Warren Buffett has a long track record of outperforming the stock market. A key part of his strategy is using the market’s boom/bust cycle to his advantage. This allows him to buy high-quality companies when they trade at low prices, and to avoid them when they trade on less attractive valuations.
Given the recent stock market rally in the new bull market, Buffett’s advice could be extremely useful to long-term investors. It may help them to unearth the best risk/reward opportunities that provide superior growth compared to the stock market over the coming years.
Warren Buffett’s value investing strategy
Warren Buffett’s investment strategy is relatively simple. He seeks to purchase high-quality companies when they trade at low prices. Clearly, determining the quality of a business is very subjective. For Buffett, this entails a company with a wide economic moat, or competitive advantage, over its rivals. For example, this may include a unique product, a low cost base or a high degree of customer loyalty that can produce higher margins and profitability over the long run.
Buying high-quality companies at low prices often means there are threats to their short-term performance. For example, they may be experiencing challenging operating conditions that are causing their financial performance to disappoint. Many FTSE 350 shares currently fall into this category, with the coronavirus pandemic causing disruption across a wide variety of sectors.
As such, there may be buying opportunities for investors following a similar strategy to that of Warren Buffett. Such companies may fail to outperform the stock market in the short run, but could offer long-term reward prospects due to their solid market positions and low share prices.
Preparing for the next stock market crash
Warren Buffett’s investment plan also means avoiding overvalued businesses. At the present time, there are also many of those in existence across the UK stock market. A number of UK shares have become extremely popular among investors in the current bull market. The recent stock market rally has pushed some of them to very high prices that may overvalue their long-term financial prospects.
Avoiding such stocks could be a profitable move. Although they may currently be popular among investors, they could lack a wide margin of safety that ultimately limits their capacity to provide above-average capital returns in the long run.
Furthermore, Warren Buffett holds a large amount of cash at all times. This enables him to capitalise on future buying opportunities that could be on offer as the stock market’s boom/bust cycle continues.
Although it is extremely difficult to predict when the next stock market crash will occur, the past performance of the FTSE 350 shows that it is never far away. As such, now could be the right time to hold some cash in preparation for even more attractive buying opportunities once the current bull market comes to an end.
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.