The thrill of triple-digit returns from stocks like Gensol Engineering and Mazagon Dock in 2023 was undeniable. But behind these headline-grabbing successes lurks a significant, often overlooked threat: concentration risk.
Concentration risk, simply put, is the danger of over-exposure to a single stock, sector, or investment strategy. While it can amplify gains during bull markets, it equally amplifies losses when things turn sour. In India's booming stock market, where mutual funds manage over ₹55 lakh crore (as of April 2025), this risk is frequently underestimated—until it’s too late.
Recent years have witnessed a surge in Indian retail investors shifting from diversified mutual funds to direct stock picking. Fueled by finfluencers, user-friendly demat apps, and the fear of missing out (FOMO), many chase the latest market darlings, often focusing on "top gainers in 1 year" lists.
The temptation is clear: a stock that’s tripled in 18 months looks irresistible, leading many to bet big, assuming past performance will repeat. But markets are notoriously fickle.
Gensol Engineering's 200%+ surge in 2023 serves as a cautionary tale. Following reports of financial irregularities and broader market corrections in early 2024, the stock plummeted nearly 30% in mere weeks. Investors with 40-50% of their portfolios in Gensol suffered severe losses, despite the stability of broader indices.
The CFA Institute recommends at least 20-25 uncorrelated stocks for a well-diversified portfolio. Indian mutual funds typically hold 40-60. However, many DIY investors hold just 5-8, often concentrated in sectors like capital goods, defence, or small caps. This difference isn't merely theoretical; it’s the difference between weathering market volatility and panic selling.
Some argue that excessive diversification dilutes returns. While diversification doesn't guarantee maximum returns, it acts as a crucial safeguard against catastrophic losses.
Think of it like a cricket team: Having Virat Kohli is great, but a team of ten debutants dramatically reduces your chances of winning. A well-balanced team offers greater consistency, even if a star player underperforms.
Many investors, in pursuit of alpha, have abandoned mutual funds, especially actively managed ones. However, mutual funds provide inherent advantages:
Instead of entirely dismissing mutual funds, consider a blended approach. A 70/30 split between diversified funds and direct equity could offer growth with a built-in safety net.
To mitigate concentration risk, adopt the 10/10/10 rule:
Regularly (at least every six months) review your SIPs, holdings, and direct investments. If any single investment has grown disproportionately, consider trimming it.
In investing, silent risks are often the most dangerous. Concentration risk doesn't appear on daily NAVs or dashboards; it surfaces during market corrections in the form of sleepless nights. A robust portfolio should not only thrive in bull markets but also survive bear phases. As market options expand, risk management isn't just about minimizing losses; it's about ensuring long-term participation. Diversification isn't optional; it's essential.
