I have looked at enough model portfolios to realize that 15% returns (which are my expected returns) can be made with 3 or 30 or 300 or 3000 stocks. Returns are a multiplication of your hit rate and average win to loss ratio, there is nothing more to it.
What is more important is how to think about bet sizing. Let me give my spin. There are two kinds of bets that I take, consistent compounders and inconsistent compounders (this is horrible naming but bear with me).
Definition: Over the last 10 years, I compute the number of years a company has generated ROCE > 20% and the number of years they have generated positive FCF. If the sum of these two are >14, I consider the company to be a consistent compounder, else an inconsistent compounder. Exceptions to this rule are lending based companies, companies with limited history, and other manual overrides. In lending companies, I consider HDFC to be consistent and Manappuram to be inconsisent (although I am holding both at the same position size). Nippon and IEX are consistent compounders despite having limited financial history. Where I use my discretion is in cyclical companies like Indigo (6 years with ROCE > 20% and 9 years of FCF until FY19), Avanti feeds (cyclical margins but ROCE > 20% and positive FCF in 8 out of 10 years), Lupin which I quantify as inconsistent.
In March 2020, I had 52% allocated in consistent compounders (#13 companies) and 48% in inconsistent compounders (#16 companies). By logic, I should have sold some of my inconsistent guys hence consolidating the portfolio and taking higher bets on consistent guys. This would have been hazardous to my returns as consistent guys are up way less than inconsistent ones, even though my position size was more distributed among inconsistent compounders and consolidated amoung consistent compounders. When I first realized this, I knew whats more important and whats a waste of time. As long as I understand the underlying business and its drivers, I don’t care how the portfolio looks like. And I know for a fact that my hit ratio over long term will not be greater than 60-70%. Below are the detailed numbers
| Out of last 10 years financials | ROCE > 20% | Positive FCF | Consistent/Inconsistent | Weightage | ||||
|---|---|---|---|---|---|---|---|---|
| Ajanta Pharma | 8.00 | 10.00 | 18.00 | Consistent | 4.50% | Consistent compounders | 52.00% | 13 |
| Ashiana Housing | 4.00 | 1.00 | 5.00 | Inconsistent | 3.50% | Inconsistent companies | 48.00% | 16 |
| Ashok Leyland | 4.00 | 9.00 | 13.00 | Inconsistent | 1.00% | |||
| Avanti feeds | 8.00 | 8.00 | 16.00 | Inconsistent | 2.00% | |||
| Bajaj auto | 10.00 | 10.00 | 20.00 | Consistent | 6.00% | |||
| Balkrishna Industries | 6.00 | 6.00 | 12.00 | Inconsistent | 2.00% | |||
| Biocon | 1.00 | 5.00 | 6.00 | Inconsistent | 2.00% | |||
| CARE Ratings | 10.00 | 10.00 | 20.00 | Consistent | 2.00% | |||
| Cera sanitaryware | 10.00 | 8.00 | 18.00 | Consistent | 3.00% | |||
| Divis laboratories | 10.00 | 10.00 | 20.00 | Consistent | 2.00% | |||
| HCL Tech | 10.00 | 10.00 | 20.00 | Consistent | 6.00% | |||
| HDFC | NA | NA | Consistent | 3.50% | ||||
| IEX | 6.00 | 6.00 | 12.00 | Consistent | 2.00% | Limited history | ||
| Indigo | 6.00 | 9.00 | 15.00 | Inconsistent | 6.00% | |||
| Infosys | 10.00 | 10.00 | 20.00 | Consistent | 2.00% | |||
| INOX Leisure | 1.00 | 6.00 | 7.00 | Inconsistent | 1.00% | |||
| ITC | 10.00 | 10.00 | 20.00 | Consistent | 6.00% | |||
| Kolte Patil | 2.00 | 8.00 | 10.00 | Inconsistent | 5.50% | |||
| Larsen & Tourbo | 3.00 | 9.00 | 12.00 | Inconsistent | 6.00% | |||
| Lupin | 7.00 | 9.00 | 16.00 | Inconsistent | 3.50% | |||
| Maithan alloys | 6.00 | 6.00 | 12.00 | Inconsistent | 1.00% | |||
| Manappuram finance | NA | NA | Inconsistent | 3.50% | ||||
| NALCO | 1.00 | 8.00 | 9.00 | Inconsistent | 1.00% | |||
| NATCO Pharma | 3.00 | 5.00 | 8.00 | Inconsistent | 2.00% | |||
| NESCO | 10.00 | 9.00 | 19.00 | Consistent | 3.00% | |||
| PI Industries | 10.00 | 7.00 | 17.00 | Consistent | 6.00% | |||
| Powergrid | NA | NA | Inconsistent | 6.00% | ||||
| Reliance nippon asset management | 6.00 | 4.00 | 10.00 | Consistent | 6.00% | Limited history | ||
| Wonderla holidays | 6.00 | 7.00 | 13.00 | Inconsistent | 2.00% |