Is Your Portfolio Falling Into the Monoculture Trap?

By Keith Kaplan

Listen to the audio version of this article (generated by AI).

 

If you ate a banana before the 1960s, it wasn’t the banana you know today. 

For the first half of the last century, almost every banana shipped to the U.S. was a single variety called the Gros Michel (“Big Mike”).  

It was sweeter and creamier than the bananas we eat now, and it shipped well, so growers planted it nearly everywhere. Whole countries built their economies on it. 

Commercial bananas are sterile. So each new plant is a clone created from a cutting of another one. So those millions of Gros Michel plants weren’t just the same variety. They were genetically identical, right down to the same weaknesses. 

In the 1950s, that weakness was exposed.  

A soil fungus showed up that the Gros Michel couldn’t fight. And because every plant was the same plant, the fungus didn’t take a farm here and there. The Panama disease, as it was called, took the whole crop, country by country, until the Gros Michel was gone from our stores. (It was replaced by the blander Cavendish bananas we eat today.) 

Plant scientists have a name for what happened to the Gros Michel: the monoculture trap. It’s when everything you’re growing succeeds or fails as one organism. 

And that trap isn’t unique to farming. It shows up wherever sameness hides behind the appearance of variety. 

Right now, many investors are falling into the same trap in their portfolios. They own a handful of different stocks, and it feels diversified. But if most of those stocks rise and fall on the same narrative – say, one involving a breakthrough new technology set to transform the world – they’re not as diversified as they think. 

We saw this happen in June and July when once high-flying AI stocks came crashing down to Earth.  

  • AI memory stock Micron (MU) plunged 41% after a bull run that saw it climb 325% earlier this year.  
  • SanDisk (SNDK), another memory stock, soared as much as 864% through June 22, and then plunged 57% over the next month. 
  • And the iShares Semiconductor ETF (SOXX) chipmaker index fell as much as 29% after rising as much as 109% since the start of the year. 

If a few volatile stocks like these make up a small slice of a diversified portfolio, losses like that sting but don’t sink you. But if stocks like these are your portfolio, you’re in real trouble. 

So today, let’s run through the three questions I ask before I buy or sell a single stock in a market like this – the same three questions that decide whether a summer like this one is a minor nuisance or will cost you your retirement. 

Question No. 1: Am I Too Concentrated? 

Here’s how you spot a monoculture in your own portfolio: Ask what happens to everything you own if one story stops being true. 

If the answer is “most of it falls,” you’re not diversified. You’re concentrated – even if you own 10 or 12 different stocks. 

And when I say “portfolio,” I don’t just mean one account. Think about everything you own together – your brokerage account, your IRA, your 401(k), or any account at any broker. That’s your real portfolio. It’s easy to feel diversified in one account while your retirement accounts are leaning on the exact same handful of stocks. 

This isn’t theoretical. We just watched it happen with the massive momentum unwind this summer. It wasn’t triggered by bad earnings – most of these companies beat estimates. It was triggered by overcrowding.  

For months, a huge amount of money had piled into the same handful of AI and chip stocks. Just about everyone who was in the market was part of this trade. 

So when the selling started, the pool of buyers had dried up. And when that happens, prices don’t drift down – they plunge.  

Today, the Magnificent Seven tech stocks make up roughly a third of the S&P 500. Think about that. If you own a fund that tracks the S&P 500, thinking you’re diversified across 500 companies, a third of your money is riding on seven tech stocks. And those seven tend to rise and fall together. 

That’s not a flaw. The S&P 500 is “market-cap weighted,” meaning the biggest companies count for more than the smallest ones. But it’s math you should know you’re signing up for. 

Ask yourself: If the AI trade cooled off tomorrow, how much of your portfolio would feel it? If the number that comes to mind is uncomfortably high, that’s your answer. You have a monoculture problem you need to deal with. 

Question No. 2: Do I Have the Cash I Actually Need? 

Holding cash isn’t really a market call. It’s a life call. 

If you’re going to need money in the next year or two – for a home repair, a wedding, a tuition bill, or a vacation – that money has no business riding a volatile trade. Not because the trade is necessarily wrong. But because you can’t afford for it to on your timeline. 

That’s the test. It’s not, “Will this investment go up eventually?” It’s, “Do I have room to wait if it doesn’t, right when I need the cash?” 

And right now, holding cash isn’t the consolation prize it used to be. Today, you can earn about 3.5% on a money-market fund. 

Cash isn’t something you hide out in when you’re too scared to invest. It’s an allocation, like any other – one you choose on purpose, sized to what your life actually needs in the next year or two. 

Ask yourself: If the market dropped 20% tomorrow and stayed there for six months, would that force you to sell something you intended on holding? If your answer is yes, that’s money that shouldn’t have been in the market in the first place. 

Question No. 3: Can I Stomach This? 

This is the one most people skip, and it’s the one that matters most. 

You can be right about a stock, right about a trend, right about everything on paper – and still lose money on it. Because being right isn’t enough. You also have to be able to stay invested. 

It doesn’t matter if your thesis was right. If a 20% to 30% drop makes you sell at the bottom, the strategy was wrong for you – even if everything you believed about it turns out to be true a year later. The best strategy in the world is worthless if you can’t stick with it. 

So before you buy anything right now, don’t just ask whether you believe in it. Ask what happens to you, on a gut level, when it drops 20% without warning. Do you check your phone every hour? Do you lose sleep? Do you sell out of panic three days before it turns back around? 

If the honest answer is “I’d panic,” that’s not a character flaw. It’s vital information. It means you need less of that position, more cash, or a steadier alternative – not more willpower. 

What to Do With Your Answers 

You don’t need a perfect answer to any of these questions. Nobody has one. What you need is to be honest with yourself. 

Concentration, cash, and your stomach for risk – once you’re honest about where you stand on each, the next move gets a lot clearer. Maybe it’s trimming a position that’s grown too large. Maybe it’s building up cash you don’t currently have. Maybe it’s buying something new at a smaller size than you first planned, so a 20% drop doesn’t cost you sleep. 

If you’re still not sure where to start – or you’re staring at a stock and don’t know whether to hold it or let it go – use our Short-Term Health indicator. It sorts stocks into one of three zones:  

  • Green means the bullish trend is intact.  
  • Yellow means a shift in momentum.  
  • Red means the trend has broken down. 

If something in your portfolio is flashing red, and you can’t tell me why you still own it, that’s usually your answer. If it’s yellow, it’s worth watching closely before you add to it. If it’s green, you can hold on with a clearer head. And if you’ve got cash to put to work, green is where I’d start looking – spread across more than one story, not one plant wearing different labels. 

None of this guarantees you’ll never take a loss. But it means the losses you do take will be ones you chose, not ones a crowded trade chose for you. 

I walked through this in more detail in a longer conversation recently with former Bloomberg host Adam Johnson – including how I’m applying it to my own thinking on this market right now.  

It’s part of a new video show we’re working on called TradeSmith Unfiltered. It’s where the team and I share our thoughts about the market on camera and show how we’re using our data analytics, screens, and strategies to find opportunities. 

Our Platinum subscribers can access the show anytime. If you have thoughts on the show, I’d love to hear them. Send them to [email protected]. 

And don’t forget to take a hard look at what you actually own. Ask yourself the three questions. And make sure your portfolio isn’t a “monotrade” dressed up as diversification. 

All the best, 

Keith Kaplan 
CEO, TradeSmith