How to Apply Warren Buffett's Famous Investing Advice

Warren Buffett is the most successful investor in history, whose accumulated a staggering 85 Billion USD from investments he has made from the age of 11. Over the years, he has shared a treasure trove of investment advice for novice and expert investors alike. Considering how he made his wealth, it should give you enough hope and encouragement that you can do it too.

Here is my own compilation of what I consider the best advice from Warren Buffett and the ways in which you can apply it to your investing:

#1 Don’t be greedy

“…be fearful when others are greedy and greedy only when others are fearful.” – Buffet’s Letter to shareholders, 2004

A somewhat contrarian view on the stock market – buy when others are selling, and sell when others are buying. This extract from the letter depicts the actions you should take based upon the direction of prices within the market. Essentially, in the contrarian view, investors should always seek to take on a contrary market position. This way, they will always sell when high and buy when low. Overall, greed within the market causes prices to boil over and one should be particularly cautious not to overpay for an asset and make poor returns. Fear within the market offers a great entry point as it presents a good value buying opportunity for contrarian investors.

#2 Assess Risk

“Rule No. 1: never lose money; rule No. 2: don’t forget rule No. 1” –The Tao of Warren Buffett, A book by David Clark and Mary Buffett

Most security markets swing wildly from day to day. The only way to guarantee that you never lose that money is to never get caught up in the madness of the markets. Stick to doing your homework always and assess the worst-and-best-case scenarios of everything you do. Weigh the risks and potential gains to guide your investment strategy. This way, you will always make the smartest choices and eliminate worry which can cloud your judgment during decision making.

#3 Think Long-Term

“If you aren’t thinking about owning a stock for 10 years, don’t even think about owning it for 10 minutes.” – Chairman’s Letter, 1996

This is the most solid advice out there – trust me, I know. As a serious investor, I maintain portfolios with long-term and short-term outlooks and believe me, short-term strategies are no good. Why? It costs more and you miss to hit the gains achieved through a ‘buy and hold’ strategy. The one and the only reason why you should be investing in anything is that you think its a great investment over a longer period. Think of it like you would land. Simply put, Buffett is asking investors to invest because it will last, not because the security is doing well at the moment. This way, you will only invest in businesses/assets that have a great outlook and serious competitive advantage, because at the end of the day…“ our favorite holding period is forever.”

#4 Adopt Concentration Over Diversification

“Diversification is protection against ignorance. It makes little sense if you know what you are doing.” – Warren Buffett

The idea of diversification stems from the popular saying ‘don’t place all your eggs in one basket’ and hence, investors that do are courting disaster. That is why many personal finance courses encourage participants to spread their investments and invest in well-diversified funds. In a well-diversified fund, selections in the portfolio are expected to move in a certain way in relation to market trends. For instance, some investments will move up when the market is down, others will move down when the market is up while others remain relatively flat. The idea here is that no matter which direction the market takes, a portion of the investor’s portfolio is likely to do well.

Thus, Buffets problem with diversification is based on the premise that even though the risk is mitigated by sector gains offsetting the losses within the portfolio, the opposite can also be true – sector losses can offset sector gains and reduce returns. Great investors are believed not to diversify their investments because, according to Buffet, “diversification is protection against ignorance“. But after all, we cannot play the market like Buffett does.

#5 Price Does Not Equal to Value

“…(…)…‘Price is what you pay; value is what you get.’ Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.” – Warren Buffett, Letter to shareholders, 2008

The essence of investing in shares is to buy stocks at less than their intrinsic value. If you are a value investor like Buffett, then you will be looking to buy stocks that are undervalued by the market. Thus, the price of the company is at a discount in relation to its actual value – valuable but not recognized by the majority of the other buyers. Buffett’s idea is that “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.” – Letter to shareholders, 1989. On that account, always look above and beyond the short-term swings in price and focus on the underlying value of your investments. Always beware of “the investment activity that produces applause; the great moves are usually greeted by yawns.” This is a from a man who has made a fortune from companies like American Express, General Motors, Johnson & Johnson, Mastercard, and Wal-Mart. It is simply sage advice.

