For those of you out there who get a chance, please read the biography of Warren Buffett entitled Snowball. It’s a great read. Granted it’s over 800 pages but it’s pretty excellent if you ever truly want to find out about his life and how he invests. But for the purposes of this article we need to focus on why you’ll never invest like Warren Buffett and how not even Warren Buffett is like the man he’s portrayed as. If you do want to invest like Buffett, there’s advice from the man himself towards the end of this piece. But first, let’s run over a few misconceptions about Warren Buffett so that you’ll better be able to understand him.
The Oracle of Omaha is portrayed as a Buy and Hold man
You see, the public for the most part knows Warren Buffett as this old school wonder kid financial guru who magically invested in the right ideas and over time made his billions through the power of compounding interest and dividends. In other words, people think of Mr. Buffett as one of the pioneers and biggest advocates of the “buy and hold” strategy whereby someone invests in a rock solid company who pays dividends. Said person never sells the company and reinvests the dividends and over time their investments makes them a ton of money. While Buffett definitely believes in this strategy for the right companies, by no means would Buffett hold on to a company if he didn’t think it was valuable anymore. However, if Buffett felt the fundamentals and underlying business were still strong even if the stock went up or down, chances are he wouldn’t sell. In fact if the price went down he’d probably buy more. However, I think it’s important to note that Buffett’s primary strategy before being known as this guy who invests in boring companies and holds them forever, was to trade. That’s right. Buffett was primarily a trader in his early days. And much of his success and earnings didn’t come from buying, holding, and building dividend earnings, it came from managing other people’s money. That’s where Buffett accumulated the wealth in order to use this so-called “buy and hold” strategy we think he employs. So let’s dive into Buffett’s earlier days and you’ll see what I’m talking about.
Warren Buffett practically invented the hedge fund business by managing other people’s money and by being a trader, not an investor
The difference between Warren Buffett being a billionaire and being a multi-millionaire is actually quite simple. Had he not accumulated the fees from managing other people’s money from virtually the beginning, then he wouldn’t have had nearly enough to invest that would compound into the billions he has today. There’s no doubt that Buffett was always gifted with business. I mean the man had his first business at 9 years old and by 14 already owned a farm that employed someone. However, Buffett always had a penchant for numbers and with his persistence he eventually wound up working for the famous Benjamin Graham, his mentor at Columbia business school. But quickly into his tenure with Graham’s company Buffett utilized his own investing style that differed greatly from Graham’s. Graham diversified his holdings into a number of stocks – usually well over 20. However, Buffett used his own style often putting the majority of his money into one idea. Buffett did this with companies like GEICO and American Express (among many others that you’ve never heard of). In fact, often times Buffett held as much as 75% of his net worth in one stock. This is highly contradictory to what people think about Buffett and what his portfolio looks like now. When Benjamin Graham decided to shut down his firm, Buffett decided that in order to accumulate the wealth he wanted, he had to do it by managing other people’s money. It was then that Buffett set out on a mission to raise capital and perform for his investors. With the recommendation of Graham, Buffett got a few wealthy clients and as his biography states, everything “snowballed.” Over a 10 year span, Buffett averaged a 31% return for his investors and when all was said and done had 11 different partnerships where he managed money before he finally decided to shut his partnerships down in the early 70s.. However, had Buffett not managed other people’s money his net worth at that time would have been less than half of what it was. And for that he wouldn’t have been able to acquire the majority of companies that he owns today. One difference between Buffett and hedge funds however is that Buffett didn’t have the greedy deal that most hedge funds have today. Today, hedge funds usually charge a 2% fee just to get in the door and then they take 20% of their client’s profits. Buffett’s fees were way cheaper but because of his performance he still managed to generate a ton of wealth. This is the wealth he used to accumulate his billions. Chances are Buffett would have been a multi multi millionaire on his own, but managing other people’s money helped him accumulate more money much much faster.
Warren Buffett is one of only a handful of stock pickers who consistently beat the S&P 500
What always boggles my mind is that the standard at which money managers are judged is their performance relative to the S&P 500. The question investors always want to know is “did they outperform the S&P 500? Statistically speaking, the majority of money managers today (and always) have not been able to beat this benchmark. And even though this information is 100% cut and dry, plain as English, trillions of dollars are spent on fees, research, and commissions solely trying to beat this index that is practically unbeatable. Only few people in history have been known to beat this ever so important benchmark. Buffet’s mentor Benjamin Graham beat the S&P 500 by 2.5% in his career and he’s considered one of the best investors of all time. Buffett too has consistently beaten the S&P 500 with his picks. However, again, he’s one of literally a handful of individuals who was able to do this throughout his career. And yet with all of this information out there, people are still day trading, still picking stocks, and still trying to have an edge on what historically has been a consistent 8-10% return since the duration of the stock market. If you were smart enough to invest in the S&P in the last three years you would be the proud owner of a fund that has averaged over a 20% return in those three years. I mean how greedy can people get? Shouldn’t you be happy with those numbers?
Buffett was just as ruthless as any other money manager, just more honest
Buffett himself admitted that as he looks back on Berkshire Hathaway he wishes he’d never heard of it. Did you know that Berkshire Hathaway was originally a textile mill that Buffett bought as an undervalued stock? If you did know that you might also know that he practically bought the company out of spite. It became his obsession to buy more and more of the company stock simply because he wanted control of the company. And if you’ll read into Buffett’s past you might also know that he had done this multiple times in his career. Buffett was also one of the most honest money managers ever. He was straight up with his investors and told them that they’d have no idea where he was investing their money. And when all was said and done he had over 300 investors forking over their money. Buffett was greedy. Buffett used the same tactics as the most greedy of business owners. The reason we all like him is because deep down he’s a nice man who cares what the public thinks about him.
As if we don’t have enough proof, even Warren Buffett doesn’t want you to pick stocks!
I like how arguably the best stock picker of all time feels this way about retirement. When asked what his trustees should do with their inheritance money this is what he said this year. “My advice to the trustee could not be more simple: Put 10 percent of the cash in short-term government bonds and 90 percent in a very low-cost S&P 500 index fund. (I suggest Vanguard’s.)”
Any questions?
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