocation strategy.
And possibly one single replacement out of the four with some reasons.

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@nishantkandoi

I see that you have mentioned in your profile that you take care of your family’s equity portfolio.
I am not aware what proportion of equity is managed by you and what proportion it is of your family’s wealth (excluding one house).

I have high regards for your research and confidence but an allocation of 40% or 30% in one stock is definitely not something I will recommend. Company specific risk is beyond our intelligence or confidence.

Just my 2 cents.

EDIT: Sorry, just saw that it is only 25% of your net worth. My bad.

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Hi Sushil,

Yeah. However, letting me handle 25% of net worth is still a considerable trust to show by my father :smiley:

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My two cents -

  • Missing on Agri focus.
  • Missing on consumption focus.

Pharma, banking /finance, consumption should be part of portfolio.
One can be an year late in reaching the goal of portfolio but assurance increases few notches if balanced.

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Hi Hrishi,

Totally agree on the delay of goal reaching. Thanks for the comment. The plan is to focus and track three sectors for next 3 years. Meanwhile will try to understand agrochem/agri/consumption for later stages :slight_smile:
Meanwhile, talking about consumption, the only company which strikes me for now considering both business quality and valuation is bajaj corp. Not much idea else.

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@nishantkandoi,just my two cents

  1. Pharma is taking 70 % of portfolio hence any under performance a sector could hurt portfolio return. I agree that stock price always follow earnings but sector tailwind is also require for the sustainability/expansion of PE rating.
  2. Concentrated portfolio should contain only secular stories hence it seems there is no issue with stocks because all the stock you selected are secular growth story . Senior members like @hitesh2710 , @ayushmit @desaidhwanil can review your portfolio and provide their better guidance ,There are other sector available which will have strong sector tailwind in coming years like MFI-NBFC, Radio business etc . You can got through the companies which operates on those sectors in various valuepickr threads
  3. In concentrated portfolio , you should take extra cautions and monitor whether there is change in company fundamental /BQ/MQ because under performance of single stock will dent the portfolio return . IMO , in concentrated portfolio also , the allocation percentage should not be more than 30% for a single stock. And also 15-20 % of portfolio you can keep for the opportunistic bets . If any of them clicked they will be part of your core portfolio gradually after portfolio restructuring/ more capital infusion.
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@nishantkandoi Just like you I had also started out from my parents money. One of the things that I have learnt is diversification is really important in your portfolio. At the start keep around 12-13 quality stocks and start reducing the ones which are under performing and increasing the ones which are better than others. After you have gone through 2-3 declines (line the one in Aug-Sep’15 and in Jan-Feb’16) in the market, you will have greater conviction for the some stocks and those will become part of core portfolio. Also, I guess your strategy of concentrated portfolio is inspired by buffet, so I would like to ask have you done the kind of research he does before buying any stock? You have to know the company inside out. Also one thing that buffet do buying stocks in the sectors where fear is at it’s highest. These are called contrarian bets. In current scenario I believe commodity and real estate are such sector, so you may choose one quality company from any of these sectors. As Ayush Mittal had said in one of his posts " It takes at least 6 months+ to get a right feel of the company; huge patience is needed ". Remember to see negative side of concentrated portfolio as well. Of course they might give you superior returns but for that you are taking higher risk as well.
My two recommendations for you will be Piramal Enterprises and Aditya Birla Nuvo Ltd.
P.S. I might be wrong since i’m also naive like you but I have been burnt due to over allocation to a particular stock.

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@nishantkandoi

Just my 2 cents. I could not resist myself from commenting when i saw 70% in pharma. No matter how good and futuristic a sector/company is, there could be lot of factors that can affect it along the way. Some examples being:

  1. change in pharma policies in USA (import related)
  2. tightening by FDA
  3. change in the management in the invested companies
  4. lawsuits/ other accounting issues etc

Hence no matter how good a company/sector is it always best to diversify since most of the above mentioned risks can come at any point to any sector/company.

