The Diversification Disillusion

by | Jul 8, 2024

The Diversification Disillusion

If you have been listening to me for any length of time, you’ve probably heard me bash traditional “diversification”… I don’t lament how poorly mainstream finance has treated average people just for the sake of it; I really believe there are better options (no pun intended) out there and I hate how many people are years — or even decades — behind by doing “the right thing.”

Today, I wanted to give you a practical, real-world example of why I often challenge the traditional investment strategy of diversification. 

Earlier this year, my younger brother, Daniel, was sitting on $48k in cash, unsure of how to invest it and asked me what he should do if he wants to invest it for the long term. In fact, he had been sitting on the money for about a year.

After a little brotherly shaming for sitting on cash while inflation erodes his dollars, I laid out two options for him…

One was the conventional 60/40 mix of mutual funds and bonds, which typically yields a 6-8% return but isn’t immune to bear markets…

The other was a more aggressive strategy focusing on 15 to 20 of the top-performing stocks, betting on their continued market outperformance.

Now, obviously, my strong bias that the first option is a bad one came through as I laid out the options and I probably applied some pressure to go with what I strongly believe is a better route for buy and hold investors: Buy and hold strength.

He decided to do just that and I gave him 19 stocks I had vetted as strong performers. He spread out the $48k just about evenly across those 19 stocks and decided he would forego traditional “diversification” and bet that the top stocks would continue to be the stop stocks for the medium and long term (remember, just because those are the 19 I gave him now, doesn’t mean they can’t change a year or 5 years from now).

I hadn’t even realized it had been 6 months until he texted me this pic:

In just six months, he’s up a remarkable 29%, turning what was idle cash into an additional $14,000. 

I was honestly shocked when I realized how much it had produced in that period of time, because even though I expect strong stocks to do exactly this, it’s still wild when you take a minute and see it happen in the real world.

He included a joking “you’re a wizard” text too 😂

But the reality is, I am definitely not a wizard haha

I picked a set of pretty basic, momentum stocks and I let the market go to work. And he’s benefited from a pretty monster bull run, of course, too.

The key is that the entire investment is in high-potential areas rather than spreading thinly across a “diversified” portfolio. There’s not a group of “low risk” instruments or “hedges” pulling down the performance of the entire portfolio.

The Truth About Diversification

This leads us to a critical point about diversification. Traditional diversification spreads risk but also dilutes the potential for high returns.

And in my experience, the payoff you get from that diversification in soft markets isn’t much. Anyone remember how those lovely bonds performed in 2022?

That’s why I don’t think simply diversifying your assets wider and wider until you are inevitably in weaker assets makes a ton of sense. And, instead, I recommend diversifying your strategies along with your assets.

For example, imagine you own 20 stocks, and even if 10 fail, the remaining 10 could yield returns that not only cover these losses but significantly propel your portfolio forward. 

Many of the top juggernaut stocks have returned 1,000% or greater over a decade… The math is simple yet powerful: a few high performers can outweigh several underperformers. 

Let’s say we invest $50,000 equally into 20 of the biggest fast-moving names right now, Amazon, Tesla, Meta, Google, Netflix, etc. 

Now imagine 10 of those top 20 names fail. Literally assume half of the top companies go to zero which I think we all agree is wildly unlikely… Go ahead and take off $25,000… But let’s say the remaining 10 perform exceptionally: 

The average return of these sample names is a 933% gain over the last decade. 

So let’s say the other half of our money was invested in 10 winners like this, at the end of the decade, the $25,000 we put into these stocks would now be worth $233,275. 

In other words, you’d be further ahead with HALF of the top stocks going to zero if the other half performed exceptionally than you would with a traditional “diversified” approach.

And that’s precisely why I think this mainstream model has failed so many people.

This approach is about making calculated investments, not bets. It’s about understanding which companies, like Amazon, have the resilience and market position to not just survive but to thrive. 

So, when you hear traditional advice about diversification, remember that it’s not just about spreading your money across different assets but choosing where to place it for maximum impact.


— Nate Tucci

P.S. If you’re wondering if this means I put everything I own into short term option trading, the answer is a resounding no. A big chunk of my capital is in dividend stocks —  so I am certainly not advocating against using buy and hold investing strategies!

But if you check out my dividend portfolio, you will see much like the set of stocks I gave my brother, it’s diversified into top performers — not blanket hedges.

You can see my entire dividend strategy here.

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