Warren Buffet is one of the most famous investors of our time.
If you have had put in 1000 USD in his company when he started the investment business, your investment would have had a value of 17 million today
Let us dig into seven of his investing principles for long-term buy and hold investing
1) He looks for investor managers that have intelligence, initiative and integrity.
“If you don’t have the latter, the two first will kill you”, he said and explains that a person without integrity, he might be lazy and dumb. Integrity to follow the system, do what they are told and say they are going to do is preferred characteristics
2) Invest by facts and not emotions.
Discipline to follow a system, to follow the rules of a strategy is important. Warren explains many investors start investing in the market and they make money. Then, the next year, they are excited and ready to make even more money.
This happens because investors act in very human ways which is, they get very excited when the market goes up, which we call bull markets. They look in the rear mirror and say “I made money last year, and this year will make even more, so this time ill borrow.”
Looking in the rear mirror and see all of the money that have been made, and then just push and push and push on prices, but then they realize no money has been made, they say this is a lousy place to be. The problem is that they don’t care what is happening in the underlying business. However, they fail to see that they pushed the limits too far, getting too greedy and acting upon emotions.
3) Warren started out his career as an investor with the principle “buy quantity over quality”.
He was looking for things that are cheap. He explains this using an analogy he calls the “use cigar butts of stocks”. The cigar butt approach to buying stocks goes like this.
Imagine you are walking down the street, you look around for cigar butts and you find this terrible, looking, soggy, ugly, looking cigar. It has just one puff left in it.
Here we go, you pick it up to get your one puff. It is disgusting, so you throw it away again. But is was free, it was cheap! Then you look around for another soggy, cigar with one puff left.
That is what Buffet did for years. Not literally with cigars, but with stocks.
He admits it was a mistake. He made money doing it, but he comments that you cant make big money with the strategy. It is much easier to buy wonderful businesses! He makes more money buying wonderful businesses at a fair price, than buying a fair companies at a wonderful price.
4) Warren Buffet only expects to make money in business that he understands. Understand means to understand what the economics in that particular company is going to look like 10 years from now or 20 years from now.
A great example is a chewing gum production company. Internet or technology isn't going to change the way people chew gum. Internet isn't going to change what gum they chew. If such a company owns the chewing gum market, and they got the most likeable flavours such as mint and juicy fruit, these brands are most likely to be there 10 years from now.
He can't tell exactly how the numbers will be, but he says his predictions won't be far off.
Such a company is within his circle of competence. He understands what they do, he understands the economics, he understands the competitive aspects of the business.
This gives him a good fundamental understanding of the investment opportunity, and thus can make better decisions on what to buy into.
He doesn’t expect to make money in sectors that is not within his circle of competence. His circle of competence is narrowed down, among other things, specific industries.
If you want to learn more about how we can chunk the market into different sectors and industries, please tune in and listen to one of the previous episodes.
5) When you see a great opportunity, take it!
Buffet tells that the biggest mistake he has made is of omission and not commission. That means it is the things he knew enough to do, they were within his circle of competence and he was sitting back without taking action.
Omission is way bigger than commission
Leaving out on the opportunities you know is within your expertise, and are good according to your rules, is also to be considered a loss. It is a cost, you left out on profits.
Big opportunities in life have to be seized
Buffet doesn’t do very many things but when he gets the chance to do something that is right and big, he decides to do it!
Doing it at a small scale is just as big a mistake as almost is not doing it all. You got to grab them when they come, because you are not going to get many big opportunities.
Let me add my personal comment. It is difficult to understand what Buffet means with “big” opportunities. To be successful, you need to have risk management and follow the rules. Don’t put everything in the same basket, and stick to the proven recipe. It is important that you don’t enter an investment or trade becaue you feel you have to. Investing and trading based on emotions would be gambling instead of doing it the professional way with proper systems and risk management.
6) Don’t sell unless the business fundamentally changes.
Reasons for selling is that he gets discouraged with the management, or that the economics characteristics change. If there are a lot of great opportunities coming, and he is short on cash, he might sell something to get into the opportunity at hand.
7) Buy at a price below intrinsic value
Intrinsic value is the number that if you knew all about the future, and could predict all the cash that a business would give you between now and your last day on this planet, that number is what the intrinsic value of a business is.
The only reasons for making an investment and laying out money now is to get more money later on, right? That is what investing is all about!
That is the job of the analyst, to find out this is what I think the stock is going to pay out in the future.
This is what you do with any kind of investment, also real estate. Is the value in terms of cash in the future worth laying out the money today?
The questions are how much are you going to get, when are you going to get it and how sure are you?
If Buffet can’t find the intrinsic value of a company, he stays away.
If you buy into Amazon today, do you think they will yield a return?
Intrinsic value is a measure of what an asset is worth, derived by looking into the financials and fundamentals of the company, rather than looking at the current market price.
Thank you to Cooper Academy YouTube feature: Warren Buffett: How To Invest For Beginners for this great video.