Happy investing.

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Hi Amitayu,

Thanks for such a detailed comment. I have been managing the portfolio since last 10 months and what I have realised that 3-4 stock seems just about the right number for me. If I start diversifying further, the allocation of atleast one stock goes in single digit. That somehow doesn’t give me enough enthusiasm to keep updated about the proceedings of the company. 10% seems kind of a minimum allocation i can have. About opportunistic bets, yes I always try to know 1-2 companies which I could possibly enter at any point of time. However, being a graduate student I find it difficult to dedicate enough time for it.
Also, about exploring other sectors I find it difficult to convince myself to actually invest even after i get impressed reading the threads. I will try expanding to other sectors once I develop enough conviction.
Also, I did some of my own analysis and I think pharma sector should perform really well. There always exists a possibility of pharma not performing well, but I am ready to accept the consequences if I am wrong in overallocation.

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Hi Utkarsh, I started off with 6-7 stocks 10 months back. Gradually I reduced it to 4. I realized that I was impressed with rest 3 but wasnt actually impressed enough to stay invested for medium term, say 3-4 years.
No, I am not touching real estate. Simply because rest of the net worth is in real estate handled by father.
I am not a big fan of buffet. He is a phenomenal guy but I am not convinced enough to try out his strategy.
Regarding piramal, yes it might be a great stock to own. I just take too much time to develop enough conviction to invest.

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I agree. Pharma sector is heavily over allocated. I plan to keep it that way as of now. I will work towards developing enough conviction on other sectors so that I can allocate more money to them in later years.

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Hi Nishant,

From my experience of the last 13 years in the stock market, I feel their is high risk in the portfolio reason being as below -

  1. Indian government either be it BJP/Congress is highly unstable and they keep changing policies. Also there are very few companies where the management is A grade. Hence I do not believe in investing more than 10% in any company no matter how bullish I am. Hence I believe always believe in spreading the risk. Always allocate in more than 10 companies. You can use google alerts to track companies or sectors.

  2. I also do not believe in over allocation in any sector. Max I think I always try to limit it to 25-30% in a particular sector.

  3. Though I am bullish on the pharma sector, I feel they no longer come cheap since they normally trade at 15-20 PE multiples. However in the last 3-4 years the PE have expanded to 30 in pharma however that might not hold true forever. Also there is focus from the government to cap price of certain drugs to make treatment affordable for the poor. Also it a very complex sector and always have huge risk. Having said that I am positive on the sector but I might not allocate it more than 25%.

Also I would suggest allocating 5-10% to defence sector. Though it is a very long term play, at least 5 years but the opportunity is great hear. Best way to play this is investing in L&T, Tata Motors, Reliance Infra, BEML etc since they are combo plays.

Nevertheless the decision you choose, all the best for the journey ahead.

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Thanks @bbbhutra , I think I might switch to your strategy once I get into defensive mode 15 years from now. Right now, the focus is to create wealth rather than protecting wealth.
I am frankly not interested in large caps for the above reason. I agree that this will make the portfolio more sensitive to market swings. But sometimes, I might use large caps as a parking space.
I dont buy the idea of hard core limiting to a particular sector to 25-30%. My limit is upto 70-75% as of now.
Regarding management, all of the above mentioned companies are indeed A grade. But need to keep track of them walking the talk.
Allocating to 10 companies requires a lot of work and study. I don’t think I can dedicate enough time to keep track of 10 companies performance in depth irrespective of tools like google alerts. 3-4 companies are much more reasonable to handle. I do try to keep track of 2-3 more companies which i can trade with existing stocks in my portfolio.
Also, just allocating 2-5% of the principal wont get me anywhere even if I get the stock picking right. It would just be an ego boosting exercise. (Unless I have tons of money in which case even a 2-5% would be a huge chunk)
Price cap is happening in India for selected drugs, not in the US. Might happen in the US as well but will need to track it.
Regarding complexity of the pharma sector, that is what a forum like valuepickr is there for to untangle its complexity. There are so many stupendous guys from whom one can learn.
I am not touching defense sector for now, but thanks for the suggestion!

