Warren Buffett, known as the “Oracle of Omaha,” is a name synonymous with success in the investment world. His ability to amass billions of dollars year after year has made him a legend among investors.
With an estimated net worth of approximately $114 billion (as of October 2023), the CEO of Berkshire Hathaway remains in the top ten of Forbes richest people in the world.
For those new to investing, understanding Buffett’s strategies can provide invaluable lessons. Knowing exactly how Buffett makes billions can inform even the novice investor looking to boost their investment returns.
Below we unveil seven methods Buffett routinely uses as part of his investment strategy.
1. Long-term investments
Warren Buffett is known for his long-term investment philosophy. He often emphasizes the importance of investing in businesses for the long-haul.
As he famously wrote in his 1996 Chairman’s Letter for Berkshire Hathaway:
“If you aren’t willing to own a stock for ten years, don’t even think about owning it for ten minutes. Put together a portfolio of companies whose aggregate earnings march upward over the years, and so also will the portfolio’s market value.”
Warren Buffett, 1996 Chairman’s Letter for Berkshire Hathaway
This approach has allowed him to reap substantial benefits from his investments over decades, rather than seeking short-term gains.
Buffett’s investment in Coca-Cola (KO) is a classic example of his long-term investment strategy. He first invested in the company in 1988 and has held onto the shares ever since, reaping significant returns over the decades.
In 2019, the cost basis of Berkshire’s investment in Coca-Cola shares was about $1.3 billion and the shares were worth about $20.7 billion. That brings Buffett’s unrealized gain to about $19.4 billion.
And that doesn’t even count the over $7 billion in dividends Berkshire has earned on the stock. Buffett’s investment in Coca-Cola is a prime example of his dedication to his long-term investment strategy.
2. Value investing
Value investing is at the core of Buffett’s strategy. He seeks to invest in companies that are undervalued but have solid fundamentals. By purchasing stocks at prices below their intrinsic value, Buffett ensures a margin of safety while anticipating substantial returns as the market corrects over time.
An example of Buffett’s value investing philosophy is his acquisition of shares in Apple Inc. (AAPL) starting in 2016. He purchased shares at a time when they were undervalued, a move that led to substantial profits as Apple’s stock price soared.
At one point, Berkshire Hathaway’s stake in Apple was worth roughly five times the initial investment. This is a spectacular example of Buffett’s capacity to make strategic investments in undervalued companies.
3. Economic moats
Buffett is keen on investing in companies with a strong competitive advantage or “economic moat.” By investing in companies with economic moats, Buffett ensures that these businesses can sustain their competitive advantage over the long term, ensuring steady profits.
In this quote, Buffett explains some of the key characteristics that he looks for when identifying a company with a strong economic moat:
“What we’re trying to find is a business that, for one reason or another — it can be because it’s the low-cost producer in some area, it can be because it has a natural franchise because of surface capabilities, it could be because of its position in the consumers’ mind, it can be because of a technological advantage, or any kind of reason at all, that it has this moat around it.”
Yahoo Finance “Warren Buffett Explains His Moat Principle“
4. Quality businesses
The Oracle of Omaha prioritizes investing in quality businesses with understandable and proven business models. He believes that investing in a good business at a fair price is better than investing in a fair business at a good price.
Two examples of Buffett’s investments in quality businesses are American Express (AXP) and Wells Fargo (WFC). Both investments contributed significantly to his wealth and that of Berkshire Hathaway investors.
Buffett started buying up American Express shares in the early 1960s, building it up to one of Berkshire Hathaway’s largest positions. And, for three decades, Wells Fargo was a significant part of Berkshire’s portfolio.
5. Diversification
While not as diversified as some investors, Buffett believes in having a mix of investments to manage risk. He, however, prefers to keep his investments concentrated in a few industries and companies he understands well.
While Buffett doesn’t over-diversify, he believes in having a mix of different investments to mitigate risk. For example, Berkshire’s portfolio includes holdings in various sectors like finance, technology, consumer goods, and healthcare.
6. Frugality and reinvestment
Known for his frugal lifestyle, Buffett believes in reinvesting profits to generate more wealth. His principle of saving and reinvesting has contributed significantly to his financial success over the years.
You can see an example of this principle in action in the billionaire’s living accommodations. Buffett still lives in the same Omaha, Nebraska house he purchased in 1958.
While many billionaires would have upgraded to a mega mansion (or two) decades ago, Buffett has said he’s quite happy in the house that he purchased for $31,500 (now valued at about $1 million).
By living in the same house he bought decades ago, driving a modest car, and keeping a close eye on his personal spending, Buffett exemplifies frugality. This helps him to allocate more capital to be reinvested in securities.
7. Utilizing market downturns
Buffett sees market downturns as opportunities rather than threats. His famous advice, “Be fearful when others are greedy and greedy when others are fearful,” underlines his strategy of capitalizing on market fears to buy undervalued stocks. Over time, these investments tend to provide handsome returns.
This contrarian investment philosophy focuses on taking advantage of market conditions while simultaneously being keenly aware of the many risks that come with investing.
Buffett is known for investing heavily during market downturns as he sees these events as a time to load up on quality companies at a bargain price. He then holds onto these stocks to reap investment rewards when the market rebounds.
It’s important to note that Buffett himself says that many stocks are not good investments during a market downturn. His contrarian investment strategy requires him to do tremendous research on companies and market conditions before he invests.
Summing it up: How Warren Buffett makes billions
The investment strategies of Warren Buffett encapsulate a blend of patience, knowledge, and a keen eye for quality and value. As new investors aim to build their own financial portfolios, adopting some of the following Buffett principles could be a step towards achieving significant financial growth:
- Invest for the long-term.
- Invest in undervalued companies that are trading at a bargain price.
- Invest in companies that have an advantage over their competitors (known as an “economic moat”).
- Invest in quality businesses with understandable and proven business models.
- Diversify your investments in different sectors to mitigate risk.
- Live frugally and reinvest your profits to generate even more wealth.
- Use market downturns as a time to carefully invest in undervalued companies.
By studying and learning from the investment acumen of Warren Buffett, newcomers to the investment world can garner insights that could be pivotal in steering them towards financial success.