The 8 Stock Portfolio is the Secret. Here's How You Get to It

You need to be absolutely sure that you have the skill and temperament to pick stocks and build your portfolio. (Photo: AP Photo)
You need to be absolutely sure that you have the skill and temperament to pick stocks and build your portfolio. (Photo: AP Photo)


  • Being liquid is key to achieving success in the stock markets. It’s also perhaps the most under-rated prerequisite.

In an earlier piece, I discussed why people generally do not get rich with stocks.

I attributed this to:

> One, there is an under allocation to direct stocks as a percentage of overall wealth

>Two, there are too many stocks in a portfolio

>Three, there is a lack of an allocation plan between each stock

>Fourth, the win rate with direct stocks is very poor

These are almost unarguable facts.

But then we do know that a few people do get really rich investing directly in stocks. Can we learn anything from them that could help us improve our performance?

Before moving ahead, note that this approach to investing directly in stocks is perhaps not for all. You need to be absolutely sure that you have the skill and temperament to pick stocks and build your portfolio.

If you assess and realize that you don’t have it in you, or that your track record leaves a lot to be desired, perhaps consider going instead with a low-cost index fund.

With that said, here are my takeaways to building a stock portfolio that could potentially make you really rich. This is based on reading about how these super investors achieved success, and even talking to some of them on my podcast. And my personal experience.

Do the hard work. Repeat

Let’s kick this off with an excerpt from a Warren Buffett interview.

Adam Smith: If a younger Warren Buffett were coming into the investment field today, what areas would you tell him to point himself in?

Warren Buffett: Well, if he were doing – if he were coming in and working with small sums of capital I’d tell him to do exactly what I did 40-odd years ago, which is to learn about every company in the United States that has publicly traded securities and that bank of knowledge will do him or her terrific good over time.

Smith: But there’s 27,000 public companies.

Buffett: Well, start with the A’s.

Absorb this for a moment.

Picking the right stock is hard work. And it needs to be done over a VERY long period of time.

And this is just part of it.

To complement the hard work of gathering and absorbing information, you need to have highly evolved skills to analyze the data as well.

Just to give you a sense of what you are up against when it comes to the competition:

One fund manager I spoke to for my podcast, shared that he maintained written notes of meetings with company managements going back 20 years!

These notes helped him assess the credibility of the management in a way few can claim.

Well, if this did not dissuade you, here’s another instance:

Another value investor I spoke to had evolved his own process of investing. Calling it a Benjamin Graham Plus style.

So you see, this first step is something you need to commit yourself to for a very long time. It will give you a foundation that starts from knowing about companies listed in the market, all the way to devising your own investment approach.

Be liquid. Be patient

Being liquid is key to achieving success in the stock markets. It’s also perhaps the most under-rated prerequisite.

You see, liquidity allows you to move quickly to capitalize on market anomalies.

Like on 17 May 2004, the BSE Sensex crashed 15.5% on fears that there may be a Left-supported government at the Centre. Suddenly there was fear that everything good was in peril, and India’s forward march may stall. There was a rush to exit, triggering one of the worst sell-offs in the markets.

Fear dominated the day. And when that happens one usually gets the chance to buy good quality stocks in a sale.

This is what Vijay Kedia told me about buying shares he likes when they are on sale (2014 context):

The biggest thing that went into my favour was that I could buy those shares when there was a panic in the markets. Not panic. When there was a crisis in the markets. This is how I bought Sudarshan Chemicals. This is how I bought Tejas Networks. Because there was a crisis in the markets. The world has come to an end.

Yet even those who understand this, like Vijay, are rarely able to make the most of this opportunity. Why?

They are not liquid.

They do not have funds idling in a bank account (as against a liquid fund) to utilize for precisely moments like these.

This is easier said than done. But the payoff is often so favourable that it still makes sense to do this.

There’s one other advantage of liquidity.

It allows you to remain patient for longer. It allows you to take care your expenses without the need to sell your holdings for whatever reason.

Vijay Kedia calls this the “no gravity zone".

That’s should be your goal too.

Make Big Bets

In my first piece “Why You Won’t Get Rich with Stocks" I dealt with this in detail.

It’s important to bet big on your high conviction stock picks.

What’s the point on identifying Tata Elxsi and then betting 2% of your stock portfolio on it! I know I am cherry picking here…but it helps make the point.

