Warren Buffet, CEO of Berkshire Hathway is known for his investment ideology. He is in fact one of the biggest examples of success of wealth that can be created by investing in stocks. His own investments have earned him the title of ‘Oracle of Omaha’.
He never penned a book on his investment philosophy; rather he issued letters to his shareholders every year. These letters are considered as Holy Grail by the investment community. His letters give detailed insights on how he selects a stock, about his economic outlook etc. He has been writing these letters for several decades now.
But these letters convey more than just his investment philosophy; it conveys a business philosophy.
We try to decode the very first letter written by him to his shareholders in 1977. Here are some key insights from this letter:
- Investment selection
“We select our marketable equity securities in much the same way we would evaluate a business for acquisition in its entirety”
Before making any investments he follows some golden rules:
- Understand a business well
- The business must have favorable long-term prospects
- Business should be prepared by honest and competent people
- It should be available at attractive prices
He does not believe in investing for some anticipated short term movements.
The same philosophy should be used by us when we are responsible for investing on behalf of our clients. We should evaluate the company before we invest even when it comes to recommending a mutual fund. A fund’s performance depends on the fund manager, his skills and expertise. Distributors would do well to evaluate a fund manager before recommending funds to clients.
- Don’t get influenced by ‘record earnings’
“Most companies define record earnings as a new high in earning per share. Since businesses customarily add from year to year to their equity base, we find nothing particularly noteworthy in a management performance combining, say, a 10% increase in equity capital and a 5% increase in earnings per share. After all, even a totally dormant savings account will produce steadily rising interest earnings each year because of compounding”
We should look at the source of growth than just the ‘record earnings’ reported by the company because even cash deposited in the bank would earn and grow money through interest. It may be a growth not due to managerial competence but by higher capital investment, without any benefits given to the investor.
- Admitting Mistakes
“We have mistakenly predicted better results in each of the last two years. This may say something about our forecasting abilities”
Warren Buffet in his letter admits his mistakes. To really win the trust of you clients you need to admit your mistakes. You need to tell them about your projections and explain how they went wrong. This helps create a better bond with the client.
- Appreciating the effort of the team
“We must again give credit to Phill Liesche, greatly assisted by Roland Miller in Underwriting and Bill Lyons in Claims, for an extraordinary underwriting achievement in National Indemnity’s traditional auto and general liability business during 1977.”
One should always appreciate the effort of their employees and team mates. A success is always shared and when we recognize the hard work and appreciate the same, the team is motivated to work harder.
- Believe in the long term performance of a business
“Most of our large stock positions are going to be held for many years and the scorecard on our investments decision will be provided by business results over that period and not by prices on any given day.”
Never invest in anything for short term gains. Always have a vision before you invest. When we take any investment decisions for our clients it shouldn’t be for short term appreciation but we should look at the long term benefit that the client will derive from it.
- Looking for the intrinsic value before investing
“When prices are appropriate we are willing to take very large positions in selected companies, not with the intentions of merger or taking control but with the expectations that excellent business results will translate into correspondingly excellent market value and dividend results for owners, minority as well as majority.”
It is important that one looks for the true value or intrinsic value before they invest in anything. For instance, is it the right time to invest in MFs when market is at its peak? We need to be able to evaluate the value before we invest.
Look forward to more letters being decoded. Keep checking this section for new updates.
