How many varieties of banana have your ever had? Probably one, even though there are dozens that you could have. Does that thought keep you awake at night? Maybe it should.
It shows a risk to our financial futures.
In the mid 1900s the Gros Michel banana variety disappeared as the result of Panama Disease. Gros Michel was the only variety exported at the time. It was replaced by the Cavendish, the current champion of exported bananas.
Now the Cavendish too is threatened with extinction. Not exactly threatened. Experts say it is certain to become extinct. This time Tropical Race 4 is the culprit.
Why does that keep us awake? The Cavendish and the Gros Michel before it, are monoculture plants. They have too little genetic diversity to survive an attack. Monoculture is efficient and successful when it works but decidedly weak when anything goes wrong.
Like your stock portfolio.
If you have invested all your money in Apple for the past decade you have done well, but then so have Cavendish bananas. It does not always work out.
If, on 26 July 2000, you invested all your money in Nortel stock you would have been buying a big winner from the previous decade.
Winners don’t last forever. If instead you had invested the same sum in beer, and drank it, a year later the empties could have been returned for more than the Nortel stock was worth by then.
That sad tale points to two problems.
- All stock purchases are two decision problems. When to buy and when to sell. Selling is a harder decision because it has significant emotional baggage.
- Concentration in a stock, or an industry, or a country, or a financial trick, can fail because the environments are similar to the monoculture idea with plants. Any unseen problem can harm them all.
So diversify. It is not the way to make the most money, but it is a formula way to keep from losing the entire crop. I can hear you now. “What about Berkshire? If I owned it for the last 45 years, I would not listen about diversity.”
There are exceptions of course, but can you think of three more Berkshires? In Berkshire’s case diversity is internal. They are not like Apple, or Nortel, LTV, Enron, Worldcom, LTCM, MF Global Holdings, to name a few.
Apple may never fail, and I suppose it is theoretically possible that it can maintain its growth rate, but the future is uncertain. Why play the game?
Better to have a rate of return that provides enough than it is to have one that might return either more than you need or less than you need.
It’s like the children’s story, Goldilocks and the Three Bears. Look for your Goldilocks yield.
“This one is just right!”
Don Shaughnessy is a retired partner in an international public accounting firm and is now with The Protectors Group, a large personal insurance, employee benefits and investment agency in Peterborough Ontario.