Cracked berry

  By Guest Blogger Doug Rowat

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If you’ve seen the excellent 2023 movie Blackberry (97% Certified Fresh by Rotten Tomatoes), you’ll recall the scene where Research In Motion co-CEO Mike Lazaridis (played by Canadian actor Jay Baruchel) naively muses about Apple’s new iPhone: “Why would anybody want a phone without a keyboard?”

This is the kind of hubris that has doomed countless companies. But it’s not just executive arrogance that can devastate a company’s prospects, the list of things that can go sideways is endless—regulatory changes, geopolitics, supply-chain disruptions, scandal, fraud, competition, the economy. Many factors can bring a company’s stock price to its knees.

And relative to its 2007 highs, Blackberry stock still remains very much on its knees. And in the process has come to define unsystematic portfolio risk.

Broadly speaking, there are two kinds of portfolio risk: systematic and unsystematic.

Systematic risk is the big stuff. Recessions, financial crises, wars, pandemics, World Trade Center attacks and so on. These events, for periods of time, indiscriminately tank the majority of stocks. Nothing can be done to diversify away systematic risk.

Unsystematic risk, however, refers to individual company risk. Bear Stearns over-levered itself, Enron executives were crooks or, in the above example, Research In Motion badly misjudged the competition. Unlike systematic risk, unsystematic risk CAN be diversified away. The problem? It takes an enormous number of individual stocks to accomplish this.

And much academic research supports this. Perhaps most famously, Burton Malkiel, in his influential book A Random Walk Down Wall Street, highlighted that it takes about 60 different US stocks to eliminate unsystematic risk. In other words, if you own enough of everything else you eventually don’t care if Enron implodes.

But the difficulty with eliminating unsystematic risk is that you must now have a meaningful outlook on 60 different companies. This means, for each one, accurately evaluating management, understanding the industry that the company operates in, correctly anticipating company-specific catalysts, knowing how to properly value the company and so on. It’s an impossible task across five-dozen stocks.

Proper diversification: it takes a lot

Source: Burton G. Malkiel

And Malkiel was referencing only a US-stock portfolio. If you want to create a global portfolio (and you should) you need to have a similar understanding of companies across broad geographies. Be honest, aside from Toyota, how many blue-chip Japanese stocks can you name let alone formulate an outlook for? UBS draws similar conclusions to Malkiel and further highlights the advantages of investing globally:

Investors can be easily misled by claims that only 10 to 20 stocks are needed for a diversified portfolio. We show that far more are required for effective diversification, especially for a global investor.

Moving to international diversification, we found that over the last 50 years, for investors in most countries, investing globally led to higher Sharpe ratios [better risk-adjusted returns] than domestic investment.

And UBS actually goes a step further than Malkiel by arguing that closer to 100 stocks are needed to properly diversify the US portion of an investment portfolio.

And finally, there’s the always insightful research of economist Hendrik Bessembinder, who I’ve discussed on this blog before. If you have a concentrated portfolio not only is risk management a serious concern, but your chances of failing to own the few stocks that actually perform well is also greatly increased. Long term, only 1.5% of firms generate almost the entirety of the market’s wealth in excess of one-month US Treasury bills. In other words, you better pray that your super-concentrated 10-stock portfolio has captured this tiny sliver of companies that will actually drive portfolio performance.

Share of net wealth generated by stocks between 1990 and mid-2020: A very few firms do all the heavy lifting

Source: Hendrik Bessembinder. BofA Global Research. Net wealth accounts for wealth generated above the performance of one-month US Treasury bills

And, even if one of those 10 stocks happens to be Apple, don’t be lulled by its long-term success. Unsystematic risk doesn’t strike every year, but it’ll get you eventually.

Things could change, of course, but Apple’s now down 14% y-t-d.

You can’t stay hot forever. Just ask Blackberry.

Doug Rowat, FCSI® is Portfolio Manager with Turner Investments and Senior Investment Advisor, Private Client Group, Raymond James Ltd.

Source: https://www.greaterfool.ca/2025/07/19/cracked-berry/