Investing Principles of Warren Buffet -II

MEET MR. MARKET—YOUR SERVANT, NOT YOUR GUIDE

“Mr. Market” was a character invented by Ben Graham to illuminate his students’ minds regarding market behavior. The stock market should be viewed as an emotionally disturbed business partner, Graham said.³⁹ This partner, Mr. Market, shows up each day offering a price at which he will buy your share of the business or sell you his share. No matter how wild his offer is or how often you reject it, Mr. Market returns with a new offer the next day and each day thereafter. Buffett says the moral of the story is this: Mr. Market is your servant, not your guide.

In March 1989, as the stock market soared, Buffett wrote:

“We have no idea how long the excesses will last, nor do we know what will change the attitudes of the government, lender, and buyer that fuel them. But we know that the less prudence with which others conduct their affairs, the greater the prudence with which we should conduct our own affairs.”                                                                      

“When I worked for Graham-Newman, I asked Ben Graham, who then was my boss, about that. He just shrugged and replied that the market always eventually does. He was right: In the short run, [the market is] a voting machine; in the long run, it’s a weighing machine.”

                                                                        

“The fact that people will be full of greed, fear, or folly is predictable. The sequence is not predictable.”                                                                        

“The market, like the Lord, helps those who help themselves.”

IGNORE MR. MARKET’S MOODS

Warren Buffet Wrote:

“Charlie and I never have an opinion on the market because it wouldn’t be any good and it might interfere with the opinions we have that are good.”

                                                                         

“The market is there only as a reference point to see if anybody is offering to do anything foolish. When we invest in stocks, we invest in businesses.”

                                                                           

“If we find a company we like, the level of the market will not really impact our decisions. We will decide company by company. We spend essentially no time thinking about macroeconomic factors. In other words, if somebody handed us a prediction by the most revered intellectual on the subject, with figures for unemployment or interest rates or whatever it might be for the next two years, we would not pay any attention to it. We simply try to focus on businesses that we think we understand and where we like the price and management. If we see anything that relates to what’s going to happen in Congress, we don’t even read it. We just don’t think it’s helpful to have a view on these matters.”

                                                                  

“[John Maynard] Keynes essentially said, Don’t try to figure out what the market is doing. Figure out a business you understand, and concentrate.”

                                                                          

“For some reason, people take their cues from price action rather than from values. What doesn’t work is when you start doing things that you don’t understand or because they worked last week for somebody else. The dumbest reason in the world to buy a stock is because it’s going up.”

                                                             

“The future is never clear; you pay a very high price in the stock market for a cheery consensus. Uncertainty actually is the friend of the buyer of long-term values.”

Investing Principles of Warren Buffet -I

Warren Buffett employs investment principles that he describes as “simple, old, and few.”Many of Buffett’s methods evolve from his personality and character.Others he has learned from teachers and experience. Like all good students, he uses his training as a foundation.In time, he stacked the bricks far higher than his best teachers.

 HAVE A PHILOSOPHY

“Rule No. 1: Never lose money. Rule No. 2: Never forget Rule No. 1.”

“Over the years, a number of very smart people have learned the hard way that a long stream of impressive numbers multiplied by a single zero always equals zero.”

Buffett returns again and again to Ben Graham:

“I consider there to be three basic ideas, ideas that if they are really ground into your intellectual framework, I don’t see how you could help but do reasonably well in stocks. None of them are complicated. None of them take mathematical talent or anything of the sort. [Graham] said you should look at stocks as small pieces of the business. Look at [market] fluctuations as your friend rather than your enemy—profit from folly rather than participate in it. And in [the last chapter of The Intelligent Investor], he said the three most important words of investing: ‘margin of safety.’ I think those ideas, 100 years from now, will still be regarded as the three cornerstones of sound investing.”

Buffett summarizes Graham this way:

“When proper temperament joins with proper intellectual framework, then you get rational behavior.”

RECOGNIZE THE ENEMY: INFLATION

 “The arithmetic makes it plain that inflation is a far more devastating tax than anything that has been enacted by our legislature. The inflation tax has a fantastic ability to simply consume capital. It makes no difference to a widow with her savings in a 5 percent passbook account whether she pays 100 percent income tax on her interest income during a period of zero inflation or pays no income taxes during years of 5 percent inflation. Either way, she is ‘taxed’ in a manner that leaves her no real income whatsoever. Any money she spends comes right out of capital. She would find outrageous a 120 percent income tax but doesn’t seem to notice that 5 percent inflation is the economic equivalent.”

“If you feel you can dance in and out of securities in a way that defeats the inflation tax, I would like to be your broker—but not your partner.”

