About 10 years ago, editors of Investing Rules asked me the top ten rules from Warren Buffett on investing. Last week, the editors asked me to update the list for a new edition. After studying the list for the first time in a decade, guess how much change was needed?
None. Given the timeless quality of Buffett’s method, I did not elect to change a word. Herewith the list, as good today as ten, twenty or more years ago. And for elaboration of these and other insights, see The Essays of Warren Buffett, recently updated to a fourth edition.
- Don’t be the patsy.
If you cannot invest intelligently, the best way to own common stocks is through an index fund that charges minimal fees. Those doing so will beat the net results (after fees and expenses) enjoyed by the great majority of investment professionals. As they say in poker, ‘If you’ve been in the game 30 minutes and you don’t know who the patsy is, you’re the patsy’.
- Operate as a business analyst.
Do not pay attention to market action, macroeconomic action, or even securities action. Concentrate on evaluating businesses.
- Look for a big moat.
Look for businesses with favorable long term prospects, whose earnings are virtually certain to be materially higher 5, 10, 20 years from now.
- Exploit Mr. Market.
Market prices gyrate around business value, much as a moody manic depressive swings from euphoria to gloom when things are neither that good nor that bad. The market gives you a price, which is what you pay, while the business gives you value and that is what you own. Take advantage of these market mis-pricings, but don’t let them take advantage of you.
- Insist on a margin of safety.
The difference between the price you pay and the value you get is the margin of safety. The thicker, the better. Berkshire’s purchases of the Washington Post Company in 1973-74 offered a very thick margin of safety (price about 1/5 of value).
- Buy at a reasonable price.
Bargain hunting can lead to purchases that don’t give long-lasting value; buying at frenzied prices will lead to purchases that give very little value at all. It is better to buy a great business at fair price than a fair business at great price.
- Know your limits.
Avoid investment targets that are outside your circle of competence. You don’t have to be an expert on every company or even many – only those within your circle of competence. The size of the circle is not very important; knowing its boundaries, however, is vital.
- Invest with ‘sons-in-law’.
Invest only with people you like, trust and admire – people you’d be happy to have your daughter marry.
- Only a few will meet these standards.
When you see one, buy a meaningful amount of its stock. Don’t worry so much about whether you end up diversified or not. If you get the one big thing, that is better than a dozen mediocre things.
- Avoid gin rummy behavior.
This is the opposite of possibly the most foolish of all Wall Street maxims: ‘You can’t go broke taking a profit’. Imagine as a stockholder that you own the business and hold it the way you would if you owned and ran the whole thing. If you aren’t willing to own a stock for 10 years, don’t even think about owning it for 10 minutes.