Too many times investors and traders start and stop what they think are great ideas in theory but aren’t so great in practice. Investors may bet on 20 great ideas in their life-if they even have that many-and assume they will make money, but this could be a mistake. Buffett says “three or five or seven” might make you wealthy, “but what you can’t do is get rich by trying one new idea every day.”
The Buffett rule of filtering out most good ideas in favor of one or two great ones is a life principle for all areas of life not just finance and investing. It forces focus which is something Buffett is familiar with. He once said: “The difference between successful people and really successful people is that really successful people say no to almost everything.” Investors must focus like a laser on only their very best ideas while traders must focus on the best systems and trades that fit their own personality. Ignore what doesn’t matter and focus on what does.
Warren Buffett Rules to Investing
1. Managers must have integrity & talent.
Buffett talking to a class:
“You’re looking for three things, generally, in a person. Intelligence, energy, and integrity. And if they don’t have the last one, don’t even bother with the first two. I tell them, Everyone here has the intelligence and energy—you wouldn’t be here otherwise. But the integrity is up to you. You weren’t born with it, you can’t learn it in school.” – Warren Buffett.
2. Invest by facts, not emotions.
Make quantified investment decisions based on the math and the facts of a business compared to the stock price not your own emotions of fear or greed.
3. Buy wonderful businesses, not cigar butts.
“It’s far better to buy a wonderful company at a fair price, than a fair company at a wonderful price.” – Warren Buffett.
4. Only buy stocks that you understand, don’t chase stocks just because everyone else is trading but you don’t know anything about them.
“Know your circle of competence, and stick within it. The size of that circle is not very important; knowing its boundaries, however, is vital.” – Warren Buffet.
5. When you see a great opportunity, take it!
“When it’s raining gold, reach for a bucket, not a thimble.” – Warren Buffett.
6. Don’t sell unless the business fundamentally changes for long term investors.
“Our favorite holding period is forever.” – Warren Buffett.
7. Buy at a price below intrinsic value this requires some fundamental analysis skills.
“If you understood a business perfectly and the future of the business, you would need very little in the way of a margin of safety. So, the more vulnerable the business is, assuming you still want to invest in it, the larger margin of safety you’d need.” – Warren Buffett.
Warren Buffett rules for picking stocks
There are some intangible things he looks for in companies that you can’t put in a stock screener.
- When buying a stock he sees it as buying a business and he wants to buy future consistent cash flows for a discounted price.
- He wants the company to have high quality management and a competitive edge that is not easy to reproduce.
- He wants a company with a business that has a high barrier to entry for new competitors.
- The ability of a company to both maintain and grow earnings and dividends without the help of debt.
- A company that has a type of monopoly with their technology, business model, or brand strength.
- Pricing strength that can keep up with inflation.
There are also some quantifiable fundamentals that you can put in a stock screener from Mary Buffett’s book Buffetology.
- Market Capitalization is >= $300 million U.S.
- Current Operating Margin % is >= industry’s current median.
- Current Net Margin % is >= industry’s current median.
- 3 year earnings per share growth % from operations is >= 7 year earnings per share growth % from operations.
- Latest filing return on equity % is > 12%.
- 7 year average return on equity % is > 12%.
- Long term debt < 5x earnings.
- Take the top 50 stocks with the highest 7 year earnings per sales growth % from operations.
This stock screen can help you find stocks that even Warren Buffett would buy and hold, he hopes forever, if their fundamentals don’t change.
Warren Buffett rules to live by
1. Find work that brings you passion.
Passion creates both energy and happiness.
“In the world of business, the people who are most successful are those who are doing what they love.” – Warren Buffett.
2. Practice self-care.
Health is one of your most valuable assets, manage it well.
“You only get one mind and one body. And it’s got to last a lifetime. But if you don’t take care of that mind and that body, they’ll be a wreck 40 years later. More specifically, it’s what we do right now — today — that determines the path of how your mind and body will operate into the future.” – Warren Buffett.
3. Invest in the right relationships.
The most successful people are the ones that know how to work with others well and leave a positive impression.
Buffett asked a group of University students to think of a classmate they felt would have the character for success long term, that they would want to get 10% of that person’s earnings for the rest of their lives.
“You would probably pick the one you responded the best to, the one who has the leadership qualities, the one who is able to get other people to carry out their interests. That would be the person who is generous, honest, and who gave credit to other people for their own ideas.” – Warren Buffett explained.
4. The rule of unconditional love.
Close relationships are some of the best types of wealth.
“The trouble with love is that you can’t buy it. The only way to get love is to be lovable. You’d like to think you could write a check: I’ll buy a million dollars’ worth of love. But it doesn’t work that way. The more you give love away, the more you get. That’s unconditional love, and it will have an excellent return over your life.” – Warren Buffett.