A Case for Extreme Patience (#11)

There Are Only Four Aces in a Deck of Cards. Think of your portfolio the same way.

It’s been a LONG time since I’ve found a new company worthy of investment. How long? About 30 months. Sure I’ve added a bit to existing holdings here and there, and early 2020 brought a good buying opportunity that I used to add to existing holdings. But the last new stock I added to my portfolio was way back in January 2019 (and I’ve sold one since that time). Let me explain my philosophy of extreme patience using a deck of cards.

As the subtitle to this article explains, there are only four aces in a deck of playing cards (and four kings, queens, and so on). Okay, everyone knows that. My portfolio currently has just five stock positions plus cash. I like to think I have three aces and two kings in the portfolio.

My main job is to keep searching for the elusive fourth ace. I know it’s there somewhere but the probabilities are slim. Let’s use card math to illustrate:

I have five cards in my hand out of the 52 available in a standard deck of cards. That means there are 52-5=47 cards left. Just one or 1/47 = 2% of the deck is the last ace. I think that’s a pretty good approximation for how hard it is to find a great company to add to an existing portfolio. You need a great business and you need it at a good price. Not easy.

Okay not many people are comfortable owning just five stocks. And the reason I’m comfortable with such concentrations is because one of them…cough cough Omaha (not the poker game)…contains numerous operating subsidiaries.

But say you have 15 positions. If you think of your portfolio like a deck of cards, what’s the absolute best hand you can hold? Well, four aces, four kings, four queens, and three jacks. The next card can’t be an ace, or if it can be because you only hold three to start with, you still only have a 1 / (52-15) = 2.7% chance. And your hand by definition still only has four aces with the rest - again by definition - of lower rank.

Berkshire Hathaway for decades has operated with the top four positions in its portfolio comprising upwards of 50%, 60%, or 70% of its portfolio. Sure the entire portfolio usually includes dozens of names, and the entire conglomerate contains another hundred or so distinct businesses. But the idea of concentration and the rarity of the next good idea is still a guiding philosophy.

That’s the main lesson from this post: great ideas - Aces - are rare. If you think you have a whole portfolio of them you probably don’t; and the next one is going to require a lot of searching and a bit of luck.

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