Warren Buffett on Concentration

Buffett argued that broad diversification is a strategy for the investor who does not understand businesses, and that the informed investor is better served by concentration. He wrote that if an investor genuinely understands a small number of companies, the risk-reward of owning those companies in size is superior to diluting conviction across many names whose economics are less clear.

On concentration as the corollary of genuine understanding.

Buffett wrote that Berkshire's policy was to hold a small set of businesses it understood and admired, and that the test for inclusion was not whether a position had risen in price but whether the underlying business still met the original standard. He compared the portfolio to a group of permanent holdings — the kind of business one would be content to own if the stock market closed for a decade — and warned that the temptation to trade in and out of such businesses was the chief way owners harm themselves.

On the 'permanent holdings' framing and the futility of trading wonderful businesses.

Buffett argued that diversification, beyond a point, is a concession that the investor does not understand the businesses. He wrote that anyone who understands a handful of industries can do well by concentrating in them, and that broad diversification is primarily a defense against the consequences of ignorance — necessary for the uninformed, but a drag on the returns of those who genuinely know what they own.

The 'diversification is protection against ignorance' framing.