If you are good at picking stocks:

>First, identity the right stock/s

>Second, determine the price you want to pay for it

>Third, wait it out till you get the opportunity

>Fourth, when the opportunity presents it’s self, bet BIG.

This is where my idea for an eight-stock portfolio comes from. On average you allocate at least 10% to 15% to a stock at cost. So the 8 could 10 or it could be 12. But you get the idea - make concentrated bets.

Almost everyone around us who is successful got rich making concentrated bets on stocks.

And nothing on investing is complete without referring to Warren Buffett.

Buffett, who was once famous for saying no to technology stocks, today owns over a 5% stake in Apple Inc. It’s worth over $169 bn, and, according to Motley Fool:

…works out to 47.8% of the invested assets of Berkshire's investment portfolio and is nearly 40 percentage points higher than the second-largest holding by portfolio weighting, Bank of America (8.5%).

So, if you ever had any doubts about making concentrated bets, let’s lay them to rest once and for all.

Reconfirm thesis. Again and again

At this moment, let me rid you of a massive fallacy when it comes to value investing.

There is nothing like Buy and Forget.

It’s a fad to say that I bought a stock, forgot all about it, and went on to make a killing.

Well, you got plain lucky. And in any case, you cannot repeat that strategy.

All smart investors track their stocks like hawks.

They read up on all industry news. They read company reports. A lot of them turn up for the quarterly earnings calls.

Remember hearing Rakesh Jhunjuhunwala’s voice break through on a Titan quarterly call? Incidentally, of the 34,000 crore portfolio he owns, a little over 40% is invested in just one stock – Titan.

You see identifying the right stock is a big deal. Equally big is ensure that at any point in time your portfolio consists only of the right stocks.

When you are tracking your stocks, you are basically reconfirming whether the thesis based on which you purchased the stock is still valid.

In this instance, is Titan still the best bet on tapping into aspirational spending as India grows into a middle income country. Sure, there will be bad quarters…perhaps even bad years. That’s part of the process. If your thesis is playing out, and the near terms factors are just that – near term, then, sure, go ahead rest easy.

Reallocate. Sometimes selling stocks you like

But if something is amiss and it appears that the may not play out as you thought it would, then you need to act.

Selling a stock is tough.

If you are making a lot of money, you like the stock. And selling something you like is tough!

If you are losing money on the stock, it’s admitting to yourself that you made a mistake. That’s even tougher!

You will need to work through this because this step in the portfolio building and managing process is very crucial.

It’s a stock after all. Just a means to an end to achieve a long term goal.

If you do this relentlessly, ultimately, you will be left with a portfolio of high performing stocks.

When it comes to reallocation, another point that often baffles me is that when you exit a position, or get fresh liquidity from elsewhere, there is a need for a “new" stock.

Now, if you are already in the camp committed to making big bets, you know how to deal with this. The money goes to the stocks you already like a lot…waiting it out for the right price.

But if you are not, this is what leads to buying the next stock, and the next stock. And before you realize it you have a 25 to 30 stocks, which is extremely difficult to track.

That’s something you need to guard against. And you can do it by following some core principles that we have discussed for building a direct stocks portfolio.

Wait it out

The stock market is a voting machine. Not a weighing machine. So said Buffett.

This works to perfection when buying a stock. You want to wait for fear to grip the market so you can load up on your favourite stocks for cheap.

But what happens when you buy a stock, and it does not move. i.e. no one is voting for it!

I think this is the point that differentiates the men from the boys so to speak.

If you have done your homework, re-verified your thesis and bought the stock at the right price, you just have to wait it out.

And since you are an individual investor, who is not answerable for a monthly return or quarterly return or even an yearly return, you can afford to do it. (Assuming you have dealt with the point on liquidity above).

This is what will give you an edge. Perhaps an even bigger edge in this momentum driven world where one expects the stocks to move them moment you buy a stock.

So, stick to your guns. And keep verifying facts again to see if the thesis is still in play.

In conclusion, building and managing a portfolio of direct stocks is exhaustive work. So be sure this is the road you want to take.

In my experience, a lot of investors treat investing directly in stocks like a casual hobby. They want to pass some time. But they do not want to spend dedicated focused time to get really good at it.

The end result is for us to see all around us, dear reader.

Now it’s up to you which path you want to take.

Rahul Goel is the former CEO of Equitymaster. You can tweet him @rahulgoel477.

You should always consult your personal investment advisor/wealth manager before making any decisions.

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