7 Principles of Investing Like Warren Buffett

He’s the best investor in the world–and a pretty good ukulele player. From 1965 – 2019, his company, Berkshire Hathaway, averaged a 20.3% yearly return. The S&P 500, by comparison, averaged a 10% yearly return for the same period. He’s been beating the market for over 60 years, and lucky for us, he’s been very transparent about his investing principles. By following his 7 principles, you too can learn how to invest like Warren Buffett.

Invest in Good, Profitable Companies

Too often do people put their money into companies with lots of buzz in the media, but no sustainable growth or profit to show from it. These companies usually promise the world (or Mars) and fail to turn that into any monetary return–I’m looking at you, Tesla. While the ride up may be fun, you don’t want to be there when it starts to come down.

Instead, invest in companies that have a sustainable competitive advantage that actually translates into profits. Warren Buffett calls this advantage a “moat.”

In short, a moat is what keeps the castle standing. Enemies may try to overthrow the castle, but if the moat is large, they will find it nearly impossible to get inside.

Coca-Cola, one of Warren Buffett’s most famously owned stocks, is a great example of a moat. Just on the basis of brand and reputation, Coke continues to dominate the market.

Coca-Cola sells roughly 10,000 soft drinks per second around the globe. There are 31,536,000 seconds in a year. If Coca-Cola raised its prices for all soft drinks by 1 cent, the company would realize an extra $3.15 BILLION in revenue per year. I’d say that’s a pretty big moat.

Invest in What You Know

Even the world’s greatest investor has his limits. Charlie Munger, the Oracle of Omaha’s right-hand man, has a “too hard pile” for all of the companies he doesn’t fully understand.

This man’s full time job is to find companies to invest in, he’s been doing it for over 60 years, and he still finds that some companies are too difficult for him to understand. If he has limits to what he’ll invest in, the rest of us certainly should, too.

We each have a circle of competence that we need to keep in mind. Whether it be guns, motorcycles, vegan burgers, or cat toys, invest in what you understand.

Margin of Safety

So, you’ve found a good company that you can understand. Now, what?

The next step is to make sure you pay the right price for it. To succeed as an investor, one needs to buy low, and sell high. This makes price extremely important. There are several methods of determining the intrinsic value of a stock, and each one has its upsides and downsides. However you decide the value of a stock, a margin of safety is paramount.

Everyone needs a bit of wiggle room. No matter how accurate you think your valuation method is, it will never be completely correct. Buy your stocks at a price low enough to give yourself some leeway.

When Times are Tough, Double Down

If a stock is selling for $40 that is worth $50, you would buy it right away. That’s $10 in your pocket. What if you buy it at $40 and the price drops to $20? Do you get nervous and sell your original stock? Hell no!

If the stock is still worth $50, you should rejoice! You now have the opportunity to buy two shares for the price of one. Buying more when the price goes down compounds your returns greatly. Instead of a $10 profit from before, you’ll see a $70 profit on your three shares.

This might be the hardest principle to follow. It goes against our human nature to put more in when the news is negative, but we have to trust the strategy. The stock market, as a whole, will continue to go up in the long-term. If investors can stay rational and keep this long-term outlook, your investing returns will almost certainly be higher.

Wait for the Right Moment

Warren Buffett has no shortage of clever metaphors to describe his investing strategies. For this principle in particular, we’ll look at a couple of them.

Punch Card with 20 Slots

“I could improve your ultimate financial welfare by giving you a ticket with only 20 slots in it so that you had 20 punches—representing all the investments that you got to make in a lifetime. And once you’d punched through the card, you couldn’t make any more investments at all.”

He says, “Under those rules, you’d really think carefully about what you did and you’d be forced to load up on what you’d really thought about. So you’d do so much better.”

The key here is to choose carefully where you put your money. Be very mindful of what you invest in, and limit your opportunities to only the best of the best.

Swing at the Best Pitches

The stock market is a no-called-strike game. You don’t have to swing at everything — you can wait for your pitch. The problem when you’re a money manager is that your fans keep yelling, ‘Swing, you bum!’

If you are an individual investor, wait for your pitch. Wait until that perfect opportunity comes along.

Long story, short: don’t follow the hype. When you choose to pass on an investment, you don’t lose any money. When you choose the wrong investment, you can lose a lot.

Read and Learn… A Lot

Warren Buffett estimates that he spends 5 or 6 hours a day reading. Granted, he is a billionaire with a lot more free-time than most, but the lesson is important.

Nearly his entire work day is dedicated to learning more. By reading, Warren Buffett can widen and deepen his circle of competence, allowing him to invest in even more businesses. To use the above baseball metaphor, reading allows Warren to see more pitches. More pitches equals more opportunities to get a hit.

Cheat Code: Buy Buffett Stocks

I might be cheating on this last principle, but it’s important for investors to know. If you want to invest like Warren Buffett, why not buy the same stocks as Warren Buffett?

Every quarter, big-time investors are required to disclose their portfolio details. This goes for many large investors, not just Warren Buffett. Carl Icahn, Bill Ackman, Ray Dalio, David Tepper, and thousands of other investors have to report their portfolio performance, too.

These reports show what stocks the investor is holding, what they bought, and what they sold. Us individual investors can use this information to gain more insight into the strategies of large investors. The best investors in the world are all giving us the playbook to succeed in investing if we choose to use it.

If you want to invest like Warren Buffet without digging into his portfolio, you’re in luck. Buying shares of Berkshire Hathaway (BRK.B) is a great way for the every day investor to get a little piece of the action.

Never Lose Money

Warren Buffett famously said there are two rules of investing.

  • Rule #1: never lose money.
  • Rule #2: never forget Rule #1.

By using these 7 principles to invest like Warren Buffett, you can nearly ensure that you won’t lose money. If you limit your losses, the gains will naturally follow.

Thanks for reading!

Featured photo source: The Coca-Cola Company

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