The Oracle of Omaha has a “tried and true” method that patient investors might want to follow, especially given the current market gyrations. Here are his seven basic rules and a short explanation of each…but first, let’s answer this question:

Who wouldn’t like to make $45 billion in the stock market?

Most of us would happily settle for several million. We would!

By studying the Oracle of Omaha’s methods, you may not make $45B but you can definitely improve your results and have a much better chance of beating the market.

Here, in his own words, are some of Warren Buffett’s rules, followed by a short explanation of their meaning:

1) “The dumbest reason in the world to buy a stock is because it’s going up.”

Technical analysts must be horrified by this one. A lot of investors will find it confusing. What ever happened to “the trend is your friend?”
Therein lies the difference between speculators and true investors like Buffett. Warren Buffett is the ultimate value investor. He buys companies when their intrinsic value exceeds their sales price, and not until.

Momentum investors buy stocks that are going up, hoping they will keep going up. They can study charts and look for patterns until their eyeballs fall out. But in the long run, the price of a stock always comes back to the intrinsic value of the underlying company. That’s why Buffett’s method is so hard to beat.

Of course, if you have a short attention span, you’ll never get there. Buffett is willing to wait months or years for a share price to reach his desired target, and he’s famous for having given his investors their money back when he felt the entire market was too high to touch.

2) “The best time to sell a stock is never.”

In the Internet age, everything has sped up. Everyone wants to take a quick profit, but they often lose sight of bigger gains that may be further down the road. Warren Buffett tries to buy only those stocks he’d be happy to hold if the market shut down. By adopting the same strategy, you can reduce trading costs, lower taxes and improve your returns.

3) “The first rule of investing is don’t lose money. The second rule is don’t forget Rule No. 1.”

Buffett has occasionally lost money, so this may seem confusing. The point is that every loss reduces both returns and opportunity costs. Investing is a series of decisions. The more decisions you get right, the higher your returns. This quote emphasizes the importance of doing everything in your power to minimize the wrong answers, rather than proceeding by the blind “let’s take a chance” method so many investors use.

4) “The stock market only exists as a reference to see if anyone is offering to do something foolish.”

Buffett doesn’t care about the day-to-day fluctuations of the market. He is interested in companies, not share price fluctuations. By ignoring the market and concentrating on intrinsic value, he maximizes his returns.

5) “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”

Lest anyone think Buffett just scoops up bargains like tube socks at a flea market, it is important to emphasize that bargain prices aren’t enough for him. He looks for companies that can make money in good times and bad and that have a moat that prevents competitors from taking their market share.

6) “Wide diversification is only necessary when investors do not know what they’re doing.”

Most investors diversify to minimize risk. But the more diversified your portfolio, the more likely it is to approach mediocrity. By investing only in his best ideas, Buffett beats that trap.

7) “I’ve never swung at a ball while it’s still in the pitcher’s glove.”

Forget companies with great but untested “potential” and buy companies that have already demonstrated that they know how to make money.

Conclusion:

Warren Buffett made much of his money by being patient, looking for great bargains on extraordinary companies, and ignoring the fluctuations of the market. If you have a gift for analyzing stocks, the patience to wait for a bargain, and the nerve to buy when others are selling, you can improve your returns the way he did.

Posted by the Research Staff
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