The Wealth-Limiting Risks Of Diversifying Too Soon – Redwoods, Bushes, and Pear Trees

NOVEMBER 22, 2017 07:01 AM


Good diversification is a staple of financial planning advice, though the principle long pre-dates financial planners. From the aphorism “don’t put all your eggs in one basket”, to Talmudic texts from 3,000 years ago directing people to split their wealth evenly between cash, real estate, and business, the virtue of limiting exposure to risk from diversification is an “accepted truth”.

Except the reality is that, when you look to those who achieve the greatest wealth or have the greatest impact, virtually none of them ever diversify… or at least, not throughout most of their years. After all, if Bill Gates had “just” diversified into the S&P 500 after Microsoft IPO’ed, he’d have barely 1/40th of the wealth he does today. In fact, most of those on the list of the richest billionaires are people in their 60s, 70s, or 80s, who have held a concentrated interest in their businesses for nearly their entire lives. Like the redwood tree, they waited a very, very long time before branching out… and as a result, were able to grow the tallest.

Of course, that doesn’t mean that diversification is always bad. Most “trees” are actually short bushes and shrubs, that grow just a few feet tall, but are still able to broaden their shoots and leaves enough to grow healthy. In the investing context, it’s the equivalent of a person who diligently saves and invests in a portfolio for decades, and retires with “comfortable wealth”.

Still, it’s important to recognize that diversification isn’t literally always the winning strategy, and for those who are young and have a long time horizon, arguably not even a necessary one. In fact, the weakest tree is the Bradford Pear – known for growing a V-shaped trunk, effectively diversifying itself from the start… in a manner that virtually ensures the tree will eventually either collapse under its own weight, or succumb to external forces.

For those who have decided they have had “enough”, the satisfying strategy of the bush may be just fine. But for those who decidedly want to generate more wealth or have more impact, perhaps the redwood strategy is underrated after all? In fact, the highest-risk losing strategy may actually be the pear tree strategy of trying to have it both ways at once!

Bushes, Pear Trees, and Redwoods

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