In the financial services industry we constantly hear different jargon and phrases, and one phrase often quoted as it relates to an individual’s finances is: “don’t put all your eggs in one basket”. The saying has been around for centuries, and can be traced back to printed text in the 1660’s. The phrase essentially states that concentrating all of your prospects or resources in one thing or place can be detrimental because the risk of losing everything increases drastically. Simply put, diversification of prospects or resources can help eliminate concentration risk. We recognize a lack of diversification in one’s investment holdings can cause the individual to take on undue risk. The issue we want to address is the misuse of the term “diversification”.
How LBW See’s It
When speaking with prospects, clients, or anyone who will listen, about LBW’s investment framework we may begin the conversation talking about one of the forefathers of value investing, Benjamin Graham. Graham wrote a book titled “The Intelligent Investor: The Definitive Book on Value Investing” and in that book, he brought to light the concept of “Mr. Market”. Who is “Mr. Market”? It is probably best described by Graham himself:
“Imagine that in some private business you own a small share that cost you $1,000. One of your partners, named Mr. Market, is very obliging indeed. Every day he tells you what he thinks your interest is worth and furthermore offers either to buy you out or to sell you an additional interest on that basis. Sometimes his idea of value appears plausible and justified by business developments and prospects as you know them. Often, on the other hand, Mr. Market lets his enthusiasm or his fears run away with him, and the value he proposes seems to you a little short of silly
If you are a prudent investor or a sensible businessman, will you let Mr. Market’s daily communication determine your view of the value of a $1,000 interest in the enterprise? Only in case you agree with him, or in case you want to trade with him. You may be happy to sell out to him when he quotes you a ridiculously high price, and equally happy to buy from him when his price is low. But the rest of the time you will be wiser to form your own ideas of the value of your holdings, based on full reports from the company about its operations and financial position.”