# 6 Do Not Overtrade

“Sir Isaac Newton gave us…(…)…Fourth Law of Motion: For investors as a whole, returns decrease as motion increases.” – Letters to shareholders, 2005

Warren Buffet draws a lot of wisdom from a lot of places, even Sir Issac Newtons Laws of Motion concerning relations between force, motion, acceleration, mass, and inertia. Here, Buffett is alluding to overtrading which refers to excessive buying and selling. The more you trade, the more your entire portfolio will underperform because of trading costs such as commision fees and bid-ask spread. These fees can make a serious dent in your investment portfolio, that even if you pick the best shares it will be hard to recover the costs. There are many reasons why investors engage in overtrading and some of the main reasons we have identified are:

Thrill-seeking in pursuit of profits and the thrill of watching the market swing wildly. This kind of behavior is similar to gambling. Investors seeking trills are always trying to predict the market direction and bet accordingly.
Overconfidence. Investors who feel that they are extremely knowledgeable are more likely to turn their portfolios upside down. This is because these investors have an inflated view of their abilities and tend to trade more.
Behavior reinforcement. Most of our behavior is based on reinforcement, therefore you need to be aware of this when making investment decisions. The reward for good behavior has shaped most of our beliefs and behavior. As such, investors particularly the unsophisticated ones, tend to repurchase a stock they previously sold for a profit than one they sold for a loss. Remember, that past performance is NO guaranteed for future performance.

If you see any of these behaviors within yourself, make a mental note. Now that you are aware, don’t let them drive your decision making.

#7 Limit Your Borrowing

“We never want to count on the kindness of strangers in order to meet tomorrow’s obligations.” – Buffet’s Letter to shareholders, 2008

Buffet has always warned people against borrowing money to invest in stocks or a mortgage. He has never been a fan of debt and because of this, all his investment decisions are guided by this. He believes that debt creates an unsettled mind, rattled by news headlines and commentaries. This is more so for margin debt investors – who buy securities that are pledged as collateral against a loan – when the value of the collateral falls in a market plunge, borrowers are forced to sell in a situation known as a margin call. It is important to learn to invest your own hard earned cash and not rely on the kindness of strangers. Living off debt won’t make you rich – at least not Warren Buffet kind of rich. Many of us out here are leveraged to the hilt and live from one nightmare to another. If you have borrowed money, negotiate with your creditors to pay what you can. Then after you clear out your outstanding debts, work on saving some money that you can use to invest.

#8 Seize Opportunities

“Opportunities come infrequently. When it rains gold, put out the bucket, not the thimble.” – Warren Buffett

We don’t have forever to do all that we want to do hence, we should live as though we have limited time and limited chances. Buffett is famously said to adopt a “20 slot punch card” approach to his investing strategy. In his mind, he takes moves as though he only has a limited amount of chances to do things, therefore takes his best swing. This way, he saves up his best moves for the big opportunities that have allowed him to win big. Life hardly ever presents us with 1000 great opportunities, ergo when they do come by grab them when they come.

#9 Invest In Yourself

“The most important investment you can make is in yourself.” – Warren Buffett

To keep this list well rounded, I thought that I should touch on personal development. Buffet has always been an advocate of self-development because, according to him, it all starts there. This should cut across everything that you do. Always seek to improve and work on areas you feel you are lacking. Buffett’s life is evidence that it’s not always about the money you have but rather the knowledge you managed to amass. I mean, Buffett started out with $100, which has grown to $85 Billion. What you don’t know and yet to learn could the obstacle to achieving your goals. So keep learning – always- you never know what you might stumble upon along the way.

Last but not least, define your own version of success. The truth is we have different journeys in life and we should never compare our lives to others. Look around you, what do people consider success? You will live a very measurable life trying to live up to the expectations of others when they don’t even pay your pay your bills. Many of us work mindlessly hard to achieve and amass wealth and find that at the end of the day, nobody in the world loves us. When you get older, your yardstick of success will be measured by how many of the people you want to have around you actually love you not how many followers you have on Instagram. I believe that will be the ultimate test of how you’ve lived your life.

“You’ve gotta keep control of your time, and you can’t unless you say no. You can’t let people set your agenda in life.” – Warren Buffett

#10 Focus on What You Love

“…not doing what we love in the name of greed is very poor management of our lives.” – Warren Buffett

This is a hard pill to swallow for those of us who are super goal and success oriented. We want to get there now, so we find the easiest way to get there like get government tenders. You haven’t truly lived if you haven’t done what truly sets your heart on fire. Living like that every day is truly everything. So simply just seek out the things you love and avoid wasting time on the rest. Ultimately, according to Warren Buffett,“ the difference between successful people and really successful people is that really successful people say no to almost everything”.

Bottom Line

Warren Buffett’s investing style has worked for him and his way of doing things has managed to make him $83.6 Billion rich, as of June 14, 2018. He has a down to earth attitude and practical way of making decisions which has as also permeated into other areas of his life. The value investing has its own critics but, I believe that the proof is in the pudding. Remember, that Warren Buffett turned what he earned working for his dad into billions.

How much have you made with the money you got, today?

Meanwhile, You can click on the following links to read more about investing:

Kenya’s Highest Dividend Paying Stocks

Company

Related

How to Apply Warren Buffett’s Famous Investing Advice