Warren Buffet the greatest investor of all time is known for his investment principle and his massive wealth creation over a long period of time.
According to the Forbes list of billionaires, the networth of the buffet is $117 billion. All the knowledge he carries and the money he earns doesn’t come in a day.
He believes both things compound over a period of time which then gives him a fabulous return. In this blog, you will understand the Investment principle of warren buffet.
Childhood of Warren Buffet
In childhood he used to sell coke bottles, delivers the American Express newspaper in Omaha, Nebraska. Whatever money he earns, he used to invest that money in the stock market.
He actually started investing at the very young age of 11. Since childhood, he knew the importance of investing very well.
Education of Warren Buffet
After completing graduation from the University of Nebraska, he flew to Columbia University to study M.S. There he met Benjamin graham. Benjamin Graham was one of the greatest investors of that time who later became the warren buffet’s guru. He greatly influenced the investment style of the buffet.
Buffet also took the world-famous course of dale Carnegie on communication. It helps him a lot in his further life. All of these things confirm that buffet not only invests in businesses but also in knowledge. Now, let’s jump directly to draw the curtain over the money-making principles of warren buffet.
1. Focus on fundamentals rather than daily charts
Unlike other fund managers, he rarely sees the share price of any stock. The daily up and down movement of the stock doesn’t interest him.
He never makes the decision to buy the stock on the basis of whether it is in the limelight or the favorite of wall street. According to him, the actual price of a stock is different from its current value.
He urged investors to read annual reports and quarterly reports to understand the company. Annual reports help investors to know the fundamentals of the company. In the short-term market is driven by the emotions of the people but in the long term, the fundamentals of the company drive its price.
2. Invest for the long term
When the interviewer asked buffet the best time to hold the stock he replied ‘Forever’. He firmly believes in investing for the long term. According to him, “If you can’t hold the stock for 10 years then don’t even think to hold it for 10 minutes”.
Actually, it is easy to predict the future of the company after 10 years rather than guessing its price of next day or next week. There are many stocks like Coca-Cola, American Post, Well Fargo which he is holding for so many years.
Investing for the long term automatically reduces the risk of losing money. Because historically the stock market has given consistent returns.
3. Don’t overpay
The buffet is a strong proponent of value investing. According to value investing, price and the value of a stock is a different phenomenon. The value of a stock is its intrinsic value and price is its current share price.
In the long-term stock moves according to its intrinsic value. As an investor, you have to buy the stock below its intrinsic value. Buffet believes, “value investing is simple but not easy”. When the whole world was selling American post stock due to some fraud cases on them.
Buffet believed that the fundamentals of the company are sound and the impact of all of these will be for a very short time. Hence buffet continued to invest in that stock and made an insane amount of money.
According to value investing when the stock falls it is a great opportunity to buy. Because stock is present at a dirt-cheap price. Although it is very difficult to go against the wave that’s what distinguishes between intelligent and amateur investors.
4. Invest in a simple business
If you can’t explain your investment in 1 minute then you don’t understand the fundamental of the company. Buffet believes in investing in a simple and understandable business. His investment principles are so simple that any 5-year kid can tell what his investment company does.
He has made his largest investment in Apple which obviously makes premium quality mobile phones and MacBook. Similarly, Coca-Cola just makes the Coldrinks and distributes them around the globe.
It is a myth that you need a high IQ to be a successful investor. In fact, he says,” If algebra and calculus were compulsory to become a successful investor then I would be still selling newspaper”. The only thing you need is decent knowledge about the company you are invested in and the common-sense investing approach.
5. Focus on financial ratios
He focusses mainly on selected financial ratios which you will be going to know one by one.
1. Roe over Eps
Buffet gives more importance to Roe over Eps. Eps can be controlled by the management of the company. Because all companies reserve some portion of the previous year’s earnings so there is no need to get excited if the company is telling you that we have achieved record Eps growth.
On the other hand, Roe is the ratio of the returns shareholders make to their equity. Roe can be compared with other peer companies which help invest in better companies.
Roe of the company can be increased by increasing the debt-to-equity ratios. Warren Buffet is fully aware of it, so he prefers to invest in high Roe business with little debt.
2. Invest In low debt to equity ratio company
He prefers to invest in companies having low debt. If the company has higher debt, then a major chunk of its profits will go into paying interest on the debt.
In the time of recessions, it becomes hard to survive for such companies. According to him, great businesses don’t require to take high debt to run their day-to-day expenses.
3. High profit margin
Buffet believes in investing in the high-profit margin business. Great companies give major attention to their profit margins. It helps them to survive in difficult times.
He sees the 10-year profit margins of the company. If the profit margin is high, it shows the ability of management to run the company successfully.
Any good thing takes time. When someone gets successful people call it an overnight success but in reality, that person has waited patiently for so long time. Buffet gives all credit for his success to the patient. People want to become rich but they hate to become slowly.
Most of his wealth is grown after the age of 60. The power of compounding starts showing its magic after a certain period of time. He believes the biggest quality of investors is patience. The only work he does in his office is to read the books, newspapers, and annual reports all day.
He never feels FOMO of not buying the stock if he doesn’t find the value stock. He waits patiently for the right opportunity. The market always offers adequate buying opportunities. So, he always put some cash in hand to invest in unexpected occasions.