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Why Warren Buffet Makes Money and You Don’t

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Yes, You. For the matter it includes me too but the title seems catchy that way !

Jokes apart, what is it that out of so many people invested in the Stock Markets only a few make a real fortune out of it? As a matter of fact, barring Mr. Rakesh Jhunjhunwalla I don’t think there is any self-made millionaire in India who made his fortune via the Stock markets (probably very few unknown others).

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Does it mean that the others are ill equipped or the luck isn’t in their stride. No, because there are those Ivy League experts who are adept at number crunching like anyone else, yet they don’t ride the Stock Markets. Luck can be a factor but then not matter how clichéd it sounds,

“Fortune favors the brave”

When we are talking about Stock Market Riches, the Oracle of Omaha – Mr. Warren Buffet’s name has to be taken in the same breath. The world’s richest man sits on the top of the world having made him a fortune investing in stock markets over a period of time. What’s more, he has done it for millions of his shareholders as well, invested in Berkshire Hathaway.

Did you know that a $10,000 investment in Berkshire Hathaway in 1965, the year Warren Buffett took control of it, would grow to be worth nearly $30 million by 2005

The marketplace is abuzz with Buffet’s investment principles with dozens of books and millions of citations on the Internet. But, then we haven’t seen anyone come remotely close to the fortunes that Mr. Buffet has made.

Technical and Fundamental Analysis apart, there are some very simple yet important principles which are highlighted in Mr. Buffet’s Investment rationale.

Never invest in a business you cannot understand

Sound simple. The philosophy is so profound yet how many of us tend to avoid it. One look at his portfolio and the statement makes all the more sense .Coca-Cola, Nike, Procter & Gamble, J&J. The business intricacies apart, the companies make products we can all relate to and probably use them too on a regular basis.

Risk can be greatly reduced by concentrating on only a few holdings

How many of us have heard, “Never put all eggs in one basket” or Diversification is the key to effective investment. But, then aren’t we culprits of over-diversification at times. I remember holding 17 stocks in my portfolio at one time. Over diversification leads to dilution of possible gains and it is difficult to track 17 companies at once.

Mr.Buffet’s portfolio has a list of 41 stocks. It may sound too much, but then he has accumulated them over years and has hundreds of people managing his investments now.

Patience

This single word is the game changer of sorts. This virtue alone separates the likes of Mr. Buffet, Peter Lynch from the average Joe. The explanation for this is best understood in terms of Mr. Buffet’s principles itself.

  1. Only buy something that you’d be perfectly happy to hold if the market shut down for 10 years
  2. Unless you can watch your stock holding decline by 50% without becoming panic-stricken, you should not be in the stock market
  3. The advice “you never go broke taking a profit” is foolish
  4. Buy a business, don’t rent stocks

The quotes speak for themselves; invest in Stock Markets to become a co-owner and not to make profits out of fluctuations.

It would be wrong to say that these 3 are the principles that made Mr. Buffet his riches. A lot of research and number crunching is responsible for Mr. Buffet buying stocks at a “Fair” price or on the basis of intrinsic value which the whole world is trying to figure out. But these are some no-nonsense jargon free fundamentals that can go a long way in ensuring a long term healthy investment portfolio.

I would like to know from Stock Market Enthusiasts out there – Do you think that if you stick to these 3 principals of Mr. Buffet, you will make money in Stock market?

[This post has been written by our regular contributor Ankit Agarwal, an ERP Consultant by profession, a wannabe entrepreneur and stock market stalker by passion]

"Why Warren Buffet Makes Money and You Don’t", 5 out of 5 based on 1 ratings.
  1. Sajeesh says

    Any thoughts on the below strategy?

    Have a meaningful diverse portfolio, then grow with whatever (stock, debt, mf or even real estate) that grows!!

  2. Ankit says

    @madhav U are always welcome :) and yes, Buffetology has its share of fans!!

    Point number 1 and 2 are critical for any investment but i did not include them since they require some kinda skill set.I wanted to focus on basic yet important points which every1 can relate to. But yes, management quality is one striking feature.And i am sure Mr.Buffet wouldn have invested in Satyam:)

    As for the 3rd point, thanks for adding details to it!! It was an apt explaination to ‘understanding’ the business

  3. Madhav Shivpuri says

    Guys, already much has been commented on this post so I hesitate to add any more but given that Mr.Buffett is my idol can’t resist the tempation. Here are a few other points probably missed about Buffett’s way.

    1. Margin of safety – buying below the intrinsic value

    2. Management quality- self explanatory but can be expressed as a combination of technical expertise, shareholder friendliness and trasnparency

    3. (last but not the least) Understand the business – Many investors think I understand what Infosys does so I can invest in it. But if you really understand Buffett, he can sit in the CEO seat if required and run the company! That’s what is his “understanding” of the company!

    My 2 cents. Welcome comments.

  4. Hi Ankit

    You’ve picked a very interesting topic.
    I agree that having patience, focusing on companies whose business you understand and avoiding unnecessary diversification will help you as an investor. But alone these 3 things might not be enough.

