Highly concentrated portfolio
A portfolio parked in just a couple of securities with no real diversification — the mirror-image mistake of over-diversifying across too many similar funds, and the one the Adviser must correct in the other direction.
In plain language
Diversification can go wrong in two opposite ways. The workbook names both.
One mistake is buying too many funds. The portfolio gets hard to track. It may still not spread risk any better than one simple index fund would.
The other mistake is the exact opposite. This is a highly concentrated portfolio. Here, an investor puts almost all their money into just a couple of securities.
How it works
The workbook makes the over-diversification point with a direct comparison: an investor who buys 2 large-cap funds, 4 mid-cap funds and 6 small-cap funds believing this spreads risk can get similar diversification simply by buying one top-500 shares index fund instead. Owning many funds is not the same as being genuinely diversified, if they all move together.
The highly concentrated end of the same problem is the opposite failure: an investor with their entire portfolio in a couple of specific securities, with no diversification across asset classes or across securities within an asset class at all. Both extremes leave the client exposed to a risk they did not intend to take — either hidden overlap between too many similar holdings, or outright concentration in too few.
The workbook's prescribed remedy sits with the Adviser: finding the golden mean, an appropriately diversified portfolio built around the client's own risk profile, available resources and time frame for goals — not a fixed number of holdings that applies to everyone.
A worked example
Illustrative figures. Mr Oberoi has built a portfolio worth Rs 40,00,000, entirely split between two mid-cap stocks in the same sector. A single sector downturn could, in principle, hit both holdings at once — this is the workbook's highly concentrated case.
His colleague Ms Bakshi has spread her own Rs 40,00,000 across 2 large-cap funds, 4 mid-cap funds and 6 small-cap funds — 12 funds in total — believing this makes her the more diversified investor. But because most of these funds hold overlapping large, well-known names, her actual diversification may be little better than Mr Oberoi's, and could be matched more simply, and more cheaply, by a single top-500 index fund.
The Adviser's task with each of them is different: pulling Mr Oberoi towards more names and more asset classes, and showing Ms Bakshi that her 12 funds are not proportionately safer than a well-chosen index fund would be.
Why NISM asks about it
Chapter 17 (Behavioural Finance in Practice), the sub-section on "Too much diversification or highly concentrated portfolio," states both failure modes together, immediately before naming the Adviser's role in finding the golden mean. Expect a question distinguishing over-diversification from concentration, and one testing the top-500 index fund comparison.
Common exam traps
- Owning many funds is not the same as being diversified — the workbook's own example shows 12 funds can be replicated by one index fund if their holdings overlap.
- Concentration and over-diversification are opposite errors, not the same mistake at different scales — a candidate must identify which one a fact pattern describes.
- The fix is not a fixed number of holdings — the workbook ties the right degree of diversification to the client's risk profile, resources and time frame, not to a rule of thumb like "hold at least 15 stocks."
Where this is taught
Free preparation for NISM Series X-BRelated terms
- Unsystematic riskThe part of an investment's risk that belongs to one company or one issuer — a strike, a fraud, a downgrade — and which diversification can remove, unlike market-wide systematic risk.
- DiversificationSpreading an exposure across holdings that do not move together, so that total risk falls by more than total return does — minimising risk per unit of return.
- Asset allocationThe decision on how to distribute a client's wealth across asset classes — the first decision in building a portfolio, and the one that explains most of what the portfolio then does.
- Concentration riskThe risk that a few positions are large enough, against the fund's capital, that one loss damages the whole portfolio — capped by SEBI at 25% of investable funds for Category I and II AIFs and 10% for Category III.
- Investment turning into tradingThe behavioural failure in which action bias drives so many and such frequent transactions that a long-term investment activity becomes a trading activity.