Four funds held 783 companies between them, but only 43 generated the gains that helped them beat the Nifty Smallcap 250. The analysis highlights why allocation size can matter as much as picking winners.
The most useful question in investing is often not whether a stock idea was correct, but how much money was riding on it. A portfolio can have more losing positions than winning ones and still deliver strong returns if the gains came from larger allocations. That is the central lesson in a Value Research analysis of four small-cap funds that beat the Nifty Smallcap 250 over three- and five-year periods. According to the piece, the funds owned 783 distinct companies in total, yet only 43 of them generated the performance that lifted the portfolios above the benchmark. Ashish Menon’s conclusion is that stock selection matters, but position sizing matters just as much.
The study is deliberately backward-looking. It chose funds that had already outperformed, which means it shows what winning looked like rather than offering a recipe for selecting future winners. Even so, the exercise highlights a persistent truth about active management: returns are often driven by a narrow slice of holdings. The article notes that one fund held 473 stocks, illustrating how broad portfolios can still depend on a relatively small number of decisive bets. The broader point is that a manager can be wrong more often than right and still add value if the successful calls are the ones that matter most.
That distinction is not unique to small-cap funds. Morningstar’s research on stock hit rates makes the same point in different language, arguing that investors cannot judge a manager only by counting winners and losers. The size of each position changes the meaning of a hit rate. A fund manager may be right on fewer names than they are wrong on, yet still outperform if the biggest allocations are the ones that rise. In other words, the quality of a portfolio is not just a tally of correct calls; it is also a measure of conviction, timing and capital allocation.
Constraints also shape how that game is played. Mutual fund managers do not control inflows and outflows, and they must operate within the limits of client money entering and leaving the scheme. Managers running portfolio management services or alternative investment funds have more discretion, including the ability to turn away capital when it does not suit their process. Individual investors have the broadest freedom of all, but that freedom only has value if it is paired with discipline. The article argues that investors can buy smaller companies or hold far fewer names than a fund can, yet without a method for deciding position size, flexibility can quickly become exposure without purpose.
Academic research suggests there is no simple rule that fewer holdings always mean better results. A study published in the Review of Financial Economics found that concentrated funds differ from diversified ones in size, flows, turnover, age and family structure, and that concentration can be associated with stronger stock-picking in some cases. But the evidence was mixed: tighter portfolios were not automatically superior in the next quarter, and better performance depended on the nature of the skill involved. That fits the practical lesson from the Value Research analysis and from the Securities and Exchange Commission’s investor guidance on diversification: spreading risk can help contain damage, but concentrated bets can also amplify gains. The hard part is knowing which positions deserve the extra capital.
Disclaimer: This article is intended to inform and educate, not to recommend or endorse any financial product, investment or strategy. Please consider your own financial circumstances and seek professional advice where appropriate before making financial decisions.
