Warren Buffett is one of the most successful stock market investors in the world.
His entire approach is to focus on the value of the business and its market price. Once Buffett finds a business he understands and feels comfortable with, he acts like a business owner rather than a stock market speculator. He studies everything possible about the business, becomes an expert in that field and works with the management rather than against them. In fact, often his first act on buying shares in any company is to grant the managers his proxy vote for his shares to assure them that he has no intention to try and move the company away from its core values.
Buffett champions the value investment strategy, and puts no credence in day to day movements in share prices, the impact of the economic mood overall or any other external factors. He maintains a long-term perspective at all times, and never loses sight of the underlying value of a business.
Warren Buffet’s investment methodology is a hybrid mix of the strategies put forward by two 1930s style investment advisers, Ben Graham and Philip Fisher.
From Graham, Buffett learned the margin of safety approach - that is, use strict quantative guidelines to buy shares in companies that are selling for less than their net working capital. Graham also emphasized that following the short-term fluctuations of the stock market is pointless, and that stock positions should be long term.
From Fisher, Buffett added an appreciation for the effect that management can have on the value of any business, and that diversification increases rather than reduces risk as it becomes impossible to closely watch all the eggs in too many different
baskets.
THE BUFFETT APPROACH TO INVESTMENT
1. Never follow the day to day fluctuations of the stock market.
The market only exists to make it easier to buy and sell, not to set values. Keep an eye on the market only for someone who is willing to sell a stock at a not-to-be-missed price.
2. Don’t try and analyze or worry about the general economy.
If you can’t predict what the stock market will do from day to day, how can you reliably predict the fate of the economy?
3. Buy a business, not its stock.
Treat a stock purchase as if you were buying the entire business, using the following tennets:
Business Tennets
- Is the business simple and understandable from your perspective as an investor?
- Does the business have a consistent operating history?
- Does the business have favourable long-term prospects.
Management Tennets
- Is management rational?
- Is management candid with its shareholders?
Financial Tennets
- Focus on return on equity, not earnings per share.
- Calculate "Owner Earnings".
- Search for companies with high profit margins.
- For every dollar of retained earnings, has the company created at least one dollar’s extra market value?
Management Tennets
- What is the value of the business?
- Can the business currently be purchased at a significant discount to its value?
- Manage a portfolio of businesses.
Intelligent investing means having the priorities of a business owner (focused on long-term value) rather than a stock trader
(focused on short-term gains and losses).
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