While the stock market and film industry appear to be vastly different, one key similarity is essential to profitability: the importance of diversity. Just to be clear, we’re talking about Diversifying Equity Investments (DEI) in this case, rather than Diversity, Equity, and Inclusion. Much like Hollywood slate financing, the key to success in portfolio management lies in diversifying the investments. In this article, we will explore the parallels between these two worlds and demonstrate how adopting a diversified strategy can be beneficial for investors, using historical examples from both industries.
Hollywood Slate Financing
Traditionally, Hollywood studios focused on producing a few high-quality films, hoping these blockbusters would bring in big profits. However, as the industry evolved, studios began to realize the value of producing a larger, more diverse slate of films to spread the risk and increase the chances of success. In his book “The Big Picture: The Fight for the Future of Movies,” Ben Fritz highlights that a diversified slate increases overall profitability due to the likelihood that a few successful films will offset losses from underperforming ones
A prime example of this strategy is the film slate of 20th Century Fox in 1994. That year, the studio released a diverse set of movies, spanning various genres and budgets. Among their successful releases were “True Lies,” an action film, and “Speed,” a thriller. However, not all of their films were box office hits. “The Scout,” a baseball comedy, and “PCU,” a comedy, underperformed.
In contrast, Paramount Pictures found that its dramas and comedies outperformed in 1996. Their action films, such as “The Phantom” and “Escape from L.A.,” failed to meet expectations while “Primal Fear” and “The First Wives Club” exceeded projections. By maintaining a diverse selection of films, these studios effectively navigated the inherent unpredictability of the movie industry.
Stock Portfolio Diversity
In the world of investing, a stock portfolio diversity serves a similar purpose. By spreading investments across a range of stocks, investors can minimize the impact of poor performers. The big gainers tend to compensate for lagging investments and also contribute to outperforming a benchmark.
An interesting example is Peter Lynch and his track record as the manager of the Fidelity Magellan Fund. Between 1977 and 1990, the Magellan Fund averaged an annual return of 29.2% which is well in excess of the S&P 500. While Lynch often held more than 1,000 stocks in the fund, his top 25 holdings made up around 50% of the portfolio’s total value.
The intuition is that to outperform a benchmark, an investor should select the best investments in that benchmark while excluding the rest. Lynch managed to beat the S&P 500 while holding twice as many stocks. He’s shown that diversified portfolios are still capable of first-rate performance without assuming concentrated risk by packing into a small number of stocks.
The lessons learned from Hollywood slate financing serve as a valuable reminder for investors to diversify their stock portfolios. By doing so, they can mitigate risk and maximize the potential for long-term financial success. As we have seen from historical examples in both industries, a diverse portfolio can be the key to unlocking consistent and reliable growth.