Although there isn’t necessarily a correlation between concentrated portfolios and outperformance, a high conviction approach may be able to help salvage returns in a bear market, according to Morningstar.
In an article on the Morningstar website, fund analyst Andrew Miles said that an analysis of large-cap global equity managers revealed that there was not a “strong relationship between the degree of concentration and positive excess returns”.
“Portfolios with fewer than 50 stocks have more-dispersed excess returns, but the majority of these are negative,” Mr Miles wrote.
“As the number of holdings increase, the dispersion declines, but the negative bias persists. For portfolios in the 150–300 range, the excess returns are clustered between 0 per cent and negative 5 per cent.”
However, he indicated that an “interesting relationship” existed in between returns in a bull market as compared to a bear market.
“In a bull market, when the index is rising, strategies tend to have a higher correlation, so managers' returns behave similarly to the benchmark in buoyant markets.
“Interestingly, in a bear market, when the index is falling, the correlations are more dispersed and tend to be lower, which is [a] positive trait for the more concentrated manager, many of whom exhibit a quality bias that should help protect on the downside,” Mr Miles wrote.
He also warned that while some portfolios might appear diversified on the surface, they could be exposed to similar risks.
For example, Grant Samuel’s Epoch Global Equity Shareholder Yield fund has “a diversified portfolio” of 90-120 stocks
“However, Epoch's penchant for high-dividend-paying stocks can make it susceptible to singular risks, such as changes in interest rates.
“We wouldn't advise trying to pick a global equity strategy based on the future direction of interest rates in the short term, but it is worth noting the types of stocks in a portfolio and their sensitivities to particular risks.”
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