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The Many Paths to Portfolio Allocation

Investing is personal, but Maxx Chatsko points out the many ways you can handle portfolio allocation.

March 22, 2021

I don’t stress too much over allocation or diversification, but I’m building to it over the long haul.

The number of companies in my portfolio has expanded quite a bit since I’ve joined 7investing. That’s primarily because I’ve committed to buying each of my recommendations the next full trading day after each research report is published. Therefore, I must have a methodical strategy for allocation and diversification, right?

Well, to be honest, I haven’t obsessed much over either.

While I have begun to diversify my holdings by adding more companies overall and building anchor positions in low- to moderate-risk businesses, I don’t have strict limits or targets in mind. As a relatively young investor, I still feel that I’m in “accumulation mode”, although perhaps investing will always feel that way.

Nonetheless, newer investors might find some comfort in my strategy, which is less focused on adhering to strict rules and more about building up to balanced allocations over time — with “balanced” relative to your own comfort level and investing goals. Simply put, there are many ways to build a portfolio. Don’t stress yourself out trying to maintain perfect allocation targets.

Buy (accumulate) and hold (wait)

My last advisor update explained my research framework and how I approach recommendations in a volatile market. My buy-and-hold strategy is based on accumulate-and-wait. To quote myself #selfplagiarizing:

“In short, I’ve been recommending investments using my tried-and-true framework for discovering drug developers while also prioritizing market valuation and accepting longer time horizons. My recommendations have been and will continue to be optimized for a strategy of accumulation, not short-term performance.”

What exactly does accumulation mean? I purchase batches of shares each month over a period of months, rather than buying Company X in March and then Company Y in April. This helps to smooth out price volatility (which is especially valuable in the current market) and is helped along by the fact most brokerages now offer cost-free trades.

There are different ways this could be applied to balance allocations and find a healthy amount of diversification. I take a bottom-up approach to investing. Rather than invest in themes or baskets I dig into the nitty gritty and pick my spots. Right or wrong, that gives me confidence to own larger positions in fewer companies.

My top holding comprises about 25% of my portfolio, while my top three holdings comprise about 55% of my portfolio. I’m actually still building a position in my top holding, although the allocation as a percentage of my overall portfolio should remain about the same. I feel comfortable with the positions in my second- and third-largest holdings for now, which have run-up quite a bit in the last year or so.

At a higher level, my portfolio leans heavily toward pre-commercial drug developers at the moment. These high-risk investments comprise roughly two-thirds of my portfolio. However, since joining 7investing, I’ve made a focused effort to begin building anchor positions in low- and moderate-risk companies to help offset the inherent risks of owning pre-commercial drug developers. I expect to accumulate positions in these over time, but I don’t necessarily have any targets in mind. These positions currently comprise about 30% of my portfolio and include Repligen, Xcel Energy, Certara, and others.

Image Source: Pixabay

What happens if…

My current portfolio weighting could create future allocation dilemmas. For example, my top holding is a pre-commercial drug developer. If the business executes and the stock erupts higher, then it would comprise significantly more than 25% of my portfolio. Would this make me uncomfortable?

Well, one of my financial goals this decade is to buy land and build a home. City-living and concrete jungles just ain’t for me; I belong in the woods (make room for me in Montana, Steve!). Besides, after living in apartments and renting houses, I’ve realized most people don’t share my appreciation for details. I’d rather build a home that’s somewhat futureproof, lives up to my unique specifications, and maybe has some cows.

Therefore, in the event my current top holding roars higher, then that just accelerates that personal financial goal. It’s very important to point out that I haven’t built out my top holding with the expectation that it will roar higher. Drug development is risky and I acknowledge that this investment might not pan out for any number of reasons.

My personal goal of owning a house in the woods doesn’t hinge on any single stock investment. Although I intend to sell part of my portfolio when the time is right, I also sock away cash each month with the same goal in mind. Therefore, in the event my current top holding sinks lower, then that doesn’t squander my financial future, either.

Investing is personal, but there are many paths

Just as you can start your own business at 25 or 52, or pay off your debt at 27 or 72, there’s never a right or wrong time to begin investing. You’re not late. You don’t have to compare yourself to what others are doing. Everyone travels their own path and has their own unique life goals. Investing is personal.

Although I’d argue there are wrong ways to buy stocks and build portfolios, investors who adopt a long-term mindset might not want to stress too much over the exact details. Is it important to think about allocation and diversification? Yes. Is it crucial to maintain strict allocations at all times, constantly rebalance your portfolio, and own 25 stocks because some guy on the internet said so? Definitely not. The important thing is that you’re investing in your future.

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