As at 31 December 2014 the price of 1 Berkshire Hathaway Inc. share stood at USD226,000.00 and it reflects well on the financial acument of its legendary founder, Warren Buffett. For a man who has made his massive fortune through investing in shares of companies, he has understandably a huge following. He is also admired by like-minded wealthy individuals for his philanthropy.
How did he do it? Mind you, he started young with ventures such as buying coca-cola in six-packs and selling them individually for a profit as well as hiring the other kids in the neighbourhood to expand his newspaper distribution network. He also read annual reports of companies and made his foray into the stock market. Later, he honed his investment skills by emulating the investment stategies promulgated by Benjamin Graham (the father of Value investing) and Philip fisher (the father of Growth investing).
So, how does Warren Buffett evaluate shares? First, he examines the business of the company instead of just looking at its price on Wall Street. He had been quoted saying that: "to many on Wall Street, both companies and stocks are seen only as raw materials for trades," and "I never attempt to make money on the stock market. I buy on the assumption that they would close the next day and not reopen it for five years. As far as you are concerned, the stock market does not exist. Ignore it. Much success can be attributed to inactivity. Most investors cannot resist the temptation to constantly buy and sell."
That's Buffett-speak; he knows the businesses that he has invested in comprehensively -- their competitive advantage or moat, their debt-equity ratio, profitability and so forth. For the rest of us, we simply cannot take this piece of advice to ignore the stock market altogether in isolation of other factors affecting the company and/or Wall Street.
Next, he looks at the management or people who directs the company. A management team that is strong, cohesive and resourceful with a proven track record would augur well for the future growth and profitability of the company, ceteris paribus. Suffice to say, a company is only as great as its operators.
Then, he seeks to take advantage of market irrationality. He understands that share prices are determined by demand and supply which, in turn, are irrationally driven by fear and greed. (So much for the Efficient Market Hypothesis taught in classrooms.)
Buffett would look at the intrinsic value and growth potential of a company under his radar and buy when the market undervalues it.
In gist, Buffett's investment philosophy are summed up in the following two rules:
1. Don't lose capital; and
2. Don't forget rule number 1.
And, his simplified investment principles are summed as follows:
a) Know what you own;
b) Research before you buy;
c) Own a business, not a stock;
d) Make a total of only twenty lifetime investments; and
e) Make one decision to own a stock and be a long-term owner.
Bibliography
- Warren Buffett Wealth by Robert P. Miles
- Secrets of Millionaire Investors by Adam Khoo & Conrad Alvin Lim
