Warren Buffett has inspired successive generations of investors with his tremendous stock market success. However, new investors just starting out may not be familiar with the Oracle of Omaha’s investing maxims.
In studying Buffett’s approach, investors can better understand how the billionaire made his fortune and potentially avoid common mistakes.
So, let’s explore some of the Berkshire Hathaway CEO’s golden rules today and how he’s applied them with regard to longstanding investment.
Long-term investing
If you aren’t willing to own a stock for 10 years, don’t even think about owning it for 10 minutes.
Buffett champions a long-term investing approach, which chimes with our philosophy here at The Motley Fool.
A great example of this is the massive $1bn investment Berkshire made in The Coca-Cola Company (NYSE:KO) in 1988 — a position it still owns today.
Berkshire’s total shareholding of 400m Coca-Cola shares delivered dividend income of $736m last year.
Remarkably, the annual dividends alone represent over half the conglomerate’s original investment cost, neatly demonstrating the potential benefits of long-term investing.
Patience
The stock market is a device for transferring money from the impatient to the patient.
Stocks are volatile assets that can depreciate and appreciate in value. Indeed, Berkshire took its initial stake in beaten-down Coca-Cola shares shortly after the 1987 stock market crash.
For some, the prospect of downside volatility is daunting, meaning they avoid the market altogether. At the other end of the spectrum, daytraders seek immediate profits via short-term bets on market movements.
Neither strategy is Warren Buffett’s cup of tea — or should I say, Coke?
Instead, he believes patience is a virtue, recommending investors hold shares in well-run businesses with strong growth prospects for as long as possible.
Accordingly, investors can ride out short-term market downturns and maximise the chance of their investments recovering over time.
Plus, the longer the holding period, the greater the compounding effect will be on an individual’s portfolio. This is arguably an investor’s greatest wealth-building tool.
The proof’s in the pudding. By the end of 2020, Berkshire’s investments in Coca-Cola shares had delivered a 1,550% return, excluding dividends!
Knowledge
Never invest in a business you cannot understand.
Some business models are highly complex, but there’s beauty in simplicity. Investing in a soft drinks company merits consideration. Investors don’t necessarily need to find the next hot AI stock to make money.
Coca-Cola’s unbroken 61-year dividend growth streak is built on an impressive economic moat thanks to its portfolio of instantly recognisable brands and strong pricing power.
It claims an enviable market position. The group’s profit margins are considerably higher than close competitor PepsiCo, as is its dividend payout ratio. This suggests Coca-Cola has greater flexibility to hike distributions in the future.
Granted, Coca-Cola’s portfolio is confined to beverages, making it less diversified than PepsiCo’s. Moreover, a price-to-earnings (P/E) ratio above 24 means the stock isn’t especially cheap.
Yet market dominance can demand a premium valuation. This strikes me as a case of “a wonderful company at a fair price“, as Buffett might say.
Overall, I believe budding investors starting from scratch can learn a great deal from Warren Buffett. His influence on my own portfolio is clear — I invest in both Berkshire Hathaway and Coca-Cola.