Thank you very much for your wishes :slight_smile:

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Dear Nishant,

Your target is to grow 3 to 4 stocks 3x to 4x but please elaborate over what timeframe - 4, 6, 8, 10 years?

You are aware that a concentrated portfolio has its pros and cons.

A 70% allocation to two pharma stocks run the risk of sectoral headwinds in case an FDA debacle.

I dont know if you are the type who cuts his losses readily and reallocates or someone who has ownership bias and tends to stick through the tough times - this is another aspect you should consider prior to making such large allocations.

Eg. the well regarded IPCA which will likely recover and get its act together SOMETIME, however only time will tell how soon the rebound comes. In the meanwhile anyone invested in IPCA over the past 30+ months has not made any gains today. Opportunity cost of having nil returns on this well regarded story over 2.5 years must be considered.

If you love pharma as a sector for wealth creation- consider this - how about mentally mapping Pharma as one basket where you allocate upto total 40% - you can buy a basket of 4 or more good growth prospect stocks that appeal to you (e.g. Granules, Alembic, Torrent, Shilpa, Syngene) and dilute your risk. Statistically this will work to your advantage and protect your downside.

However, if you must allocate to not more than 4 stocks and 2 of those stocks have to be pharma - then I would request you to sincerely consider not allocating over 20% to each pharma story, so that your portfolio performance is not impacted in case of some misfortune.

Regarding other allocations, you should look for worthy allocation ideas. Certainly Canfin and Gruh are worthy bets, as are some other NBFC stories which offer good margin of safety and robust earning growth possibilities.

Indo Count is a story that I personally like - its high R.O.E., premiumisation and growth prospects. This is one prospect I consider a potential steady compounder at 18 % plus return. (I am more than happy with such return). Navin Fluorine is another high growth prospect you could research and consider.

Wish you all luck with the concentrated strategy.

Best regards,

Aniket.

Disc: I am invested in all names mentioned above. Not a buy or sell recommendation do your own diligence.

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My 2 cents:

What if one of these companies is an outright fraud? Or if they are hit by some kind of black swan event. Have seen many in pharma lately. But can happen in almost any sector. I know you might have done a lot of research to check promoter integrity, and any evidence of wrong-doing etc. But I guess Nassim Taleb’s observation is appropriate here - absence of evidence (of fraud in this case) is very different from evidence of absence. So, portfolio of 50 stocks is probably too much to make serious wealth, maybe 20 stocks is comfortable, 10 stocks if you know what you are doing, below that is in the gun-slinging range.

Here’s a thought from a trader in Jack Schwager’s Market Wizards:

On the subject of bet size, if you plot performance against position size, you get a graph that resembles
one of those rightward-facing, high-foreheaded cartoon whales. The left side of the graph, corresponding to relatively small position size, is nearly linear; in this range an increase in trading size yields a proportionate increase in performance. But as you increase size beyond this range, the upward slope flattens out; this is because increasingly large drawdowns, which force you to trade smaller, inhibit your ability to come back after strings of losses. The theoretical optimum is reached right about where the whale’s blowhole would be. To the right of this optimum, the graph plummets; an average position size only modestly larger than the theoretical optimum gives a negative performance.

Trading size is one aspect you don’t want to optimize. The optimum comes just before the precipice. Instead, your trading size should lie at the high end of the range in which the graph is still nearly straight.

There are old investors and bold investors, but no old bold investors. Stocks will never cease to surprise.

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Hey, I am not sure if this could be considered as trading. I am here to sit on this stocks as long as they keep providing 25-30%+ eps growth with a 20+ roe&roce year on year.
Also, I don’t see them as a “bet”.

