Tom's Life Bits

User Tools

Site Tools

Trace: • disney_trip_dec_29_2010
info:finance:10_investing_basics_from_buffett

Differences

This shows you the differences between two versions of the page.

Link to this comparison view

Next revision		Previous revision
info:finance:10_investing_basics_from_buffett [2009/11/01 13:30] – created tomgeeinfo:finance:10_investing_basics_from_buffett [2009/11/01 13:33] (current) – tomgee
Line 18: Line 18:
  
 My tour of the essence of Buffett's wisdom starts with the simple psychological lessons taught by the master, many of which are applicable in life outside investing. My tour of the essence of Buffett's wisdom starts with the simple psychological lessons taught by the master, many of which are applicable in life outside investing.
-Lesson No. 1: Be frugal+ 
 +**Lesson No. 1: Be frugal**\\ 
 If the economic downturn is forcing you to live simply, look on the bright side: It's making you more like Buffett. If the economic downturn is forcing you to live simply, look on the bright side: It's making you more like Buffett.
  
Line 28: Line 30:
  
 Third, frugal people don't need fast returns to support extravagant lifestyles. This leaves them free to think more clearly about when to buy and sell stocks, making them much better investors, believes Stephen Shueh, a Buffett expert and managing partner of Roundview Capital in Princeton, N.J. Third, frugal people don't need fast returns to support extravagant lifestyles. This leaves them free to think more clearly about when to buy and sell stocks, making them much better investors, believes Stephen Shueh, a Buffett expert and managing partner of Roundview Capital in Princeton, N.J.
-Lesson No. 2: Wait for the 'fat pitch'\\+ 
 +**Lesson No. 2: Wait for the 'fat pitch'** 
 Resist the itch to constantly buy or sell stocks. Resist the itch to constantly buy or sell stocks.
  
Line 34: Line 38:
  
  
-Lesson No. 3: Be a contrarian\\+**Lesson No. 3: Be a contrarian** 
 A great way to make money is to go against the crowd. "We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful," Buffett explained in a 1986 letter to shareholders. A great way to make money is to go against the crowd. "We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful," Buffett explained in a 1986 letter to shareholders.
  
Line 41: Line 46:
 When the investing public is extremely negative, it's usually a good time to buy stocks. When investors are confident, be careful. When the investing public is extremely negative, it's usually a good time to buy stocks. When investors are confident, be careful.
  
-Lesson No. 4: Stick with what you know\\+**Lesson No. 4: Stick with what you know**
  
 One of Buffett's basic rules is: If you don't understand a company's product or how it makes money, avoid it. He calls this "staying within your circle of confidence." One of Buffett's basic rules is: If you don't understand a company's product or how it makes money, avoid it. He calls this "staying within your circle of confidence."
Line 47: Line 52:
 This isn't always easy. During the late 1990s boom, Buffett famously avoided tech companies, confessing that he could not understand what they did. He looked dumb until the bubble burst. "Ultimately, when it came full circle, he was proven right," Lowenstein says. This isn't always easy. During the late 1990s boom, Buffett famously avoided tech companies, confessing that he could not understand what they did. He looked dumb until the bubble burst. "Ultimately, when it came full circle, he was proven right," Lowenstein says.
  
-Lesson No. 5: Don't depend on others to say you're right\\+**Lesson No. 5: Don't depend on others to say you're right** 
 If you are in need of constant affirmation about your investment decisions, particularly from the stock market, you won't be able to invest like Buffett, points out Legg Mason (LM, news, msgs) money manager Robert Hagstrom in his book "The Warren Buffett Way." If you are in need of constant affirmation about your investment decisions, particularly from the stock market, you won't be able to invest like Buffett, points out Legg Mason (LM, news, msgs) money manager Robert Hagstrom in his book "The Warren Buffett Way."
  
 That's because Buffett makes outsized returns by purchasing disliked value stocks that are so beaten down they're often virtually ignored by the talking heads. They won't be on TV every week telling you that you made the right choice. That's because Buffett makes outsized returns by purchasing disliked value stocks that are so beaten down they're often virtually ignored by the talking heads. They won't be on TV every week telling you that you made the right choice.
  
