Guide to Great Investors: Warren Buffett

Warren Buffett, known as the ‘Oracle of Omaha,’ is one of the most successful investors of all time.

According to Bloomberg, Buffett’s wealth is estimated to be around £74 billion. He is currently the largest shareholder in and chairman of Berkshire Hathaway, an investment group based in Omaha, Nebraska.

So how did Warren Buffett make his money? And how did he become so successful?

How did Warren Buffett get started?

Born in 1930 in Omaha, Nebraska, the son of a Republican congressman, Buffett seemed destined for a life in business having set up several small enterprises while still in his teens.

At the age of eleven, he invested in Cities Service stock. He purchased three shares for his older sister, Doris, and himself at $38 (£28) a share. Not long after this, the price dropped to $27 (£20) a share.

As with most greenhorn traders, Buffett was naturally nervous, but he ended up holding out. His resilience gained its reward when the price rebounded to $40 (£30) a share, at which point he sold the stock. As Buffett came to realise, this was a mistake as the price later pumped to $200 (£145).

Patience: that was the lesson Warren Buffett learned from his first stock trading experience.

Warren Buffett’s education

At the age of 16, Warren Buffett attended the Wharton School of Business at the University of Pennsylvania. He was only there for two years before moving back to Omaha, where he enrolled at the University of Nebraska to complete his business degree.

Warren eventually graduated from Columbia University in 1951 with a master’s degree in economics. During his time at the university, he studied under famed economist Benjamin Graham, author of the acclaimed book, The Intelligent Investor, and David Dodd.

How did he build Berkshire Hathaway?

In 1956, Warren Buffett established his own investment company, Buffett Associates Ltd, raising around $105,000 (£76,000) from his family members and friends.

In the years leading up to 1965, Warren Buffett grew the value of his holdings to around £5.2 million. He eventually consolidated all partnerships into a single entity, naming it Buffett Partnerships Ltd.

The textile company Berkshire Hathaway, of which Buffett acquired control in 1965, was to become the vehicle for his subsequent investments.

In the years following his acquired control, Warren Buffett invested a lot of money and effort fighting to sustain Hathaway’s failing textile business. However, this proved futile, and Buffett decided to turn his attention to insurance businesses. By 1976, Buffett had acquired the National Indemnity Company and invested about £3 million in GEICO.

In 1985, Berkshire Hathaway’s textile business was shut down, eventually turning the company into Buffett’s investment vehicle.

From 1965 to 2008, the company registered compound annual gains of 20.3%, compared to 8.9% for the S&P 500 (including dividends).

Warren Buffett’s investment style

There are many elements to his style, but they can be summarised as buying understandable businesses, at a price that includes a margin of safety, and holding them forever. In practice, of course, it’s not so simple.

Buffett does not ‘play the stock market’, he buys businesses. He would not consider buying a share unless he was prepared to buy the whole company and hold it for at least ten years. “I buy on the assumption that they could close the market tomorrow and not reopen it for five years.

The businesses he buys should be simple and easily defensible, Coca-Cola being a typical example. “If you gave me $100bn and said take away the soft drink leadership of Coca-Cola in the world, I’d give it back to you and say it can’t be done.” Similarly with Wrigley’s: “I don’t think the internet is going to change how people chew gum.

That preference for the understandable also extends to the company’s culture. While Buffett has made acquisitions outside the US, his focus is on American businesses where he is more at home with the culture. And as if to demonstrate that he can break all these rules when the opportunity is right, he bought 10% of the Chinese electric car company BDY, a foreign technology-based business.

In common with Ben Graham, he is a big believer in having a margin of safety. “I’m open for business, but it’s got to be the best business in town when I do it.” Even getting 10% preference shares in Goldman Sachs and General Electric, he still wouldn’t have done the deal without an additional kicker in the form of warrants.

Private investors just can’t emulate these sorts of deals. “I put a heavy weight on certainty. It’s not risky if you buy securities at a fraction of what they’re worth.

Part of his strategy to achieve those purchase prices is to take a contrarian position, buying whatever is so out of favour that it has been mis-priced by the market. “You can’t buy what’s popular and do well.” This policy served him well in avoiding the boom and bust of the technology bubble, but has been less successful in recent times.

Warren Buffett’s philosophy on wealth

The principle that stands out the most is that you should always live below your means.

Buffett lives modestly in a house he bought fifty years ago and has criticised the extravagance of many in the corporate world.

Warren Buffett maintains that if you want to be wealthy, then you should avoid squandering money on luxuries. He believes that should only “Spend what is left after saving and investing.”

Buffett insists that to be successful, you must find your passion. From an early age, he always knew he wanted to be an investor. That was his primary drive.

While Buffett’s actions are sometimes at variance with his pronouncements, it’s hard to fault the logic of his arguments, and impossible not to admire his success. Investors will continue to pore over his writings for many years to come.