Warren Buffett’s Investment Strategy – Part 3

October 23, 2012 — Leave a comment

To see Part 1 and Part 2 of Warren Buffett’s investment strategy, click here and here respectively.

Third Stage – (1990 – present) (60 years old – present)

By the early 1990s, Buffett and Munger faced 2 big problems:

  1. Their size was too large, meaning that they now owned many companies (logistics became very difficult to organize). Thus, a KEY CONCEPT came out of this – Buffett believes in non-diversification – instead of spreading your eggs among many baskets, put all your eggs in that one basket and guard it.
  2. The turbulent times means that stocks in the next 20 years won’t repeat what happened in the past 20 years.

In short, Buffett faced a similar dilemma like the one he faced 20 years before – too much money and too few opportunity. Thus, Buffett’s investment strategy once again (and for the last time) evolved, incorporating new strategies and ideas.

  1. Invest in companies that have a “moat”. A moat is the intangible market edge that a company has over its competitiors. This, in a sense, is corporate branding and positive company image. Invest in companies whose moats are mature (not young) and are expanding year after year. This doesn’t mean that a company’s sales are expanding forever (which is impossible), just that’s it’s “moat” is. Moat ensures that competition (enemies) cannot easily creep in on the company (castle). As long as moat widens (even if profits don’t), company is worth investing in.
  2. Need to significantly contract the number of investments and companies Buffett owns. 1 good idea a year is good enough (more concentrated investments, no diversify).
  3. Because Berkshire (Buffett and Munger’s investment vehicle) has become so large, Graham’s value investing is even less useful b/c undervalued companies tend to be really small, and Buffett only wants to invest a lot of money in 1 big idea each year.
  4. “Swing” concept. Only “swing” at the investment if it has the best possible chance of turning out a winner.
  5. Invest in foreign companies (more Undervalued Companies opportunities here). Another benefit of owning foreign companies is that if the USD drops in value (which in the long term it will), Buffett isn’t too badly hurt b/c Buffett’s companies aren’t all based on USD (foreign companies).
  6. Unconventional investments – e.g. foreign exchange, CDS, fixed-income arbitrage, commodities.

In short, Warren Buffett in the Third Stage has become more open minded, utilizing much more complex strategies (much like those of other hedge fund managers).

Buffett is also very open to many other investment strategies – if he had only stuck with Graham’s “value investing”, he’d be much poorer today. He’s learned from:

  1. Graham: see stocks as part of a business, treat market volatility as your friend (not your enemy), and always have a margin of safety.
  2. Philip Fisher: only the most excellent businesses (intangible-wise) are worth investing in.
  3. Charlie Munger (his partner): same theory as Fisher. Invest in only the best, even if you have to pay more than you would like.
  4. Aesop: A bird in the hand is worth two in the bush (It’s better to have a lesser but certain advantage than the possibility of a greater one that may come to nothing.)

By the third stage, Warren Buffett’s investment strategy had truly matured.

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