Warren Buffett has amassed a fortune worth more than $100bn. Interestingly, 99% of his fortune was earned after the age of 50. And conveniently, this brings us to our first and most important tip.
Harnessing the power of compound returns
Buffet once stated, “My life has been a product of compound interest“. The longer my investment compounds, the greater its potential to generate wealth. This explains why Buffett accumulated most of him wealth after the age of 50.
It’s because compound returns — which works when we reinvest our returns year after year and therefore earn interest on interest — allows for exponential growth. The effect of compounding returns can be likened to a snowball because, similar to a snowball rolling down a hill, it starts small but gradually gains momentum and grows larger over time.
Obviously, many of us don’t have the same investment timeline as Buffett. Maybe he didn’t either. Not every man who reportedly consumes Coke and McDonalds every day is likely to continue working into their 90s. But his experience demonstrates the power of compounding year after year.
Here’s how £10,000 grows over 70 years — the length of Buffett’s career — assuming 10% annualised returns.
| Value (starting point £10,000 at 0 years) | |
| 10 years | £27,070.41 |
| 20 years | £73,280.74 |
| 30 years | £198,373.99 |
| 40 years | £537,006.63 |
| 50 years | £1,453,699.23 |
| 60 years | £3,935,224.14 |
| 70 years | £10,652,815.02 |
Most investors don’t plan for 70 years. But the above projection shows how quickly the portfolio grows towards the end of the timeframe versus the beginning.
Value + quality = strong and stable returns
Buffett picks undervalued stocks and good-quality companies. Undervalued stocks have the potential to increase in value over time as the market recognises their true worth. By investing in undervalued stocks, Buffett aims to benefit from their price appreciation as the market corrects the valuation gap. Finding these stocks requires research, or a good source of tips. It’s also the reason so many investors follow Buffett into investments.
Over time, Buffett has increasingly favoured quality companies with strong fundamentals, including solid financials, durable competitive advantages, and competent management teams, rather than ‘deep value’ stocks. By selecting high-quality stocks, he aims to invest in businesses that can generate consistent profits and sustainable long-term growth.
While compounding is an excellent strategy, Buffett’s focus on value and quality highlights the importance of making shrewd investment decisions. The value of my investments could fall instead of rise if I make poor decisions.
Creating passive income
So, Buffett tells us to invest for the long run, utilising a compound returns strategy while seeking out undervalued yet top-quality companies. This gives us a fighting chance at delivering index-beating returns and benefitting from exponential growth.
Here’s how it could work with an empty portfolio. In lieu of any starting capital, I commit to invest £200 a month. And I do this while reinvesting the returns I receive from my investments every year.
The size of my portfolio, and how much passive income I receive will then depend on the annualised returns, and how long I leave it. Here’s how much income I could generate at each milestone and with different annualised returns.
| 6% returns | 8% returns | 10% returns | 12% returns | |
| 5 years | £734.44 | £1,025.39 | £1,342.92 | £1,689.41 |
| 10 years | £1,827.89 | £2,703.30 | £3,758.25 | £5,029.22 |
| 20 years | £5,292.21 | £8,927.49 | £14,270.65 | £22,119.31 |
| 30 years | £11,595.18 | £22,742.95 | £42,728.13 | £78,523.20 |
