Lessons from the world's richest investor

MONEY TODAY's analyses the book written on the investment strategies of the world's second-richest man, Warren Buffett.

Parag Parekh | April 2, 2008 | Updated 15:34 IST

The question is not what more can be written about a man on whom tomes have already been written but how adroitly one can handle the subject of the ascent of the world’s most famous investor and the lessons that we can learn from him. Well, Robert G. Hagstrom has attempted just that and succeeded.

The story of Warren Buffett is not really a rags-to-riches one. In fact it may be described as rather prosaic. It is more a story of how the correct amalgam of passion, perseverance and good mentoring at the right time can lead to extraordinary results. And that is the way Buffett would probably like it to be.

If you ask me what impresses me the most about Buffett, it is his unwavering adherence to the principles that he believes in, whether they be philosophical or financial. That does not mean that he is irrationally intransigent. Although his earliest mentor, Benjamin Graham drilled the “margin of safety” concept into his persona, over time he has also embraced Philip Fisher’s beliefs in paying a premium for growth. His partner Charlie Munger’s influence is also visible in many of his decisions. In other words, Buffett can be considered as a synthesis of several wise men. By corollary, he is not a man who suffers fools easily.

Buffett’s tenets have been widely used by many money managers. Some of these are: not straying beyond one’s circle of competence, not differentiating between purchasing stocks and purchasing businesses, giving great importance to return on equity as a valuation metric, etc.

Buffett’s greatness also lies in his simple and uncomplicated worldview. In “Buffettville” there are very few grey areas. Everything is in black and white. He believes that the best business to own is the ones that employ large amounts of capital at very high rates of return. Buffet loves to buy companies where growth prospects are more certain rather than uncertain. He also believes that company turnarounds seldom happen.

Hence he restricts his investment universe only to a select set of companies which conform to his stringent criteria. He does not mind if a particular company has already shown a degree of growth, as long as he believes that there is a lot more of growth to go around. For instance, the Coca-Cola Company.

Buffett has no biases against buying dull and unglamorous businesses. That is why furniture stores, candy makers and engravers rub shoulders with marquee companies such as Amex, Gillette and Washington Post.

Managing increasing amounts of money has not impeded his style. He is in no undue hurry to deploy capital, although he does indulge in some risk arbitrage and high-yield bond purchases at times. Even in these areas, his acumen is visible. Most revealing is his belief that “bonds are a business too”, implying that the same due diligence should be undertaken in bond purchases.

Buffett’s 12 tenets (comprising of management, financial and value tenets) of investing should form the bedrock of every investment decision, irrespective of whether the investor is an individual or an institution. He likes to call himself a focus investor. Isn’t that what all investors ought to be? Well, who is to say that we do not indulge in some “diworseification” from time to time? Discipline to stay on course is often more difficult to achieve than the knowledge and intelligence required for stock picking.

The eternal debate between active and passive money management is also tackled head on. Buffett truly believes that index investing is the best vehicle for those investors who know nothing about the market. For those who know something, direct stock picking is more suitable. However, he does concede that the expenses involved in active management make it all the more difficult to beat the index. Of course, Buffett must be referring to mere mortals and not himself, as he has beaten the Standard & Poor’s 500 returns by a humongous 11.8% for the cumulative period between 1965 and 2003.

While his stock picking abilities are universally acknowledged, he has also inadvertently become well known as a repository for quotable quotes, thanks to his sparkling wit. Some striking examples are: “The investor of today does not profit from yesterday’s growth”, “There seems to be some perverse human characteristic that likes to make easy things difficult”, and “Wide diversification is only required when investors do not understand what they are doing”.

Finance and investment industry participants are often thought of as “crooks in suits”, given the fact that they are often involved in a number of shenanigans. Buffett is the antithesis of this image. While his fearless stance on touchy issues like expensing of options and compensation structures for top management in corporate America, his moral uprightness and the tendency to call a spade a spade have endeared him to his admirers, it has also made others remark rather uncharitably that he can only be frank and fearless because he is rich enough. What they forget however, is that he was the same person even four decades ago.

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