-Lesson No. 6: Buy companies cheap\\+**Lesson No. 6: Buy companies cheap** 
 This is the essence of being a value investor. The first step involves calculating what Buffett calls an "intrinsic value" for a business -- either by examining what similar companies sell for or calculating the present value of all the cash that will be generated by a company in the future. For more details on how to do this, you'll have to consult books such as "The Warren Buffett Way" or "The Market Gurus" by Validea's John Reese. This is the essence of being a value investor. The first step involves calculating what Buffett calls an "intrinsic value" for a business -- either by examining what similar companies sell for or calculating the present value of all the cash that will be generated by a company in the future. For more details on how to do this, you'll have to consult books such as "The Warren Buffett Way" or "The Market Gurus" by Validea's John Reese.
  
Line 62: Line 69:
 The key throughout this analysis is to look back over five years or more. Buffett wants to see a consistent operating history; he's not into startup companies. He also prefers to gauge how well a company does in different kinds of markets, not just the good times or the latest quarter. The key throughout this analysis is to look back over five years or more. Buffett wants to see a consistent operating history; he's not into startup companies. He also prefers to gauge how well a company does in different kinds of markets, not just the good times or the latest quarter.
  
-Lesson No. 7: Look for companies with economic moats\\+**Lesson No. 7: Look for companies with economic moats** 
 A key characteristic supporting consistent operating history is a sustainable competitive advantage. In other words, a company should have a barrier to entry -- or a kind of moat -- that keeps potential competitors at bay. A key characteristic supporting consistent operating history is a sustainable competitive advantage. In other words, a company should have a barrier to entry -- or a kind of moat -- that keeps potential competitors at bay.
  
Line 68: Line 76:
  
 BNSF Railway is a great example of a "franchise" business. It's pretty hard for anyone to lay enough track in North America to start a competing railroad. Coca-Cola (KO, news, msgs), another long-term Buffett holding, has barriers to entry in the form of a strong global brand and distribution system that is hard to replicate. BNSF Railway is a great example of a "franchise" business. It's pretty hard for anyone to lay enough track in North America to start a competing railroad. Coca-Cola (KO, news, msgs), another long-term Buffett holding, has barriers to entry in the form of a strong global brand and distribution system that is hard to replicate.
-Lesson No. 8: Buy big, concentrated positions+ 
 +**Lesson No. 8: Buy big, concentrated positions** 
 Most professional money managers protect against risk by diversifying. Buffett goes against the crowd here, too. When he finds a company he likes, he piles into it big time. Most professional money managers protect against risk by diversifying. Buffett goes against the crowd here, too. When he finds a company he likes, he piles into it big time.
  
 This is crucial to his success. Money manager Hagstrom calculates that if you eliminate a dozen of Buffett's best investment choices over his career, he's only an average performer. Buffett thinks his risk protection comes from understanding a business better than the market does and then being patient enough to buy it at the right price. This is crucial to his success. Money manager Hagstrom calculates that if you eliminate a dozen of Buffett's best investment choices over his career, he's only an average performer. Buffett thinks his risk protection comes from understanding a business better than the market does and then being patient enough to buy it at the right price.
  
-Lesson No. 9: Hold for life\\+**Lesson No. 9: Hold for life** 
 Buffett quips that his favorite holding period is "forever." Embedded in this concept are two key Buffett tenets I've already alluded to. First, it's worth investing only in companies that are good enough to outperform for decades. Next, you have to think on your own and avoid the madness of the crowd. Buffett quips that his favorite holding period is "forever." Embedded in this concept are two key Buffett tenets I've already alluded to. First, it's worth investing only in companies that are good enough to outperform for decades. Next, you have to think on your own and avoid the madness of the crowd.
  
Line 86: Line 97:
 The price of his company's stock -- always a major part of his wealth -- dropped 31% in 2008 and continued to follow the market down early this year. Since, it and the market have rallied strongly. The price of his company's stock -- always a major part of his wealth -- dropped 31% in 2008 and continued to follow the market down early this year. Since, it and the market have rallied strongly.
  
-Lesson No. 10: Believe in America\\+**Lesson No. 10: Believe in America**
  
 Unlike most investors, Buffett doesn't tweak his portfolio depending on which party is coming into office or where we are in the economic cycle. This may make him seen naive. But it also has him putting money to work now, when many others have lost faith in the U.S. economic system. It's a move that will likely make him a winner down the road yet again. Unlike most investors, Buffett doesn't tweak his portfolio depending on which party is coming into office or where we are in the economic cycle. This may make him seen naive. But it also has him putting money to work now, when many others have lost faith in the U.S. economic system. It's a move that will likely make him a winner down the road yet again.
info/finance/10_investing_basics_from_buffett.1257100238.txt.gz · Last modified: 2009/11/01 13:30 by tomgee