Whether you're buying a new stock or adding to an existing position, one of the most difficult parts of investing is deciding how much money you should allocate to the stocks in your portfolio.
In this video, recorded on Oct. 29, senior technology specialist Daniel Sparks and Fool Live "The Wrap" host Jason Hall take a look at Motley Fool co-founder David Gardner's approach to position sizing when buying stocks.
Jason Hall: Daniel, I'd love to hear your little rehash of David Gardner's Six Traits of Rule Breaker Investors, trait 5.
Daniel Sparks: Yeah, I just wanted to reassess his traits. Every now and then, I'll go back, I love how simple he keeps things and it just really helps investors focus on the long term. Trait 5 of his Six Traits for Rule Breaker Investors, is simply to keep a 5% max initial position. I think that this is really helpful to think about because there's a lot of implications behind it. First of all, one of the things David likes to do is let his runners run. When you have an initial position that's 5%, then your winners have to really earn their large position in your portfolio, and I really like that idea.
I also like it because if you start with five and it's a loser, it's not going to have a huge impact on your portfolio, so what happens over a long period of time, and I think Danny and maybe you, Jason, have a few personal stories -- I know Danny has shared some where amazing winners have become a larger portion of their portfolio -- but then the thing is, they've continued to win as those large positions, and so can really help an investor over a year period. The other assumption behind it is, he says, "Five percent max initial position." Another one of the traits of a Rule Breaker is to add to your winners. What he's saying there is, if you have a stock that's going up and you see the execution in the business, don't be afraid to add to that winner over time and make that into a bigger position. From there, it gets very personal to decide how big you want to make it. But anyway, just a really cool way to think about portfolio allocation, which I know is a hot topic for any investor, something we're always thinking about.
Jason Hall: I'm going to bullet-point that. The idea is to start small, so it doesn't matter if it doesn't work out, and if it goes great, it's meaningful, and then water your weeds -- or water your flowers and trim your weeds. That's the idea. I love it.
Daniel Sparks: Absolutely.
Jason Hall: Absolutely love it.
Daniel Sparks: I'll just throw one more thing in here, he has a quote he says a lot of times, "Buy excellence, add excellence, and sell mediocrity," which basically sums up exactly what you just said.