Warren Buffet’s annual letter to shareholders of Berkshire Hathaway has been a treasure trove of investment wisdom since 1965. In addition to Ben Graham’s writings, these are required reading for all value investors. With the annual Berkshire shareholder meeting coming up on May 3rd, I thought I’d highlight some key points he makes in this year’s letter. If you haven’t downloaded it yet, here’s the link:
WB: “You don’t need to be an expert in order to achieve satisfactory investment returns.”
You don’t need to be a hedge fund quant in order to generate great returns over the long-run. Stick to what you know inside your circle of competence, and if you don’t understand an investment, move on.
WB: “Focus on the future productivity of the asset you are considering.”
You should be able to make a rough estimate of what an asset’s earnings or cash flows will be over the next few years.
WB: “If you instead focus on the prospective price change of a contemplated purchase, you are speculating.”
Don’t speculate what the future price may be of a particular stock. Support or resistance or any type of technical analysis shouldn’t be a justification to invest. Approach an investment from the standpoint of owning a piece of a business. As Ben Graham taught Buffet: “Price is what you pay, Value is what you get.”
WB: “With my two small investments, I thought only of what the properties would produce and cared not at all about their daily valuations.”
How often do we stay glued to our stock quote screens obsessing over daily fluctuations in the market? Mr. Market may be perfectly rational one day and psychotic the next. Get away from the chaos of daily price movements, look at the big picture, and have a long-term perspective.
WB: “Forming macro opinions or listening to the macro or market predictions of others is a waste of time.”
This is probably my favorite piece of advice. The world is a chaotic place and there are so many variables at play in the complex behemoth that is the global economy, that making macro predictions or listening to people making predictions about the market is a waste of time. No one can control what goes on in the world and how the economic winds blow. What you can control is how you allocate your capital. Successful value investors make decisions using a bottom-up approach, analyzing each investment based on its own merits.
WB: “Owners of stocks, however, too often let the capricious and often irrational behavior of their fellow owners cause them to behave irrationally as well. Because there is so much chatter about markets, the economy, interest rates, price behavior of stocks, etc., some investors believe it is important to listen to pundits – and worse yet, important to consider acting upon their comments.”
There is a lot of noise out there about markets and the economy. Watching CNBC or Bloomberg all day can make your head spin from all the information being spewed your direction. It may make you feel like you need to take action, to do something, anything, in reaction to market events and opinions. Of course banks and brokerages and trading platforms profit more when you trade actively so it’s encouraged. However, active trading and the resulting large transaction costs will kill you. The more you trade, the less you’ll make.
In reality, all that chatter should matter very little to how you allocate your capital. Do your own homework and don’t blindly listen to so-called experts.
WB: “The goal of the non-professional should not be to pick winners……but should rather be to own a cross-section of businesses that in aggregate are bound to do well. A low cost S&P 500 index fund will achieve this goal……Following those rules, the “know nothing” investor who both diversifies and keeps his costs minimal is virtually certain to get satisfactory results. Indeed the unsophisticated investor who is realistic about his shortcomings is likely to obtain better long term results than the knowledgeable professional who is blind to even a single weakness.”
In the end, most investors will perform better by simply staying invested in the general market. However, there’s nothing wrong with having an opinion on certain stocks and investing in them. Just make sure you’ve done your homework and given yourself a large margin of safety so that if you’re wrong, the financial hit won’t take you out of the game. Overconfidence and other biases give investors false confidence in their investment decision-making capabilities. Before making an investment, ask yourself: “Is there a place I stumbled in my analysis or have I overlooked a hidden risk?” Even if you’re confident, an investment in one stock should never comprise a significant portion of your net worth.