City vs Retail Investors, Small Caps and Number of Holdings

In his book "The Zulu Principle" Jim Slater writes;

In the investment game you will be up against full time professionals who eat, drink and sleep investment. They have readier access to the companies in which they are likely to invest, more general information at their disposal and they are regularly bombarded with brokers' circulars and investment recommendations. In addition, brokers hoping for more business give the institutions their best possible service and keenest terms.

So you start off at a considerable disadvantage. There is a way to win, but unless you are prepared to dedicate a few hours a week to your investments, you have no hope of succeeding. I suggest an average of half an hour a day - Thirty minutes that I hope you will enjoy.

Comment -I disagree with thirty minutes, I spend considerably longer at the point where I might be called sad - but I believe this is what it takes


Jim Slater goes on...

To compare you need to develop an edge, so let me encourage you now with a few ideas. First you must find a market niche that is under-exploited by the professionals. Most leading brokers, professional investors and institutions concentrate their analytical skills on companies with market capitalisations of USD500 million or more. The reasons for this are obvious. If a broker can produce a good argument for buying or selling a leading stock, institutions will be able to deal in volume, and a large turnover (with hefty commissions for the broker) will be the likely result. The institutions prefer leading stocks because their marketability is better. When they come to take a profit or cut a loss, they can usually deal in volume at a very keen price.

Investment is essentially the arbitrage of ignorance. The successful investor believes he knows something that other investors do not fully appreciate. There is very little that is unknown about leading stocks, so in that area of the market there is hardly any ignorance to arbitrage. GEC, Glaxo and ICI are the subject of hundreds of brokers' circulars every year. In contrast, some smaller stocks are not written up at all and others by only one or two brokers. Most leading brokers cannot spare the time or the money to research smaller stocks. You are therefore more likely to find a bargain (with some ignorance to arbitrage) in this relatively under-exploited area of the stock market. This is a possible niche for you.

The second factor that gives you an advantage over the professionals is that they usually have to invest a massive amount of money. Many of them manage billions. Try to imagine some of the problems you would have looking after a paltry USD500m.

  1. You would find it difficult to invest meaningfully in stocks with smaller market capitalisations. This would be a handicap.
  2. You would have to spread your investments over at least 200 stocks and probably many more. Your 100th stock would be less attractive than your 50th, considerably less attractive than your 10th etc...
  3. As the manager of an institutional portfolio with 200 stocks or more under your control, the incidence of your own input from personal knowledge would be far less. You would be closeted in the square mile for most of your working day instead of being out and about with your eyes and ears open...


The chapter then sets out the guides to stay under "the professionals" radar. The most important one being to aim for stocks that have a market capitalisation of between 30 - 240 million (under 30 million is considered too risky).

Re: City vs Retail Investor - The IC's cover story this week was just that ("You Can Beat the City"). Here are the main advantages they say the Retail Punter has:

  • You can take long term view. City boys have to perform each quarter or else they get the boot, so are restricted to short term opportunities.
  • You have tax advantages. ISAs, spreadbets, CGT allowance, etc.
  • You can take risks/contrarian positions. Institutions cannot as they are accountable to people who would sack them if they did this and it went wrong.
  • You can control your overheads. Institutions have huge overheads which must be paid during bull/bear markets.
  • You can research & trade smaller stocks which large institutions cannot due to liquidity or lack of analyst coverage.
  • You're playing with your own money. There are no conflicts of interest & you have greater incentive to invest it wisely.

Re: Small Stock Risk - If you have 10k in 10 small caps, the risk is, imho, less than having 100k in 1 Blue Chip. If you have 100k in 1 small cap, it's obviously more risky than putting 100k in a blue chip. As long as you manage risk and don't put all your eggs in one basket I do not see a problem.

Re: Number of stocks - When I first started, I held about 40 stocks for 2 reasons.

  1. It minimized risk by diversifying. I did not want to be wiped out by one or two bad stocks going bust whilst I was still learning the game.
  2. It accelerated my learning curve. Having money in 40 stocks & a watchlist of 60 stocks teaches you more then having a portfolio of 10 stocks & a watchlist of 30 can do. However, you need to ensure you have enough time to keep up with current events for all those stocks. I found 40 was the absolute limit and I was working over 100 hours a week on the markets then.

When you feel confident that you know what you are doing, then the fewer stocks the better to maximise your returns, but with greater volatility. To maximise your returns you would stick all your money in your best few stocks. More stocks in theory will decrease your returns since the twentieth stock you add will not be as good as the top 5 stocks in your portfolio, for example, but with 20 stocks if one goes belly up you will not have lost as much of your capital as you would is for example you only had 2 stocks and one went down the toilet out of the blue!

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