What does 'portfolio concentration' indicate?

Portfolio concentration refers to the allocation of a significant portion of a portfolio to a single investment or sector, which can lead to higher risk exposure. This occurs when an investor heavily invests in a limited number of assets, which could increase potential returns if those assets perform well, but at the same time, it heightens the vulnerability to adverse movements in those investments. Essentially, a concentrated portfolio lacks diversification, meaning that if the major investments underperform, the overall portfolio may suffer significant losses.

For instance, if an investor has a large percentage of their portfolio in one technology stock, any negative news or downturn in the tech industry could significantly impact their financial standing. Understanding portfolio concentration is crucial for investors, as it helps them assess their risk tolerance and make more informed decisions regarding asset allocation.