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Stepan Lavrouk
Stepan Lavrouk
Articles (103) 

Warren Buffett’s Guide to Intelligent Investing, Part 1

Why the greatest investor of all time moves slowly

February 06, 2019 | About:

One of the great tricks the market and the financial media play on unsuspecting participants is to make them believe that in order to become rich, they must move fast. Glued to a news terminal 24/7, sensitive to every rumor coming out of Wall Street and willing to change out of a position at the drop of a hat: these are the qualities of the supposedly savvy investor. We previously discussed what Graham and Dodd would have thought about such behavior. It is no surprise, then, their most famous student has a similarly dim view of such frantic activity.

Make more money snoring than when active

In his 1996 letter to Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B) shareholders, Warren Buffett (Trades, Portfolio) outlined his thinking on the merits of inactivity:

“Inactivity strikes us as intelligent behavior. Neither we nor most business managers would dream of feverishly trading highly-profitable subsidiaries because a small move in the Federal Reserve's discount rate was predicted or because some Wall Street pundit had reversed his views on the market. Why, then, should we behave differently with our minority positions in wonderful businesses? The art of investing in public companies successfully is little different from the art of successfully acquiring subsidiaries. In each case you simply want to acquire, at a sensible price, a business with excellent economics and able, honest management. Thereafter, you need only monitor whether these qualities are being preserved.”

This is obviously not to say that making money in the stock market is easy - far from it. Successful investing requires deep introspection, open-mindedness and a tremendous amount of hard work to make sure your plays are truly worth it. But having done all that, why make your life more difficult by being spooked every time the Dow Jones closes down 2% on the day? Doing nothing is very often better than doing something.

Why diversification is like trading Michael Jordan

“When carried out capably, an investment strategy of that type will often result in its practitioner owning a few securities that will come to represent a very large portion of his portfolio. This investor would get a similar result if he followed a policy of purchasing an interest in, say, 20% of the future earnings of a number of outstanding college basketball stars. A handful of these would go on to achieve NBA stardom, and the investor's take from them would soon dominate his royalty stream. To suggest that this investor should sell off portions of his most successful investments simply because they have come to dominate his portfolio is akin to suggesting that the Bulls trade Michael Jordan because he has become so important to the team.”

A certain degree of diversification is, of course, important for risk management. But diversification should not be done for its own sake, and especially not at the expense of assets you truly believe in. If you have done your research and have selected stocks that you see as truly being long-term winners - hold onto them! Otherwise, what was the point of going through your painstaking analysis in the first place?

Buffett’s 1996 letter goes on to discuss several other interesting ideas - what makes a great business and whether there is such a thing as an ‘Inevitably Successful’ one. We will explore these ideas in greater depth in part two of this series.

Disclosure: The author owns no stocks mentioned.

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About the author:

Stepan Lavrouk
Stepan Lavrouk is a financial writer with a background in equity research and macro trading. Specific investing interests include energy, fundamental geoeconomic analysis and biotechnology. He holds a bachelor of science degree from Trinity College Dublin.

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