Regarding your old bold investors fact, I agree completely. I won’t play this extremely concentrated strategy once the portfolio reaches a critical amount. Check Warren buffet yoy returns. You would be surprised how bold he was during his young days (early twenties).

Btw, I am a huge fan of Taleb. He is conducting a week long workshop here in NYC in June and august. Pretty expensive admission, but thanks to his generous scholarship to students, I would be able to attend :slight_smile:

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Hi Aniket,
Thank you very much for such a personalized comment. I can really sense you caring about my innocence :slight_smile:
There are so many other variables which come into play which I am not able to put it up front on the forum due to privacy issues. But in short, current portfolio value is such that I would be able to earn that much out here in the US in about 2 years. I know one should not play with the money. I have given it much deliberate thought. I think I am not playing. It’s just a bit overly aggressive move.
I am really not satisfied with 20% growth companies. I am targeting companies which can possibly clock 30-35% eps growth in the next 5-7 years. Because these are the companies which have the chance of p/e expansion. Market pays up for high growth companies. I have simulated possible horrible situations in my mind with the current portfolio. Hence I have decided to add another dimension in terms of managing cash. I am going to have a flexible cash management approach depending on the macro scenario of the markets. It could be as high as 80% of the portfolio in extreme market valuations (nifty PE 2 standard deviations up), or as low as 5% .
I am trying to study extensively two more companies: kellton tech and camlin fine sciences. Both of them are worth digging deeper into. Once I have done my homework on them, i might diversify further.

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I guess the point is, the incremental risk adjusted returns from concentration as well as diversification drops off beyond a point. While we know very well that diversifying beyond 25-30 names is not going to have any incremental benefit, the same principle probably applies to concentration as well.

To the extent we all operate with incomplete information and with things related to the future, our views are always partial distorted - at least I cannot honestly claim to have ever had an unbiased clear view about any stock so far since I started investing. Maybe that’s not the case with everyone.

For example, in Granules India, you probably know that the promoter was involved in circular trading and rigging up the stock price along with Sanjay Dangi back in the days. It is a bet that he has changed now. As long as stock keeps delivering returns its easy to hold. When things go wrong and we depend on what the management says to get comfort, then all the ghosts of the past come to haunt. Irrespective how great the story might be this discomfort will always be there for me in. Similarly if I dig deep enough I end up finding something for every stock.

Kaveri Seeds was supposed to a great compounding story - extremely thoroughly researched by many smart people. Yet at the first sign of trouble, no one was willing to trust they even have cash on the books and the stock was hammered. If that stock was 40% or more of the portfolio - and it was for some - I don’t know if one can muster the courage to add more.

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But MPS is not 25-30% compounder. It might be with acquisitions but also it might not. We can not consider inorganic growth for concentrated potfolio.

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Hi Nishant,

Some momentum earners:

Navin Fluorine fits your criteria of 35 percent plus EPS Growth with improving ROE’s which should also lead to PE rerating. Next 2 to 3 years look good.

Canfin announced vision 2020 of 35000 crore aum up from current 10500 cr. That is ambitious but Certainly on basis of current systems this stock can provide 25 percent plus earning growth if new MD supports the processes and discopline followed to date.

Look at a micro finance company called satin creditcare which has grown aum at over 60 percent cagr for 25 years and has quality management.

I am trying to understand Tata Elxsi (have a small position) their management has recently stated that their dream of 1 billion dollar sales in 2020 more than 5x past year sales are no longer a dream. If you can read up and build conviction that could be interesting.

Cupid is another small stock with potential for scale and returns and PE rerating. Study the vp thread.

Have studied the excellent camlin thread on vp. I would like to see followup results and build conviction.

Happy to read you are willing to diversify your momentum basket.

And sincerely hope that a large percentage of the balance 75 percent is allocted to steadier, high quality and margin of safety compounders. Time is our friend and wealth creation is essentially a function of buying and holding quality stocks over longer period of time.

All the best.

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