Buffett explains why he holds stocks even in times of high inflation:

“Partly, it’s habit. Partly, it’s just that stocks mean business, and owning businesses is much more interesting than owning gold or farmland. Besides, stocks are probably still the best of all the poor alternatives in an era of inflation—at least they are if you buy in at appropriate prices.” ⁹

Buffett has a few ideas on how to control inflation:

“I could eliminate inflation or reduce it very easily if you had a constitutional amendment that said that no

congressman or senator was eligible for reelection in a year in which the CPI increased more than over 3 percent.

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What are the 7 biggest mistakes investors make on regular basis in stock market?

1) Looking to get rich in a hurry

The worst part about successful investing is that it is relatively boring while most people are thrill seekers looking for a short-cut. Don’t believe anyone who tells you that getting rich very quickly is easy. Anyone who has done this had a healthy dose of luck involved. There is no easy route to building wealth. It takes time, patience, discipline, and hard work. It can be simple but it is definitely never going to be easy. Be very skeptical of anyone trying to sell you the dream of an easy road to riches.

2) Not having a plan in place

There is no surest way to succeed in the stock market. But there is a sure way to fail – if you never implement a plan in the first place. An investor without a plan is no investor at all – they are speculators. Investors without a plan are the ones who will surely fail on the consistent basis because they’re constantly relying on their gut instincts to tell them what to do. Successful investing is counter intuitive.

3) Going with the herd instead of thinking for yourself

Following the herd is what caused investors to pile technology stocks in the late 1990s before the NASDAQ fell over 80% in value. It feels much safer to follow the crowd in the markets and at times crowd is right, but this can be dangerous at the extremes. Since crowd buying does not arise out of firm conviction, it is subject to fear and doubt. So if few investors are noticed selling all will follow. This leads to losses.

4) Focusing exclusively on the short-term

Focusing primarily on the short-term outcomes is silly because they are completely out of your control. It increases our activity and runs up huge trading and market impact costs from poorly timed decisions. Plus no one can guess which direction the markets will go over the short-term anyways.

5) Focusing on those areas that are completely out of control

Inflation, the actions of the Prime Minister, RBI policy, the tax policy, elections etc. These things are out of control and already discounted in the market. You can’t call and complain the Prime minister or the RBI governor for their policies. Instead one should have long-term focus and concentrate on things like what are the stocks in my portfolio, what are the future prospects of those companies, have I done the proper allocation etc

6) Taking markets personally

We have to invest in the markets as they are, not as we wish them to be. When something goes wrong in either the markets or our own portfolios, the problem is not the markets. It is each of us individually. Once you try to assign blame to anyone other than yourself or the random nature of the markets at time, you are allowing emotions to take over, which are when mistakes occur. It is our perceptions, and how our reactions are affected by those perceptions.

7) Not admitting your limitations

Over confidence is one of the biggest destroyers of wealth on the planet. It leads people believe that they have complete control over the markets. Investors who are unwilling to admit their limitations don’t provide themselves a margin of safety. They assume they will be right at all times. They never admit when they are wrong but choose to find fault in their model or the market. Intelligent investors plan on wide range of outcomes to shield them of crushing losses

Balance Sheet Analysis. Significance of Book Value

 Practical Significance of Book Value: Book value of a common stock was originally the most important element in its financial exhibit. This idea has almost completely disappeared and book value has lost practically all its significance. This change arose because first, the value of the fixed assets, as stated, frequently bore no relationship to the actual cost and second, that in an even larger proportion of the cases these values bore no relationship to the figure at which they would be sold or the figure which would be justified by the earnings.

· In any particular case the message that the book value conveys may well prove to be inconsequential and unworthy of attention. But this testimony should be examined before it is rejected. Let the stock buyer, if he lays any claim to intelligence, at least be able to tell himself, first, what value he is actually setting on the business and, second, what he is actually getting for his money in terms of tangible resources.

· A business that sells at a premium to asset value does so because it earns a large return upon its capital; this large premium attracts competition, and, generally speaking, it is not likely to continue indefinitely. Conversely, in the case of a business selling at a large discount because of abnormally low earnings. The absence of new competition, the withdrawal of old competition from the field and other economic forces may tend eventually to improve the situation and restore a normal rate of profit on investment.

· Although this is orthodox economic theory, and undoubtedly valid in a broad sense, we doubt if it applies with sufficient certainty and celerity to make it useful as a governing factor in common stock selection. Under modern conditions the so called ―intangibles‖are every whit as real from a dollars and cents standpoint as are buildings and machinery. Earnings based on these intangibles may be even less vulnerable to competition than those which require only a cash investment in productive facilities. Furthermore, when conditions are favorable the enterprise with the relatively small capital investment is likely to show a more rapid rate of growth. Ordinarily it can expand its sales and profits at slight expense and therefore more rapidly and profitably for its stockholders than a business requiring a large plant investment per dollar of sales.

Therefore, it is not possible to lay down any rules on the subject of book value in relation to market price, except the strong recommendation already made that the purchaser know what he is doing on this score and be satisfied in his own mind that he is acting sensibly.