Revealed: Warren Buffett’s investing ‘secret sauce’ for finding value stocks

John Maslen uncovers new paths to profit as the world’s most successful investor, Warren Buffett, shares the ‘secret sauce’ of his investment strategy.

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Warren Buffett at a Berkshire Hathaway AGM

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The figures behind the success of Warren Buffett’s investment strategy at Berkshire Hathaway are staggering.

Since 1965, it has delivered annual gains averaging nearly 20%. Investment returns have beaten the S&P 500 for 70% of the time. Overall gains on investments are 3,787,464%. The fund has returned annual growth in 47 of its 58 years – an 81% success rate.

So what is the secret of Buffett’s success? Luckily, he is more than willing to share the ‘secret sauce’ of Berkshire Hathaway’s amazing returns.

Firstly, it is all about perspective. Buffett says the goal is to “make meaningful investments in businesses with both long-lasting favourable economic characteristics and trustworthy managers”.

When purchasing stocks with long-term business partner Charlie Munger, the focus is long-term business performance.

“That point is crucial. Charlie and I are not stock-pickers; we are business-pickers.”

Warren Buffett

He argues that success has been built on about a dozen truly good decisions and the advantage of long-term investment.

A good investment decision is rewarded with strong, regular dividends and a rising share price as the business grows.

The ‘secret sauce’ of investing

For example, Berkshire Hathaway’s $1.3bn investment in Coca-Cola generated dividends of $75m in 1994. By 2022, annual dividends rose to $704m. Over the same period, the value of Coca-Cola shares rose 1,900% to $25bn.

It was a similar story with American Express. Annual dividends from Berkshire’s $1.3bn share purchase rose 740% between 1995 and 2022, from $41m to $302m. The value of the investment also grew 1,700% to $22bn.

These stratospheric sums are beyond the wildest dreams of individual investors, but the strategy applies whether we have £100 or £1bn to invest.

The secret sauce lies in finding a strong business that is destined for growth.

Warren Buffett says the lesson for investors is that “the weeds wither away in significance as the flowers bloom. Over time, it takes just a few winners to work wonders”.

Building wealth through patient investing

You can see the power of long-term investment in companies such as Diageo (LSE:DGE), one of Berkshire Hathaway’s investments. Over the past 40 years, the share price has risen nearly 6,600%. It has also generated healthy dividend yields averaging around 3%.

Currently, most analysts perceive Diageo as a ‘buy’ because of strong recent performance.

For the half-year to the end of December 2022, net sales were up more than 18% to £9.4bn. Operating profit grew 15.2% to £3.2bn. The interim dividend also increased by 5%.

Without a long-term view, there is a risk of an investor missing future growth. For example, between 2002 and 2003, the Diageo share price fell 30% from £9 to £6. Had I owned shares at the time, it may have prompted me to rush to sell and take a loss. But since then, the share price has soared 500%.

This is where the value of long-term investment lies.

In his letter to investors, Warren Buffett provides a list of insightful quotes from Munger that can guide investing.

Perhaps the most valuable is what inspires long-term investment.

“The world is full of foolish gamblers, and they will not do as well as the patient investor.”

Charlie Munger

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

American Express is an advertising partner of The Ascent, a Motley Fool company. John Maslen has no position in any of the shares mentioned. The Motley Fool UK has recommended Diageo Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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