Why thinking small can lead to substantial rewards

The legendary Warren Buffett puts most of his portfolio into just six companies. Two experts give their top picks

The world’s best investors know what they like. More than three quarters of Warren Buffett’s portfolio is held in six shares, and more than 50 per cent in Kraft Heinz, Wells Fargo and Coca-Cola (you couldn’t get more American).

Although the iconic fund manager holds shares in nearly 50 companies, he makes most of his multibillion-dollar profits from a handful of favourites.

Building a concentrated portfolio — a sort of DIY Buffett fund — will always appeal to higher-conviction private investors, but it’s a risky game.

Kraft Heinz makes up a large part of Warren Buffett’s investment portfolioREUTERS

Graham Spooner, an investment research analyst at The Share Centre, the stockbroker, says: “When there is hard evidence that fund managers such as Warren Buffet get most of their returns from a concentrated portfolio, it’s natural for individual investors to question whether this may be the right approach for them. Concentrated portfolios generally consist of six to ten stocks, and while this does have its advantages, there are limitations.

The biggest problem is the lack of diversification and the increased level of risk that goes with that. In addition, there is the risk that investors could be missing out on enhancing and developing their portfolio by not looking at or reacting to new buying opportunities. “Still, concentrated portfolios could be the perfect approach for those with hectic lifestyles. By focusing on a smaller number of shares, investors can conduct directed research, ultimately increasing their understanding and expertise.”

Rachel Winter, a private client broker at Killik & Co, another stockbroker, says: “For growth investors who wish to invest in individual equities, I think a selection of 10 to 15 stocks works well. This allows a sufficient level of diversification across different market sectors, but is not so many that it becomes impossible to keep track of everything you hold. Furthermore, in a 15-stock portfolio a large unexpected loss on one stock should not have too devastating an impact on the overall valuation.”

Times Money was keen to see how the experts would invest their own money if required to commit to only six shares.

Graham Spooner, Share Centre
GlaxoSmithKline “The pharma giant makes products that will be in demand, given the world’s growing population. The defensive nature of the sector and stock, and the competitive yields paid to investors, make it a solid choice for me. Future improvement should be driven by new products, diversification in consumer healthcare and biotechnology, and increasing exposure to emerging markets.”

2 Compass “This is the world’s largest contract caterer, providing food and other services to customers in 50 countries. It’s also the owner of Costa Coffee franchises. My reason for choosing it: people will always need food. The business looks financially sound and expects to keep seeking small and medium-sized companies it believes will support its present portfolio.”

3 Reckitt Benckiser Group “Reckitt produces a number of well-known brands and products [including Dettol, Durex and Strepsils] generally considered as everyday necessities in developed markets, and sales of these products will not vary hugely through the economic cycle. This results in a steady earnings and cashflow stream.”

4 Royal Dutch Shell “The oil giant has been going through significant capital-investment programmes, which should lead to cost efficiencies, increased production capacity and higher cashflows. Shell suffered from the recent oil price fluctuations, so I would choose it with the hope to benefit from the longer-term recovery in the oil price.”

5 Prudential “This global life insurer continues to develop its Asian arm and is the leading European insurance player in that area, with the region accounting for half the group’s business. The demographics of many Asian regions and the rise of the middle class should provide a good growth story for Prudential for some time.”

6 Saga “It offers a range of products and services for the over-fifties, including holidays, insurance and magazines. Although the company is primarily geared for income seekers, the potential for the group to continue to benefit from the increasingly important over-50s market and its brand name will hopefully lead to steady long-term growth.”

Rachel Winter, Killik & Co
Atkins “Atkins is a global design and engineering consultancy with expertise in infrastructure. Past projects include Miami Port and the London 2012 Olympics. Global spending on infrastructure looks set to rise, with the UK investing in Crossrail and both US presidential candidates pledging to raise spending. The stock trades on a low price earnings ratio and offers a reasonable dividend yield.”

2 Walgreens Boots Alliance “The pharmaceuticals giant, which owns Boots, should be a key beneficiary of rising healthcare expenditure and ageing populations. It’s in the process of completing an acquisition that will make it the largest pharmacy chain in the US. That should present opportunities to cut costs, and its subsequent 26 per cent market share should give it more power to acquire drugs cheaply.”

3 Prudential “Despite being listed in London, Prudential expects most of its future growth to come from Asian markets. Although it’s already the market leader in Asia, insurance penetration across the continent remains low, giving Prudential scope for growth. The price-earnings ratio is notably lower than the FTSE 100 average.”

4 Visa “Consumers have historically paid for large purchases with their cards and small purchases in cash, but the introduction of contactless payments has led to a rise in the volume of debit-card transactions. “Visa charges a per-transaction fee as well as taking a percentage of the value, so should continue to benefit as contactless is adopted in the US, and as payment technology in general is adopted across emerging markets.”

5 Alphabet “Google’s parent company makes most of its revenue from digital advertising, and expenditure in this space continues to grow quickly. The company owns other well-known products, such as YouTube, Google Maps, Android and Chrome, and is expected to become a significant player in cloud computing. “Its Other Bets division invests in other potentially high-growth areas such as robotics and artificial intelligence.”

6 Facebook “The social network’s shares may have doubled in price over the past two years, but we still don’t think they look overvalued. In fact, although they have done nothing but rise this year, the rapid growth in the company’s profits means that the company’s shares are less expensive than they have been previously. “Facebook has become one of the world’s most recognised brands, and its management have been extremely successful in monetising it.”