Warren Buffett, the billionaire investor, enjoys the ‘game’ of investing. It’s been his life’s work, and he’s still at the head of Berkshire Hathaway at the age of 91.
As someone with no savings before the age of 30, building even a fraction of that wealth can seem like an impossible dream. But by paying attention to his method and employing some of his key virtues, I believe I can learn from Warren Buffett’s example.
Albert Einstein once said: “Compound interest is the eighth wonder of the world. He who understands it earns it. He who doesn’t, pays it.”
Compound interest is when the value of an investment grows exponentially over time. For example, if a portfolio of £100 grows by 10% it is now worth £110. If that £110 then grows by a further 10% it is worth £121, then £133.1 and so on.
The stock market grows, on average, around 7% per year. At that rate, it would take 10 years for me to double any money invested. Not unreasonable at all. However, Buffett’s yearly letters to Berkshire Hathaway stockholders reveal that he has earned compounded annual gains of roughly 20% since 1964.
That’s doubling every four years! Annualised returns at that pace explain a lot about why he’s now a multi-billionaire.
Buffett focuses on fundamentals
So how does Buffett get such high returns for himself and his shareholders?
In his 2021 shareholder letter, Buffett emphasised his focus on selecting high-quality enterprises. These are companies that can increase their profits year after year, have high free cash flow, low debt and a product or service that continues to sell well during bad economic times. It does not mean chasing trends or trying to get in on the new ‘hot’ stock option. Coca-Cola is a perfect example of this and is why it is one of his largest holdings.
So should I just buy what Buffett has? Not necessarily. Buffett takes a long time choosing shares, and even longer waiting to buy them. He tries to buy stocks when ‘great‘ businesses go ‘on sale‘ or trade below their intrinsic value. Then he holds onto his stock as the companies’ earnings multiply. Apple makes up a significant portion of Buffett’s portfolio but has shot up in value since he invested in 2016. There is a good chance will continue to grow, but I don’t want to be chasing trends. Instead, I need to look for companies that have solid fundamentals but haven’t had that explosive growth.
To take full advantage of compound interest and a growing business, Buffett thinks long term. He only buys a stock if he knows he wants to hold it for years, even decades. To investors like myself, this is an even more important virtue. I don’t have the time or the resources to predict the movements of the stock market. Trying to make a ‘quick buck’ trading is only likely to lose me money.
The best, most consistent way anyone has profited from the stock market has been by investing in great companies and holding for the long term.
All investing has dangers, but without risk, there can be no reward. My strategy for generating wealth at 30, is to save as much as possible every month. Then, like Warren Buffett, carefully select companies for their income growth, stability and unique products, and hold them for years.
James Reynolds has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.