Why Diversification Results In Mediocrity(gigaom.com)
gigaom.com
Why Diversification Results In Mediocrity
http://gigaom.com/2009/07/12/diversification-mediocrity/
3 comments
In the large he's pretty much wrong. In the small, like a startup, of course you have to focus, otherwise you are pretty much dead. However, if you invest in publicly traded mutual funds, the returns from an indexed fund beats nearly all managed funds due in part to the differences in commissions. In agriculture, monoculture is riskier than diversified agriculture, e.g. the Irish potato famine, or the imminent failure of the Cavendish banana. The financial crash was due to everyone following just a few strategies. Even VCs try to diversify their holdings.
His point about understanding each individual investment is good, but if you cant, diversification is a good strategy.
His point about understanding each individual investment is good, but if you cant, diversification is a good strategy.
> I believe an investor can leverage knowledge he has about a particular industry or company to beat the average on a risk-adjusted basis.
If that were true, wouldn't mutual funds be able to find full-time pro managers who can consistently outperform index funds?
If that were true, wouldn't mutual funds be able to find full-time pro managers who can consistently outperform index funds?
Also see the following: Didier Sornette and Daniel Zajdenweber, The economic return of research: the Pareto law and its implications, European Physical Journal B, 8 (4), 653-664 (1999)
here: http://xxx.lanl.gov/abs/cond-mat/9809366
There's also an excellent (and old) study on whether restaurants with specialized menus did better than restaurants with diverified menus. Turns out the specialized ones did well in the short term, but were vulnerable to sharp changes in taste by patrons. The more diversified ones had much higher longevity but did relatively poorly in the short term. I can't find the reference right now.
Finally, this "Fox vs. Hedgehog" problem is widely studied, and the research shows that the decision is very dependent on the market and domain - i.e it is difficult to generalize.