Bob Rodriguez 25 years experiment on Concentration

[gary17]

For us it is one equity per industry, only industries where we have competency, & we buy only when that industry is experiencing issues. By default, it means that our position, & our risk, is at its largest when we initially purchase using margin; thereafter the entire focus becomes one of reducing the risk associated with that position. The downside is that a portfolio of sizeable, zero-cost, dividend paying (infinite yield), stub positions is very difficult to manage.

 

hi, SD: I just check back and noticed you responded to my earlier post about risk.  I'm from Canada as well and my background is in chemical , although I do mostly fire stuff now.    I just noticed there's a 'notify' button, so hopefully it works when you reply next time. 

 

I find your response insightful so I went back to see some of your earlier comments about concentration.  I was wondering if you could elaborate on the last sentence "the downside ....... stub positions is very difficult to manage" - I didn't fully comprehend what you mean.... if you don't mind elaborate a bit more

 

On my BBRY position I have been unloading - even the last two weeks when the BO rumour started to get hot again, so I've managed to limit the risk on BBRY, and can appreciate what you mean by taking money off the table. 

 

Also curious as to what you think now are some of the industries you think are out of favour and worth looking at.  My brother is a mining engineer, although I know nothing about mining =P

[SharperDingaan]

Assume 10,000 shares bought @ $10 with 50% margin, $0.25 dividend/year; dividends = interest expense on the margin. 50K Equity, 50K Margin.

 

The share price rises 100% to $20. You sell 5,000 shares for 100K & repay your margin, leaving 5000 shares & your original 50K in cash. If you record the proceeds against your cost base (payback approach); those 5,000 shares have zero cost, pay a dividend of $1250/yr, & are a zero cost long-term option with a strike price equal to the $10 you originally paid for them. As long as the share price remains above $0 you do not really care; you have your $ back, & you are getting an infinite yield ($0.25/$0.00) of $1250/yr. You recognize the lower risk, but get the wrong investment signals

 

If you retain your cost base (tax approach) you still get your original investment back, a dividend of $1250/yr, but you also get an unrealized gain of $10/share - & if the share price falls below the current $20 you will suffer a loss. To avoid the possibility of loss you would hedge your position by selling ½ your position at the current $20. You get the right investment signals, but fail to recognize that the position is nowhere near the risk it once was – you have a $10 unrealized gain to cushion any adverse price shock.

 

That 5,000 share position @ $20 is 100K; to get both the right risk recognition & the right investment signal, you need to mix both investment bases, & you need to arrive at the right sizing for the nature of the investment. Not simple, but it can be done.

 

More problematic are the opportunity costs, & behavioural effects, which take more gymnastics.

 

SD

 

[SharperDingaan]

..... but if you reset your option strike at the market price on the day you closed ($20), you recognize the lower risk AND get the right investment signals.

..... and if you apply the Kelly formula concepts, most of the sizing issues dissappear.

 

Unfortunately though; if you're buying dogshit (BB), you're still buying dogshit!

 

SD