If we compare
the performance of Portfolio A versus Portfolio B, one can immediately analyse the impact of portfolio weighting on the final portfolio performance. By merely playing deftly with the portfolio weightages, an investor can improve the overall portfolio performance immensely. While there is no sure shot way of knowing which stocks will outperform the others in the portfolio, a seasoned investor usually invests a significant portion of the portfolio on the stocks that are high on his/her conviction list. Ideally, a portfolio should be weighted in direct proportion to how much confidence you have in each pick. Goes without saying that if an investor has a lot of confidence in the long term outlook and the valuation of a stock, then it should be weighted more heavily than a stock which is being included in the portfolio by the investor simply for diversification purpose only. If investors find it too complicated to properly allocate weightages to individual stocks, a simple portfolio weighting strategy that can be adopted is “equal weightage strategy”. Equal weight is type of weighting that gives similar weightage or importance to each stock in the portfolio. In an equal weighted portfolio, the smallest of companies are given the same weightage as the large-cap companies. For similar stocks portfolio such as Portfolio A and Portfolio B, if
equal weightage strategy is adopted, the performance is nothing short of impressive. Logically, why equal weighted portfolio may outperform is easy to analyse. In equal weighted portfolio, an investor will tend to give similar weightage to small-cap, mid-cap and value stocks as to the large-cap growth stocks. Historically, it is proven that small-caps and mid-caps have provided better returns than large-caps, and hence, there is a better chance of
portfolio outperformance. Another benefit of equal weighted portfolio is that equal weighting results in broader sector participation.
In an attempt to beat the markets, investors are so focused on identifying the right stocks that they ignore two of the most crucial aspects of portfolio management viz., portfolio weighting and investment horizon. No wealth will be created if an investor purchases a right share at right price but allocates minimal weight to the stock in the portfolio and sell the same share within a few months of purchasing it.
It is crucial to understand that a good share, when included in the portfolio, should be given enough time to generate
returns. Most investors end up buying a right share at the right time, but selling it prematurely.
All the three parameters such as portfolio stock selection and market timing, portfolio weighting and ability to stay invested for long-term will determine the portfolio returns in real sense over a period of time. Investor ought to give adequate weightage for all the three parameters in order to beat the markets consistently over a period of time.
It is important that investors maintain a strategic perspective in an globalised investing world. Often, the most powerful investment ideas are simple ones. Choosing a standardised weighting option is unlikely to be the best weighting option for investors. However, if an investor is not sure of conviction stocks and is unsure of which stocks to be given higher weightages, then adopting an equal weightage strategy seems like a good strategy to adopt for beating the key benchmark indices such as Nifty and Sensex.