Additional Thoughts On Holding A Large Position

In the world of concentrated investing, I’ve heard various approaches on how to manage the growth of a large position. If compounding goes as planned in most investments, inevitably one or more of your investments will grow so large that it dwarfs the others in your portfolio. I have been fortunate to experience a large position growing into an enormous one, and this forced me to grapple with the question of how to manage its size. 

It’s easy to view an investment as a single decision, but I’d argue it's a series of many independent ones. Two managers can buy the same stock, in the same size, at the same time, and end up with remarkably different outcomes at the end. It’s not only about the purchase decision or position sizing, but whether to add or reduce, and most importantly: deciding when to sell. 

I cannot adequately describe how hard it was to not sell a position that doubled. And then doubled again. And then doubled again. It's easy to sell early, far harder to do nothing when this occurs. 

Our results would be entirely different if we sold positions based on gut feeling, or if we adhered to an arbitrary portfolio management rule that forced me to sell if a position reaches a certain size of the whole. 

Fortunately, in the past, I’ve observed others make the painful mistake of selling a good company too early. If you prepare yourself for a large position becoming “too large” it allows you to stay rational and only make a sell decision for the right reasons. 

Ironically, I think it’s riskier to arbitrarily sell down a large position I believe in than to continue holding it in size. When I sell a position, I’m introducing a new failure point into the investment cycle–reinvestment risk. Either I need to replace the sold shares with something new, or I need to buy them back at a lower price reasonably soon thereafter. 

The great opportunities in life are few and infrequent, and therefore my reinvestment risk is high. Unless I’ve minimized this risk by finding something new that meets my purchase criteria, I don’t intend on taking that gamble often. Holding cash on the other hand acts as a market timing call, and that too has its considerations. 

Regarding buying back the shares at a lower price, most great businesses don’t experience frequently slumping stock prices unless they face some form of impairment, and so this is usually a poor choice as well. I believe I stand to lose more from reinvestment risk than the share price volatility caused by position concentration. I think it was Peter Lynch that said the right time to sell a great business is usually never. 

Investors with concentrated portfolios and long time-horizons will earn 90% of their returns from just 10% of their ideas. Great returns aren’t the result of broad diversity, but rather the deep concentration that results from compounding capital at high rates. 

Why cut short the runway of one of our outlier ideas just for the sake of ‘diversification’ or the belief that I can predict near-term stock price movements? This is the exact opposite of what I'm trying to do: find and hold onto those 10% ideas for as long as I can. This is already extremely hard, so why make that job even harder? Concentration isn’t a bug; it’s a feature of long-term compounding playing out as intended. By arbitrarily selling, we throw a wrench into the gears of a well running machine. 

That said, when managing a portfolio, one must be pragmatic and adjust as conditions dictate without being too dogmatic. 

While concentration isn’t itself a problem that needs to be corrected immediately, running a position that is too large exposes investors to unnecessary company-specific risks that I would prefer to avoid if we have a good diversity of ideas to redeploy into. In their absence, a large position isn’t something to be feared, but something to aspire for.