The “How to invest like an alchemist” line was inspired by an old article by Ed Croft at Stockopedia.
In it, Ed makes the point that the individual stocks within a portfolio don’t necessarily need to have all of the characteristics that you’re looking for at the portfolio level.
So if you’re looking to build a portfolio that has an above-average yield with above-average growth and below-average risk (for example), you don’t necessarily have to try to build it by finding 30 or so stocks where each stock has all of those characteristics.
As Ed puts it:
The stocks that make up the ‘ideal’ portfolio have extremely divergent individual characteristics. Some may have strong 1 year momentum, some may be deep value, some may be extremely profitable and most will have some kind of strong blend of several of the factors – but none or few will show all.
It’s a somewhat counter-intuitive idea, and my first analogy was that of baking a cake, where none of the component parts of a cake (flour, sugar, salt, butter and so on) look like a cake, but once they’re mixed together in the proper proportions and baked in an oven – hey presto, you have a cake.
And then I thought of the alchemist, making gold out of lead, which sounded cooler than “invest like a baker”, so I went with alchemist in the title instead.
Either way, it’s an important insight for those who don’t just want to own one type of company, but instead want to “fish” in as big a “pond” as possible.
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Good point, John. If anything, I think it should be actively pursued to avoid targeting companies with just one profile.
At the moment I have been making shifts towards more high dividend growth rather than high dividend yield companies. Previously I had focused on the latter. This has meant that my portfolio yield generally has dropped noticeably. However, my long-term portfolio yield should continue to grow.
I now have a portfolio which has a yield of 4% and a predicted dividend growth rate of over 5%. If I had stuck to the high-yielders I would have had a higher yield–certainly–but much slower growth.
It is a little alchemical, I suppose. Though I suspect it has slightly higher odds of success than alchemy!
Hi DD, yes hopefully a lot better than alchemy.
I think having a homogeneous portfolio is fine; it’s kind of what FundSmith does.
But personally I’d rather have a real mix of companies to make the process of investing more interesting and to benefit from their weak correlations (i.e. some go up while others go down, so sell what has gone up and buy what has gone down… although that’s a very crude oversimplification).
What a creative definition of a smart investment technique! A mystery unknown to mankind. A mix of ingredients that are very different from each other and yet, when combined, yield superb results. However, not every cake turns out to be tasty. Especially if you try new exotic recipes. The same in investing: industry-proven methodologies might not be super exciting, but there is a high chance that they will work.