    1. Patience – If your company’s performance is going down, patience will not make its share price improve. Prudence is also needed. Once you have invested in a stock, accumulate when it dips. Keep tracking its results and know when to exit or buy more. I don’t believe one should stick to a share for too long just because it is what ‘Warren Buffet’ does. I would rephrase the statement and say, “Stay invested till the company is doing well.” This is what Warren Buffet does :)

    2. Warren Buffet succeeds because he is not in it for the short term. He does not read newspapers for stock tips. He does not take a friends advice over lunch and buy a stock. He does not call his uncle (who is a stock broker) and asks stupid questions like ‘Which stock should I buy?’

    Good investors are smart, who take their own calls after having analyzed a stock in detail. And analysing a stock is not rocket science. You dont need to be a fund manager to know how to analyse a stock.

    If you want to learn how to invest in the markets, read Peter Lynch’s book ‘One Up On Wall Street’. It has helped me cross the bridge. From being a time pass investor to a serious investor.

    I will share one example. I bought GMR Infra because I heard it was a good scrip. This was a long time back. I bought it without any analysis. Later I discovered its PE ratio was at 250! The price dipped drastically after that (not due to meltdown but because such a PE was ridiculous). I don’t make such mistakes anymore. I try to do my due diligence before I invest.

    1. Arun Prabhudesai says

      Vivek, Well written points !

    2. Ankit says

      Interesting Points vivek,

      patience yes but not blind patience.Reasearch and insights need to be there too.But then again, as the first rule says buy a company that u feel will stay for another 10 years.Example from indian markets : HUL,L&T ..Now if u think these companies can stay in the market for the next 5-10 years, i can gaurantee that they will only be doing better
      I completely agree with the second point.This is the single most point which is the cause of all losses:) There are too many market experts out there who wanna fill their pockets

      As for GMR Infra i have made the same mistake too but then Private+Infra is a cyclical and a momentum sector.A long term strategy is too risky in this sector IMO

  5. Arun Prabhudesai says

    Hey Ankit,

    I was wondering what would be the returns on Infosys be, if I had invested 10,000 in their 1993 IPO. Heard lot of stories on that – see if you can dig that one out :)
    Infact, would be a great post for your Finance Friday :)

    1. Ankit says

      Phew Arun!! too many comments to catch up:)
      Was a lil busy and had to do them all together!!

      I will try doing a Infosys story though technical sector is not something that i track.But, yes it will be interesting none the less.Will try to put it together for FF

  6. Squamble says

    Patience pays true! : Did you know an investment of Rs. 10,000 in Wipro in 1979 would be worth more than 200 Cr. today. Believe it or not but this is the fact.
    Check this link out : http://www.squamble.com/2009/04/18/all-on-long-term-investing-and-how-to-identify-multibaggers/

    1. Ankit says

      ya, quite true!! But then, the investor mentality has changed multifold.intraday trading is what lures investors and the so called market experts make money :)
      Interesting article though i am already a regular at squamble:)

  7. Philip says

    i too have 15 stocks in my portfolio and need to pare it down. Other than that i trust Buffett’s saying that “my favorite holding period is forever”

    1. Ankit says

      @philip True!! Until and unless we have all the time in t world to monitor, 15 stocks is too big to handle

  8. Dan Braem says

    There is much more to Buffett than simple investing. He has many other advantages, including the ability to buy entire companies. He also discovered the safest form of leverage (i.e “investment float”).

    I describe all of these in my book…”Building the Next Berkshire Hathaway”.

    1. Ankit says

      Dan, i am sure there is more to Buffetology then what i chronicled.But, the 3 principles i mentioned are the ones which are fundamentally important.No amount of research will reap benefits without these.

      I would be keen to read your book.But then, i aint even 1% as rich as Mr.Buffet himself :) But, I have saved the link and i shall buy it when my paypal goes positive.
      Cheers

  9. Ankit says

    @Sahil
    Awesome sahil!! Patient paid big rewards for ur dad:)
    But, yes patience alone is one factor that make the investment fruitful.The problem happens when people start thinking of equity investments as a money making/profit making machine which they aren.Investments should always be done with capital appreciation in mind..
    Thanks for sharing ur personal exp and hope you inculcate the same virtues in ur investment portfolio

    1. sahil khan says

      well, even the ‘patients’ pay off well for dad. he’s a doc. and his arab patients are hell rich. ;) i doubt i’ll be able to inculcate those kind of virtues in my stock market portfolio, but in my company, hell yeah! :)

      1. Ankit says

        lol..wht a co-incidence.my dad s a doc too but then this patients aren arab:(
        I used to frequent tossedsalad but then time took its toll!!
        Good luck wit ur company and good luck wit ur portfolio too.Who knows people start accumulating ur company stocks!!

  10. sahil khan says

    example of patience: i’ve seen my dad’s one stock triple over night. UB. for 10 years it was at one level, and when UB bought some company in UK, it rose by 200%!!!

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