Risk-Adjusted Position Sizing
Match starting weight to downside risk, then let validated winners compound
- Difficulty
- Advanced
- Time to result
- ~ongoing to results
- Steps
- 6
- Confidence
- 97%
Risk-Adjusted Position Sizing treats portfolio weight as a separate analytical decision from whether an investment is attractive. Each candidate is assessed by its upside, downside, uncertainty, and probability-weighted return. A typical qualifying idea can begin around a normal position size, while a binary or highly speculative opportunity starts much smaller because total loss is plausible. High-conviction ideas may begin larger, but the portfolio does not need to reach its final concentration immediately. Positions that execute successfully can grow naturally, allowing winners to contribute more rather than being sold merely because they appreciated. The manager remains benchmark agnostic while monitoring aggregate concentration and correlated exposures. The mechanism preserves access to asymmetric opportunities without allowing one uncertain thesis to endanger the portfolio.
Origin
Extracted from Masters in Business. McLemore says external analysis of Bill Miller’s fund history identified sizing as a source of competitive advantage and return generation.
Core principles
- 01Position size should reflect risk-adjusted return potential
- 02High-risk opportunities can belong in a portfolio at appropriately small weights
- 03Conviction can justify larger initial exposure
- 04Successful positions should not be trimmed mechanically
- 05Benchmark weights should not dictate a bottom-up portfolio
How to run it
- 1
Model the outcome range
Estimate plausible upside, downside, and probability for each investment rather than relying on conviction alone.
Pro tip Include a permanent-loss case explicitly.
Watch out Narrative enthusiasm can obscure asymmetric downside.
- 2
Classify uncertainty
Determine whether the outcome is diversified and gradual or concentrated around a binary event.
Pro tip Distinguish uncertainty from volatility; they are not identical.
Watch out A binary catalyst can make a seemingly small position consequential.
- 3
Select the starting weight
Use a normal starting range for established opportunities and a smaller weight for higher-risk cases. McLemore cites roughly 2% to 2.5% as typical, around 1% for higher risk, and about 3% for strong conviction.
Pro tip Set sizes as portfolio percentages before placing trades.
Watch out Do not copy these percentages without accounting for personal constraints and portfolio structure.
- 4
Check portfolio interactions
Measure concentration, shared economic drivers, liquidity, and correlated downside across holdings.
Pro tip Group positions by underlying risk factor, not only by sector label.
Watch out Several small positions can form one large hidden bet.
- 5
Let evidence increase influence
Allow successful holdings to become larger when execution validates the thesis and prospective returns remain attractive.
Pro tip Review the remaining upside rather than the original purchase price.
Watch out Letting winners run does not mean ignoring valuation or thesis deterioration.
- 6
Rebalance for risk, not neatness
Trim when risk-adjusted return falls, concentration becomes unacceptable, or a superior opportunity appears—not merely to restore equal weights.
Pro tip Document the reason for each rebalance.
Watch out Mechanical trimming can systematically sell the portfolio’s strongest compounders.
In the wild
McLemore describes a biotech that might lose all its value or rise substantially. The opportunity can still have a place in the portfolio, but its binary outcome demands a much smaller initial weight than a well-understood operating company.
→ The portfolio retains asymmetric upside without risking intolerable damage from total loss.
A company begins as a 2.5% position and repeatedly exceeds operating expectations. Its prospective return remains attractive even after appreciation, so the manager avoids automatically trimming it back to its starting weight.
→ Validated success becomes a meaningful contributor to portfolio returns.
Common mistakes
Sizing solely by enthusiasm
Strong conviction does not remove downside risk and can produce excessive exposure to uncertain outcomes.
Selling every winner early
Mechanical profit-taking limits the contribution of the small number of companies that create exceptional wealth.
Ignoring hidden correlations
Individually modest positions may share the same macroeconomic or liquidity risk and behave like one concentrated bet.
Is it for you?
Best for
It is best for active equity managers building differentiated portfolios from bottom-up ideas.
Not ideal for
It is not ideal for investors who must closely track a benchmark or cannot tolerate concentrated drawdowns.
From the transcript
“the overall objective is to uh, you know, size positions relative to risk adjusted returns”
“there's a place in the portfolio for investments like that. You just have to size them uh correctly”
“what we try to do is let our winners run”
From the episode
Samantha McLemore on Longevity Risk Management