There are conflicting themes to investing. One is to spread your risk and another is to invest in what you know. Both have their pros and cons. One of the main cons to investing in what you know, as it can trigger a concentration in your account; concentrations create additional risks for investors.
What defines a concentration? At Security National Bank, we define a concentration based on the type of asset. A mutual fund is a concentration if it comprises more than 20% of your total portfolio; an individual security is a concentration if it makes up more than 10% of your overall account. Why different thresholds? We set a higher limit for mutual funds because they are more broadly diversified than just an individual stock or bond. And, these are just the main criteria. We also look at industry exposure, geographic diversification, and a number of other factors to insure our clients are well-diversified.
One can have a concentration in his or her account for various reasons. One reason is personal choice. For example: if a worker was employed at Exxon and thought it a good company, he or she might want to load up on Exxon stock because of familiarity with the company. Another reason is due to the appreciation of an asset over time. An asset can become a concentration in your account simply because it has performed well compared to the other holdings.
When an asset is or becomes a concentration, it creates additional risk for the account. Yes, having your account concentrated in an asset during the good times can do wonders for your performance, but what about during the bad times? That is why we believe it is best to have a diversified portfolio and spread your risk over multiple asset classes, market sectors, and individual holdings to avoid having too many eggs in one basket.
To help our clients reduce their concentration risk, we conduct an internal semi-annual concentration review. This helps us to identify accounts with concentrations and allows us to monitor changes to ensure appropriate actions are taken.
Contact your Wealth Management Advisor today to schedule a review of your accounts to make sure you are not concentrating too much with your investments.Back to Articles