Famed investor Warren Buffett came from a well-off family. But he has worked hard since his schooldays to build an enormous personal fortune.
By applying lessons from his career, I think I could improve my personal wealth in years to come, even from a standing start. I would use the Buffett method to select shares and buy them to hold in my portfolio. Here is how.
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Thinking for the long term
Buffett’s career spans decades and many investments he has made have also involved a long-term perspective. For example, he still owns American Express shares he bought in the 1960s.
As an investor, there are several benefits to taking a long-term approach. It reduces the need to keep checking on what is happening in the stock market. It also allows enough time for a truly great business to reflect performance in its share price.
This is seen in Buffett’s holdings such as Apple or Coca-Cola. From year to year, maybe a supply chain problem or sales fall could hurt earnings. But over the course of decades, the attractiveness of such companies’ business models ought to mean that the firms do well. When investing in great businesses, time can become an investor’s friend, just as it can be an enemy when investing in poor ones.
Learn about some industries
Buffett is emphatic about sticking to his circle of competence. It is already difficult to assess the value of a business we understand, so trying to do that for a company we do not comprehend would be even harder.
But when Buffett started out, he did not know much about industry or business. Over time, he took classes and educated himself to help learn how to value them. Specifically, he has spent time learning the ins and outs of a few particular business areas, such as insurance.
I think that is worth doing as an investor. I need my own circle of competence. Those could be areas I have learnt about in my daily life. Or it may be that I identify some industries I think could have attractive economic potential and spend time learning about them. Doing that will expand my circle of competence and allow me to make better-informed investment decisions in those areas.
Do only a few things, but at scale
A lot of people think the best way to get rich is to take a scattergun approach. By buying shares in a large range of companies, they hope at least some of them do very well.
But that is not investment, it is closer to speculation. Buffett actually makes surprisingly few moves in the stock market. While he is constantly reading, researching and learning, he can go years without making a sizeable share purchase.
That is because he is not interested in making what he regards as merely good investments. Instead, he prefers to keep his powder dry so that he can load up on what he regards as great investments.
In Buffett’s view, these come along only rarely – but when they do, it makes sense to go for them in a big way. As he says: “You(‘ve) really got to grab them when they come. Because you’re not going to get 500 great opportunities.”
A lot of investors struggle to do nothing. If the objective is to build personal wealth, sitting with cash for years and not investing it can seem like wasting time. With inflation reaching a 40-year high, that may feel truer than ever right now. But learning from Buffett, I would try to wait patiently for a great opportunity to come along.
To illustrate this, imagine that today I have £10,000. I could invest it in a good share that turns out to compound in value in 7% each year for 25 years. Or I could do nothing for 10 years and use the money to buy a share that compounds in value at 14% each year.
Twenty five years from now, taking the first approach would mean I had £57,000. That is certainly a good return, in my opinion. But taking the second approach, 25 years from now I would have over £80,000. In other words, my investment return would be dramatically better – even though I did not invest a penny of the money for a decade.
That illustrates how, over time, great shares could help me build my personal wealth far more effectively than good shares, even if I need to wait a while to find some.
Warren Buffett diversifies and sleeps well
Although he buys large positions in companies he likes enough, Buffett never puts all of his eggs in one basket. Instead, he diversifies across a number of companies and a variety of business sectors.
The benefit of such diversification is that it reduces the overall impact on Buffett’s portfolio if any one business turns out to do worse than he hoped. Even for a master investor like Buffett that is quite common. In fact, his holding company Berkshire Hathaway was a textile manufacturer when he bought it and its core business ended up declining dramatically.
In fact, Buffett said his 1962 purchase of Berkshire as “the dumbest stock I ever bought… it was a terrible mistake.” So if Buffett can make such an error buying the business for which he is most famous, I think it is fair to say I can expect to make some terrible mistakes in my own investing choices. That is one reason I think diversification is so important.
Finally, Buffett does not let worrying about his investments cost him a good night’s sleep. I think that is a useful, practical principle for a private investor like me.
If an investment causes me so much worry it is interfering with my peace of mind, it is probably not the right thing for me to own. Building personal wealth over the long term might not be easy, but it should not be terribly stressful.
Rather, like Buffett, I think it is about learning, researching, making a small number of great investments… and being patient.
