Diversification Is Killing Your Portfolio: Wall Street's Rules, Part 2

NEW YORK ( TheStreet) -- In part one of this article we talked about the importance of keeping investment decisions focused on the bottom line and less on the "rules of investing" -- the myths that serve to only qualify your status as an investor while yielding very little results.

One such myth: beating the market requires that one diversifies his or her portfolio. This is simply not true. While it supports another fundamental principle that reminds us don't put all of your eggs in one basket, it makes me question the logic of purposely devaluing your own money.

The Diversification Myth

Think of it this way, why should your bottom dollar not provide the same potential gains as those on the top stack -- just for the sake of diversification, a term that many investors don't know how to execute all that well to begin with. For example, take a company such as Apple ( AAPL) -- as recently as three years ago it traded at $90. This year it reached as high as $644 -- representing a gain of over 600%.

Essentially a $10,000 investment in Apple three years ago could have been worth over $61,000 today.

Now, let's consider that three years ago you had opted to play it safe and diversify. Instead of investing the entire $10,000 in Apple, let's say you invested $4,000 and with the rests, you dropped $2,000 on Ford ( F), $2,000 on Bank of America ( BAC) and since they say it's always good to be in cash you kept $1,000 in a savings account yielding .5% in interest.

This is "true diversification," as opposed to investing in multiple stocks from within the same sector. Let's break it down and see how we would have performed.

Would it have been equal, better or worse than the $61,000 that Apple alone would have provided? Well since we would have played it safe by only investing $4,000 in Apple, it would have given us 44 shares at $90 -- which today would have been worth $24,376.

Let's then take the $2,000 that we dropped on Ford which we could have gotten for as low as $1.75 and giving us a little over 1142 shares. If we factor its high of this year of $13.05 the shares today would have been worth $13,000.

Next, let's look at Bank of America. Assuming that you perfectly timed the bottom in 2009, a $2,000 investment would have awarded you 666 shares. This year, the stock reached as high as $10.10 which would have represented a gain of $4,728.60. While it's nothing to write home about, it's a decent gain nonetheless.

As for the $1,000 that was sitting in cash at .5% over the past three years, you would have been lucky to have made $100; however, if you factor in inflation and the rising costs of living, it would have actually declined in value. But, for the sake of argument, let's say you broke even.

So as it stands, along with your $1,000 in cash, your Apple investment yielded gains of $24,376 and Ford, profited you $13,000, while your BofA holdings netted a return of $4,728.60. Did you come out ahead? That answer would be no.

So basically, in your attempt to play it safe and following Wall Street's rules, your diversified portfolio of $10,000 would be worth today a grand total of $43,104.60. Impressed? Perhaps, but whereas, had you ignored the myth and placed your entire bet on Apple your initial $10,000 investment would have provided an additional return of $17,895.40.

In other words, your need to sleep better at night only requires that you work harder during the day. What's the point?

Bottom Line

This circles back to my initial question, why should any portion of your hard-earned money not work as hard for you as the rest? In this case, you opted to place $4,000 on Apple or 40% of your entire holdings -- presumably because you felt it was a safer pick or the surest of your selections.

There are other assumptions that go into this -- one being that either you did more due diligence on it and you felt it would appreciate over time by a greater percentage, in which case, you were proven right.

It boggles my mind how one can logically not apply the same level of trust to the remaining 60% -- solely for the sake of diversification? I would argue that more risk was introduced to your portfolio by allocating any portion of it in cash than if you were to acquire 10 additional shares of Apple at $90.

Diversification in its truest sense is only a strategy for managing risk. Like Warren Buffett says, it should only be used by those who don't know what they are doing -- I agree.

At the time of publication, the author was long AAPL and held no positions in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.