Demystifying Warren Buffett’s Investment Mantra

De-constructing Warren Buffett's Investment Philosophy

Most of the investors in the stock market are on the lookout to make a quick buck. They enter the market with the objective of long term investment, however, they fall prey to persuasive brokers or trusted friends to invest in intra-day or futures and options (Derivatives) and more often than not they end up losing their money.

But with some thinking and analysis, one can develop immunity for these so-called money-making schemes. It is called investing on the long-term basis. If one can emulate Warren Buffett's investment philosophy and make one's investment habits more disciplined and organized it will not only help one reap great benefits of the market but will also bring peace of mind and a sense of satisfaction. As Warren Buffett says a player can't play well if he keeps looking at the scoreboard all the time. The motto of the investors should be to stay calm and stay invested!

In his exemplary career, Buffett has scored many successful investments. Warren Buffett's holdings has many gems which have given multibagger returns. As he is holding most of his stocks, we will not be able to ascertain how big it will become but we can certainly pick some of his investments and see the humongous size it has turned into.

The Iconic Investments of Warren Buffett

Coca-Cola - Gain - 766% - Shares Purchased In Year 1988 - Current Value: $9.2 Billion

Warren Buffett started buying stock in Coca-Cola in 1988. At that time many analysts were sceptical of this company as they believed that it's only a matter of time before other beverage companies would take away its market share. Furthermore, the company's earnings had declined by 2% from the previous year, and it had P/E ratio of between 14 to 19 which is not considered good by value investors. By the year 1995, Buffett held 100,000 shares of the company which was worth around $1.2 billion. After holding the stock for more than three and half decades, Buffetts unrealized profits in Coca-Cola stands at whopping $10.4 billion giving him close to 766% increase in value. No wonder Coca-Cola is considered one of Buffetts greatest investing triumphs.

Washington Post - % Gain: 6,500% - Shares Purchased In 1973 - Current Value: $720 million

In 1973, Buffett started purchasing shares of the parent company which held the Washington Post. By Q4 of 2004, Buffett held 1.7 million shares that were worth around about $11 million. Over the years he increased his stake in the company to 18.1%. The company has duly rewarded Buffett's patience and has given massive returns. Before 2004, Buffett's unrealized gain in Washington Post was $1.7 billion that is 15,336.4% growth. However, since 2004 shares of Washington Post have dropped more than 50% as the newspaper industry has suffered heavily due to the advent of new media. This brought down Buffetts stake in the company to around $730 million. However, it still represents a gain of about $720 million and a 6,500% increase. Impressive, isn't it?

This is just a tip of an iceberg. In his long investment career, Buffett has many such iconic and lucrative investments to his credit. But this is enough to give us a glimpse into the mind of the great investor and his investment style. It clearly shows that he only invests in the companies which have businesses which he understands. Also, once he enters a good company he holds it forever, literally forever. His long-term investment perspective to some extent reveals the secret of his success.

Be fearful when others are greedy and be greedy when others are fearful Warren Buffett

As the old saying goes fear and greed always lurk around the stash of money. Likewise, in the stock market, it's a battle of fear and greed which determines the fate of your hard earned money. If you look closely you will see that Warren Buffett's quote is the best advice for the investors at the same time it's a fitting criticism of investors' general mindset. To understand it better let's put his golden words to an analogy and try to gauge the depth of Warren Buffett's investment philosophy.

Anyone who has any understanding of stock market knows that volatility is the cornerstone quality of the stock market. Stocks, even the blue-chip stocks, are bound to go through the ups and downs of the market. But when the stock goes up investors start buying it and when it takes a slump they lose faith and start selling. In his subtle symbolism, Warren Buffett says never buy when the market is soaked in the frenzy of profit booking while buy (greedily) when the market is down.

Now read the above-mentioned quote and try to understand why it's an advice for the investors and a criticism of the investors' buying-selling behaviour. In his laconic style, he explains that the ideal approach of any investor should be to buy the stock when the market is down (bearish) and sell it when the market is booming (Bullish).

2008 Economic Slowdown Showed A New Dimension Of Buffett's Investment Acumen

The beauty of Warren Buffett's investment philosophy is that it's extremely simple. It's out there for anyone to learn and practice. In keeping with his philosophy, he has often proclaimed - Be fearful when others are greedy, and be greedy when others are fearful. One of the best examples of this theory was seen in the infamous 2008 market crash where Mr. Buffett didn't lose any money but ended up making billions of dollars of profit. How did he do it?

As we always say intelligent investors think differently, here is a fine example of that. In 2008, Mr. Buffett bought many stocks which were kissing the bottom, at a discounted price, with some lucrative buyback arrangements. One such stock was Goldman Sachs. He bought the preferred shares of Goldman Sachs that, over the period of time, paid him a 10% interest rate and also included warrants to buy additional shares of the company. Furthermore, the company also had the option to repurchase the stocks from Buffett at a 10% premium, which eventually they did. Buffett's master-stroke was to step in at the time when most of the companies needed good liquidity to sail through the crisis, in return, he made a profit of billion dollars.

