Warren Buffett's 4 Key Investing Rules

Billionaire Warren Buffett is arguably one of the most popular and successful investors of all time. In the past 5 decades, he has grown Berkshire Hathaway (NYSE: BRK.A) into a huge conglomerate owning companies like Apple, Coca-cola and Verisign.

On top of that, Berkshire Hathaway has generated over 20% annualized return in the same period, beating the market index by almost 2-fold. Despite all these achievements, the famed billionaire is best known for his ability to distill investment ideas into simple investing advice.

We have handpicked 4 key investing rules from Warren Buffett himself to share with you below.

#1 Favour quality companies

If you look at the holdings of Berkshire Hathaway, you would notice that they are generally companies with strong histories of profitability and with a dominant business franchise.

To add on, Warren Buffett tries to find stocks that are easy to understand and possess valuable competitive advantages, such as a strong brand or economies of scale. Click here to read more about economic moats.

One sentence that stood out during Buffett’s speech in the Financial Crisis Inquiry Commission in 2010 is this:

“The single most important decision in evaluating a business is pricing power”

Simply put, when a company can consistently raise prices without losing business to a competitor, it is deemed to have built a strong economic moat.

With that on hand, Buffett can now gauge roughly how much the company is worth and purchase it below that intrinsic value. This brings us to the 2nd point below.

#2 Aim for Margin of Safety (MoS)

By focusing on quality companies with low volatility, Warren Buffett has a good knack at determining a particular company’s future cashflows and hence, the intrinsic value. After which, he would aim to purchase the stock when there is a significant margin of safety (MoS).

In fact, Warren Buffett call margin of safety “the three most important words in investing”. Margin of Safety is the principle of investing in which an investor only purchases securities when their market price is significantly below their intrinsic value.

Warren Buffett gave a simple ‘bridge’ analogy to explain the MoS concept. Whenever a bridge is being constructed, the engineers would make sure its strong enough to bear a load of a 30-tonne truck even though they know that only trucks of 10 tonnes would be running on it.

This is what MoS is essentially about - providing a cushion because investing involves various risks and imperfect information.

To top it off, Buffett himself says that it is impossible to get it everything right about the future. This is where the concept of MoS comes in handy.

#3 Think long term

Warren Buffett has reiterated the importance of investing for the long term countless of times throughout his investing career as per the 4 popular quotes below:

• “If a business does well, the stock eventually follows”
• “Our Favorite Holding Period is Forever”
• “If you aren’t thinking about owning a stock for 10 years, don’t even think about owning it for 10 minutes”
• “No matter how great the talent or efforts, some things just take time. You can't produce a baby in one month by getting nine women pregnant”

The main essence of these sayings is that no one can predict what the market will do tomorrow or next week or month -- or even next year. Although the great company you bought has languished in the short term, it's very likely to go up to its intrinsic value in the long term.

There are of course exceptions, where the company suffered from a sea change in prospects, such as regulatory risks (like in China) or product obsolescence. But in general, one should stick with the best investments and think twice before cashing out because winners can continue winning for a long time.

#4 Find capable managers

Warren Buffett is renowned to purchase stakes in businesses with capable management teams already intact. This is because he wants to just partake in the company’s success, without having to change anything about the company.

On that front, he looks for people with these 3 main qualities – integrity, intelligence, and energy.

And he explicitly added this “if they don’t have the first, the other two will kill you”.

Again, it is crucial to find a company with great management because the right leadership has a compounding impact on the future growth prospects of a business.

Conclusion

In a nutshell, great investing can simply be buying quality companies with a strong management team at a discount and hold them for the long term.

So, there you have it, 4 key investing rules of Warren Buffett for you to start evaluating a company today!

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