The question of how many stocks constitute an optimal portfolio is a perennial debate in investment management, one recently revisited by the analyst TacticzH. While academic theory provides a quantitative starting point, the practical answer is far more nuanced, shaped by an investor’s strategy, resources, and the evolving structure of modern markets. Striking the right balance is critical; too few holdings invite ruinous idiosyncratic risk, while too many can lead to a state of expensive, unfocused ‘di-worsification’ that merely tracks an index with none of the benefits of a low cost passive vehicle.
Key Takeaways
- The classic guidance of holding 20-30 stocks to eliminate most idiosyncratic risk remains a valid starting point, but its efficacy is being eroded by rising intra-market correlations.
- Portfolio construction should prioritise factor, sector, and geographical diversification over a simple stock count. A portfolio of 30 highly correlated technology stocks is not diversified.
- The investor’s own capacity is a critical, and often overlooked, variable. The optimal number of holdings is directly linked to the time and expertise available for due diligence and ongoing monitoring.
- For alpha-seeking investors, a potential future lies in combining hyper-concentrated equity portfolios (e.g., 10-15 high conviction names) with a sleeve of genuinely uncorrelated alternative assets, rather than holding a broadly diversified but ultimately index-hugging collection of stocks.
The Limits of Theoretical Diversification
The foundational principle of diversification is rooted in Modern Portfolio Theory, which distinguishes between two types of risk: systematic (market) risk and unsystematic (idiosyncratic) risk. Systematic risk, driven by macroeconomic factors, cannot be diversified away. Unsystematic risk, which is specific to a company or industry, can be mitigated by adding more assets to a portfolio. The conventional wisdom, supported by numerous studies, is that the benefits of adding more stocks diminish rapidly after a certain point. As the data suggests, a significant portion of diversifiable risk is neutralised with a surprisingly small number of well-selected securities.
| Number of Stocks | Approximate Reduction of Unsystematic Risk |
|---|---|
| 1 | 0% |
| 10 | ~77% |
| 20 | ~89% |
| 30 | ~92% |
| 50 | ~95% |
Source: Adapted from analysis by the CFA Institute and Investopedia.1,2
However, these figures carry a significant modern-day caveat. In an era where passive investment vehicles and the dominance of a few mega-cap companies drive market behaviour, correlations between stocks have been rising.3 This means that the diversification benefit gained from each additional stock is arguably less than it was in previous decades. Holding 30 stocks today may not provide the same risk reduction it did 20 years ago if their price movements are increasingly synchronised by broad market flows.
The Practitioner’s Framework: Conviction vs. Cognition
Beyond the mathematics, the optimal number is a function of strategy and human limitation. An investor’s ability to generate alpha is not derived from owning many stocks, but from having superior insight into a select few. This brings two competing pressures into play: the need for conviction and the reality of cognitive bandwidth.
The Case for Concentration
Legendary investors like Warren Buffett and Charlie Munger have long championed highly concentrated portfolios, arguing that one’s best ideas should receive a disproportionate amount of capital. A portfolio of 10 to 15 stocks reflects extreme conviction. It demands profound, ongoing research into each holding’s business model, competitive landscape, and valuation. For the manager or individual with genuine informational or analytical edge, concentration is the most direct path to significant outperformance. The trade-off, of course, is a greater vulnerability to single-stock blow-ups, making the quality of due diligence paramount.
The Drag of Di-worsification
At the other end of the spectrum lies the overdiversified portfolio, often containing 50, 100, or more stocks. Such a portfolio almost inevitably begins to mirror the performance of a broad market index, but with the added burdens of higher transaction costs, greater complexity, and the illusion of active management. It is nearly impossible for a single investor or even a small team to maintain a deep, proprietary view on such a large number of companies. The result is often a collection of holdings where the impact of the best ideas is diluted by the mediocre ones, a phenomenon aptly termed ‘di-worsification’.
A More Sophisticated Approach
The debate over a single number is ultimately a red herring. True portfolio resilience is not achieved through counting stocks, but through deliberate construction across multiple dimensions.
First is the consideration of **factor exposure**. A portfolio of 30 stocks is poorly diversified if all of them are high-beta, US-based technology growth companies. A more robust approach involves blending exposures across factors like value, growth, quality, momentum, and low volatility. Similarly, genuine diversification requires a thoughtful allocation across different **sectors and geographies** to avoid being overexposed to a single economic regime or regulatory environment.
Perhaps the most salient point for modern allocators is the growing importance of looking beyond equities. As stock correlations rise, the marginal benefit of adding another stock declines. The real diversification benefit may now be found by incorporating assets with low or negative correlation to the equity market.4 For instance, a more resilient portfolio might consist of a more concentrated basket of 15-20 high-conviction stocks, paired with allocations to assets like managed futures, private credit, commodities, or absolute return strategies. This challenges the traditional 60/40 model and suggests that a smaller number of stocks may be optimal, provided the portfolio is diversified at the asset class level.5
Ultimately, there is no universal answer. The ‘perfect’ number is a dynamic figure that depends entirely on the investor’s objectives and constraints. A passive investor is best served by a low-cost index fund containing thousands of stocks. A highly skilled active manager may find their optimum is fewer than 15. For most active retail investors, a range of 20 to 30 well-researched, genuinely different businesses remains a sensible starting point.
The closing hypothesis to consider is this: as markets become more efficient and correlated, the traditional ‘diversified’ active equity portfolio of 30-50 stocks may become the worst of all worlds—too concentrated to be safe, yet too diffuse to generate meaningful alpha. The future of active management may belong to the specialists who run highly concentrated portfolios, leaving broad diversification to be achieved at the asset allocation level, not the stock selection level.
References
1. Evans, J. L., & Archer, S. H. (1968). Diversification and the Reduction of Dispersion: An Empirical Analysis. The Journal of Finance, 23(5), 761–767. Summarised and updated in various publications, including Investopedia’s “The Illusion of Diversification”.
2. CFA Institute. (2021, May 6). Peak Diversification? How Many Stocks Best Diversify an Equity Portfolio? Retrieved from https://blogs.cfainstitute.org/investor/2021/05/06/peak-diversification-how-many-stocks-best-diversify-an-equity-portfolio/
3. Livemint. (2024, November 13). What is the ideal number of stocks you should have held in your portfolio? Retrieved from https://www.livemint.com/market/stock-market-news/what-is-the-ideal-number-of-stocks-you-should-have-held-in-your-portfolio-11750843180377.html
4. Kiplinger. (2023, November 29). To Diversify, Think Beyond the Basic Stock-Bond Portfolio. Retrieved from https://www.kiplinger.com/investing/to-diversify-think-beyond-the-basic-stock-bond-portfolio
5. Kiplinger. (2024, August 2). The 60/40 Portfolio Rule of Investing. Retrieved from https://kiplinger.com/investing/the-60-40-portfolio-rule-of-investing
6. @TacticzH. (2024, December 3). [What’s the perfect amount of stocks to have in your portfolio?]. Retrieved from https://x.com/TacticzH/status/1921272414370959456
