Warren Buffett is the most successful investor of our lifetime and one of the wealthiest men alive. He built his wealth through investing but how does he do it? Here are 6 quotes from the man himself.
He invests in businesses, not stocks
“If the business does well, the stock eventually follows.”
Many people treat investing in stocks as if they a nothing more than a symbol on a screen or a piece of paper. When Buffett buys shares in a business he treats it as though he is buying the entire business.
He learns everything he can about a business before he invests in it. If you were buying a local cafe here is a list of questions you would want to know:
- How many customers do you get in a year?
- How many sales do you make in a year?
- How much profit do you make?
- How often the coffee machines need fixing or replacing?
- And how many employees do you have?
By focusing on the fundamentals of the business rather than the stock price you will become a better business person and investor.
He invests in what he knows
This ties in with the previous point, Buffett only invests in companies that he completely understands.
- See’s Candy sells candy
- Coca Cola sells beverages and syrup
- Gilette sells razor blades
These are all companies he has invested in. It is simple to understand the products these companies sell.
If he only invests in what he understands that must mean he avoids companies which he doesn’t understand.
“We try not to get into things that we don’t understand.”
During the tech boom or .com bubble, during the 90s and early 2000s, the Nasdaq went up fivefold from under 1000 to over 5000. Technology and internet stocks were all the rage and investors were making a killing.
Buffett avoided these tech stocks even when everyone else was raking it in. He was called “out of touch” and some said he didn’t understand the “new economy”. Buffett had the last laugh however when the Nasdaq crashed 80% and billions were wiped off the tech market. He avoided this crash by sticking to his guns and only invested in companies he understood.
He looks for companies with a competitive advantage
Probably Buffett’s most famous investing trait is that he looks for companies with a competitive advantage. He calls these “Moats”.
“The most important thing for me is figuring out how big of a moat there is around a business. What I love, of course, is a big castle and a big moat with piranhas and crocodiles”.
Competitive advantages or ‘Moats’ allow a company to protect it’s profit margins and market share from its competitors. This means the company will be able to make greater profits for a longer time.
Some competitive advantages include:
- Being a low-cost producer — being able to provide your product at a lower cost, think Walmart.
- Having high switching costs — Financial or time costs incurred when switching to a competitor. Think about switching banks or software.
- Having a strong brand — This is the reason people pay 10x more for Nike, Rolex, and Mercedes.
- Having a network effect — The more users the product has the better the product becomes such as Facebook or eBay.
He invests long term and ignores day to day price movements
“Our favorite holding period is forever.”
When Buffett invests he does so with the intention of holding forever. He thinks long term and is not worried by daily fluctuations in the share price. This doesn’t mean that he holds every investment forever but he does not sell just because the price has gone up. He sells because the business has fundamentally changed. This may be because the company has lost its economic advantage or its business model has changed.
He pays a sensible price
“Price is what you pay. Value is what you get.”
Buffett knows that price does not always equal value. What he does is calculate his own value for a company, this is called the Intrinsic Value. Buffett has never said explicitly how he calculates the intrinsic value. This is easier said than done and a lot of companies are just too hard to value.
“We throw almost all decisions into the too hard pile, and we just sift for a few decisions that we can make that are easy” Charlie Munger
When Buffett can work out the intrinsic value of a company he only buys a stock when its price goes below that value.
For example, if the calculated the intrinsic value of a stock to be $50 per share he won’t buy it unless the price is less than $50.
To summarise I’ll let Buffett tell you the type of business he looks for.
“We want the business to be one (1) that we can understand; (2) with favorable long-term prospects; (3) operated by honest and competent people; and (4) available at a very attractive price.”