Bill Ackman's Portfolio Strategy: Should You Ditch Diversification?

One of the most popular ways investors get ideas for stocks to take a closer look at is by examining what stocks billionaires own.

Hedge fund manager Bill Ackman is a unique case, because while most billionaire money managers maintain portfolios of dozens of stocks, Ackman doesn't. In fact, you can count the number of different stocks Ackman invests in on two hands.

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With that in mind, here's a closer look at Ackman's stock portfolio and whether it's as important to maintain a diversified portfolio as you may have heard.

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Bill Ackman's stock portfolio

Bill Ackman manages the Pershing Square Capital Management hedge fund, which has roughly $12 billion worth of stocks in its portfolio. But it often surprises investors that the entire portfolio is invested in just 10 stocks, two of which are relatively small investments.

In fact, about half of Ackman's capital is invested in just three stocks: Uber (NYSE: UBER), Brookfield Corporation (NYSE: BN), and Howard Hughes Holdings (NYSE: HHH).

In a nutshell, Ackman is very thorough in his research and only puts money into stock in which he has a very high conviction. He will regularly release elaborate presentations to investors detailing the rationale behind each trade and has historically produced excellent long-term results. Since the fund's inception in 2004, Ackman has generated 15.9% annualized returns for his long-term investors.

Isn't diversification a good thing?

Diversification can be a good thing. Of course, putting too much of your money into any single stock can result in large swings in your portfolio, and the same can be said about investing too much in any single industry.

On the other hand, it can make sense to not diversify if you know a certain industry or type of stock very well. For example, if you understand artificial intelligence deeply and are confident in your abilities to evaluate AI stocks, it can make sense to have more of your money concentrated in that area.

It can also make sense to not diversify if you don't understand certain industries well. Warren Buffett tends to avoid technology stocks, for example.

Speaking of Buffett, he has a famous quote on diversification, saying that it is "protection against ignorance," adding, "It makes little sense if you know what you're doing." Other experts use the term "deworsification" to describe overdiversifying a portfolio beyond what is necessary.

Should you be diversified or concentrated?

Whether you should be diversified or concentrated depends on how knowledgeable you are when it comes to investing, whether you know certain areas of the stock market better than others, and other factors. But the key takeaway is that there isn't one correct approach.

As a personal example, I own about 35 to 40 stocks at any given time, but know the financial and real estate sectors best, so you'll find about 40% of my stock portfolio invested in them. On the other hand, there's absolutely nothing wrong with spreading your money around if being too concentrated is beyond your comfort level.

To be perfectly clear, a concentrated portfolio approach is inherently riskier than a diversified one. The majority of investors should exercise extreme caution before allocating a lot of money to any single stock or industry.

As a final thought, Bill Ackman is not only an excellent investor but also has a lot more risk tolerance than the average person, in the sense that he could lose a lot of money and still be a billionaire. The same goes for Warren Buffett, who has about two-thirds of Berkshire Hathaway's (NYSE: BRK.A)(NYSE: BRK.B) portfolio invested in a handful of stocks, or any of the other investing heavyweights. It's important to take your own expertise and risk tolerance into account.

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Matt Frankel has positions in Berkshire Hathaway, Brookfield Corporation, and Howard Hughes. The Motley Fool has positions in and recommends Berkshire Hathaway, Brookfield, Brookfield Corporation, Howard Hughes, and Uber Technologies. The Motley Fool has a disclosure policy.