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Sizing the bets in a focused portfolio

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  • Vuko Vukcevic
  • Robert Keser

Abstract

The paper provides a mathematical model and a tool for the focused investing strategy as advocated by Buffett, Munger, and others from this investment community. The approach presented here assumes that the investor's role is to think about probabilities of different outcomes for a set of businesses. Based on these assumptions, the tool calculates the optimal allocation of capital for each of the investment candidates. The model is based on a generalized Kelly Criterion with options to provide constraints that ensure: no shorting, limited use of leverage, providing a maximum limit to the risk of permanent loss of capital, and maximum individual allocation. The software is applied to an example portfolio from which certain observations about excessive diversification are obtained. In addition, the software is made available for public use.

Suggested Citation

  • Vuko Vukcevic & Robert Keser, 2024. "Sizing the bets in a focused portfolio," Papers 2402.15588, arXiv.org.
    • Handle: RePEc:arx:papers:2402.15588
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    References listed on IDEAS

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    1. Bernhard K Meister, 2023. "Gambling the World Away: Myopic Investors," Papers 2302.13994, arXiv.org.
    2. Bernhard K Meister & Henry C W Price, 2023. "A quantum double-or-nothing game: The Kelly Criterion for Spins," Papers 2308.01305, arXiv.org.
    3. Sergey Lototsky & Austin Pollok, 2020. "Kelly Criterion: From a Simple Random Walk to L\'{e}vy Processes," Papers 2002.03448, arXiv.org.
    4. Tim Byrnes & Tristan Barnett, 2018. "Generalized Framework For Applying The Kelly Criterion To Stock Markets," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 21(05), pages 1-13, August.
    5. Tim Byrnes & Tristan Barnett, 2018. "Generalized framework for applying the Kelly criterion to stock markets," Papers 1806.05293, arXiv.org.
    6. Nick James & Max Menzies, 2023. "Portfolio diversification with varying investor abilities," Papers 2311.06519, arXiv.org, revised Dec 2023.
    7. Anton V. Proskurnikov & B. Ross Barmish, 2023. "On the Benefit of Nonlinear Control for Robust Logarithmic Growth: Coin Flipping Games as a Demonstration Case," Papers 2303.10417, arXiv.org, revised May 2023.
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