Key Takeaways

Ignore politics and macroeconomics when picking stocks

Generally, people try to keep tab on all the activities i.e. political situation, changes in policies, etc. as they believe it will bring them good returns. However, the fact is if you are investing for a long term you needn't worry about current happenings in the world. Buffett has advised investors on several occasions that if you believe in the company you needn't worry about the momentary glitches. He firmly believes that a good stock realises its value sooner or later.

Be greedy when others are fearful...

To be on the top of your game you have to think exactly opposite of general investors as they usually go by the market sentiment'. Mr. Buffett says never buy when the market is soaked in the frenzy of profit booking while buy (greedily) when the market is down.

You don't have to grab every opportunity

In the stock market, some stock or other keeps performing on the daily basis. It is not important that one has to stay updated with all the stock and has to be a stakeholder when it succeeds. It's nice if it happens, but it's virtually impossible to keep track of all the things in the market. Thinking along those lines can create a lot of anxiety in the minds of investors. But what Mr. Buffett perhaps wants to suggest is that it's not necessary that you should know everything, and if you don't have to know everything you shouldn't fret about an opportunity or two that you might miss.

Think long-term

The entire Warren Buffett's investment philosophy can be summed up in these three words Think Long Term. Ideally, investors should do all the research of the company and buy the stock at the right price at the right time. If you have accomplished that you can sit back, relax and let your stock grow with time.

There Is No Comparison Between Warren Buffett And Retail Investors

If you think Warren Buffett is an investor like you and me, you are wrong. Mr Buffett is not an investor! Don't be shocked. What I mean to say is - he's not just an investor but also an owner. An investor is a working professional who invests Rs.2,000-10,000 a month into a mutual fund or buys shares of a company every now and then. Mr Buffett doesn't believe in playing the game in a modest way. He buys enough stock in a company so to place himself on the board of the company. As a board member, you gain significant privileges which set you apart from the retail investors. As a board member of any company, you have a say in all the important decisions and also play a role in the hiring or firing of CEOs and CFOs and other top management positions. Can you and I can, as retail investors, do such things? Even if you have as big as few crores invested in a company you still can't make it to the board of a publicly traded company.

The point I am trying to make is that Mr Buffett doesn't go about his equity investment by finding an undervalued company then buying its shares, and then sit back in Omaha with the hope that things will go as anticipated and he will make big money. Needless to say, he is extremely careful about the companies he buys. But his approach to equity investment is diametrically different from that of the retail investors.

However, Warren Buffett's Principles Are Gold Standard Of Equity Investment

There are many celebrity investors who are big admirers of Buffetts value investing methods. Most of them have created their fortune thanks to their unflinching commitment to value investing. However, for retail investors, it is easier said than done. It takes a lot of patience and conviction to stick to the principles of value investing. And in the stock market, every day, you will face the buy-sell dilemma. Nonetheless, lets identify three important steps Warren Buffett, or any value investor takes before investing in any company.

Step # 1 - Look For Stable Companies

Everybody knows that in the stock market there is always a certain amount of risk involved. So what does one mean by 'stable companies'? Even when we take into account the risk factor, it's not difficult to find companies which have stable businesses. The trick to find such companies is to examine the historical data of any company you are investing in. Check the financial statements like Balance Sheets, Profit & Loss statements, Cash statements, etc. It is also important to ensure that the company is growing on Y-O-Y basis while it is maintaining healthy operating profit margin. These points are critical in order to gauge the growth potential of the company.

Step # 2 - Choose Companies That Have Durable Competitive Advantage

When you buy an airline stock, there are 10 other airline companies which are providing the same facilities, doing virtually the same things as its peers. In such situations, where the competition is so stiff, it all comes down to--Durable Competitive Advantage. It simply means a quality that sets the company apart from the rest of the competition. It can be anything from being a debt-free company or an exceptional service that the company provides, anything which makes the company stand out for a considerable period of time is considered a durable competitive advantage. Warren Buffett loves to invest in companies which display such qualities.

Step # 3 - Only Invest In A Company Where You Want To Stay Invested For More Than 10 Years

This is the most important step. The key to wealth creation is a long-term investment perspective. Once you are through first 2 steps always ask yourself whether you are willing to stay invested in this company for the next 10 years? If the answer is yes, only then you should enter the stock. The reason all the master investors advice to go long in your stock investment is because checking your portfolio every day and updating yourself about all the market happenings makes you susceptible to take rash decisions when the market is going through a downturn. Hence Warren Buffett always says buy right and hold tight. Once you get hold of good stocks hold them for the longest possible time.