Instead of jumping straight to finance, let's talk about motorcycles and riding. Observe these images carefully and imagine yourself driving on these roads. What's the difference you notice?
In the top image, the road is wider, there's a wall on the right and it has small streets connecting to the road on the left. So any vehicle that can potentially come in your path can only come from left. Plus, I am driving on the right most lane which gives me more time to react in case something comes up on the left. In the bottom image, the vehicles can come from left or right. So why is this important? Well, when I am on the road in the top image, I have to worry about the left only and I can go 60-70km/hr. At that speed, I am almost faster than any surrounding traffic so out of the 4 directions (left right, forward, backward), I only have to worry about the left and the forward direction. On the road in the bottom image, I can go max at 40-50km/hr so I have to check all four directions.
Simple, right? Time to talk about finance now. Let's take two examples (overly simplified) Coal India and ITC. Coal India is involved in digging up coal from ground and selling it while ITC makes cigarettes, some food items, some hotels but mostly cigarettes.
When Coal India wants to start a new mine, it has no clue about what the coal prices are going to be a few years down the line. No one knows whether some country will magically discover new coal deposits, or if someone decides coal is dirty energy and it's time to go green, which gives your potential buyers room for negotiating down prices. But you can 100% be sure that no smoker is going to wake up in the morning thinking if ITC doesn't reduce the price today, I am not smoking today.
See what we did, we strategically removed one "direction" we have to worry about. Successful position sizing is exactly this, removing the things we have to worry about so that we can accelerate faster. It definitely helps if you know the road you are driving on and have studied the history of how that business has done in different environments and at different times.
To execute big position sizes successfully, sometimes you have to trim them down temporarily if there's a "direction" you have to worry about. Like in the top image if there's a truck blocking your view of what vehicle can come from your left, you need slow down to 30km/hr from 60-70km/hr. That often means taking a small loss. That small loss is the price you pay for staying in the game, a.k.a keep riding your motorcycle 😉 Big position sizes can go terribly wrong, just like high speed driving. As you know by now I love motorcycles and I love investing and I would like to keep doing them.
Another way of looking at position sizing is finding asymmetric bets which is a fancy way of saying, "Tails, I lose a little; heads, I win big". This is how you allow yourself to bet heavy when you are executing the "Investing strategy: Unpopular Large Caps" strategy.
Whether it's driving a motorcycle or managing money, I don't like small dark alleys which save me some distance but I can't go very fast. I look for main roads/highways where I can go and fucking accelerate. When I do take tiny positions, it's because I am looking for ways I can increase them, if I can't, I usually exit and focus my efforts on finding something where I can take big position sizes.
Structuring your portfolio with many small positions so you don't lose a lot and you don't win a lot is no way to live a life as a young man especially if you are willing to do the work.