Buffett’s Investing Style vs Malaysian Stock Market

World famous stock market guru, Warren Buffett, made headlines when he bought substantial stakes in technology and services giant General Electric Co (GE) and financial heavyweight Goldman Sachs Group.

Just when everyone else was pulling out their investments from Wall Street, Buffett stepped in to inject some US$8bil in these two companies via his investment company Berkshire Hathaway Inc.

“Most people get interested in stocks when everyone else is. The time to get interested is when no one else is. You can’t buy what is popular and do well,” he once said.

But is Buffett’s value investing style suitable for the Malaysian equity market and investors?

“Yes, it provides great opportunities to buy now if you are buying for long-term,” said Aberdeen Asset Management Sdn Bhd managing director Gerald Ambrose, adding that the current stock pricing “is irrational” due to the heavy selldown by foreign funds.

He said investors should hold good stocks for “as long as possible” as stock investment was about investing in a company’s management and market strategy.

Jupiter Securities Sdn Bhd executive director of operations Tan Chee Siong said Buffet was very careful with his investments and rarely found stocks that met his requirements.

The five main criteria Buffett uses for stock selection are earnings versus growth, high return on equity, minimal debts, strength of management and simple business model.

Buffett’s strategy was more of a “concentration of a few solid stocks” in a few industries that he could understand, Tan noted.

However, he cautioned that the local bourse, as an emerging market, could be more volatile and that market sentiment could easily be influenced by many external factors.

“We must remember that if we talk about investment in the local equity market, the duration should be shorter and we need to take profit whenever there are signs of big changes in market trend and our economic performance,” he said.

Meanwhile, Aseambankers head of research Vincent Khoo said investors should generally hold on to three principles — “be long-term oriented, only buy what you can afford and be focused in what you buy.”He said investors should hold on to good stocks for as long as possible.

“Blue chip stocks, for example, can ride through bad times and will recover over time,” he said. Being among the most successful and trusted investors’, Buffett’s investment in GE and Goldman Sachs restored some investor confidence on Wall Street.

Buffett, who is also known as “The Oracle of Omaha”, is an astute long-term investor and has always investigated the underlying fundamentals of a company, rather than market sentiment.

He has always determined the intrinsic value of a business and paid a good price for it. He believes price is what you pay, value is what you get.

Being prudent, Buffett is said to never invest in any business that he could not understand, a principle that paid off when he escaped the dotcom market crash. His investment principle is simple — always analyse a company’s annual reports to check its fundamentals and know what you are investing in.

Buffett, who is chairman of Berkshire Hathaway, the most expensive stock on Wall Street, said in a letter to shareholders last year that Berkshire was seeking to invest in companies with favourable long-term prospects and competitive advantage in a stable industry.

To him, “if a business does well, the stock eventually follows.” One of his most successful investments was PetroChina. Buffett bought a stake in the Chinese oil and gas firm for an initial sum of US$500 million and later sold it for US$3.5 billion. He has also made successful investments in companies such as Coca-Cola, American Express and Gillette.

Warren Buffett Quotes

In my adult business life I have never had to make a choice of trading between professional and personal. I tap-dance to work, and when I get there it’s tremendous fun.

I have simple pleasures. I play bridge online for 12 hours a week. Bill and I play, he’s “chalengr” and I’m “tbone”.

I just naturally want to do things that make sense. In my personal life too, I don’t care what other rich people are doing. I don’t want a 405 foot boat just because someone else has a 400 foot boat.

I want to be able to explain my mistakes. This means I do only the things I completely understand.

The best way to own common stocks is through an index fund.

I was lucky to have the right heroes. Tell me who your heroes are and I’ll tell you how you’ll turn out to be. The qualities of the one you admire are the traits that you, with a little practice, can make your own, and that, if practiced, will become habit-forming.

If you’re doing something you love, you’re more likely to put your all into it, and that generally equates to making money.

A public-opinion poll is no substitute for thought.

Chains of habit are too light to be felt until they are too heavy to be broken.

I always knew I was going to be rich. I don’t think I ever doubted it for a minute.

I don’t look to jump over 7-foot bars: I look around for 1-foot bars that I can step over.

It takes 20 years to build a reputation and five minutes to ruin it. If you think about that, you’ll do things differently.

It’s better to hang out with people better than you. Pick out associates whose behavior is better than yours and you’ll drift in that direction.

Let blockheads read what blockheads wrote.

Of the billionaires I have known, money just brings out the basic traits in them. If they were jerks before they had money, they are simply jerks with a billion dollars.

Risk is a part of God’s game, alike for men and nations.

Rule No.1: Never lose money. Rule No.2: Never forget rule No.1.

Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks.

The business schools reward difficult complex behavior more than simple behavior, but simple behavior is more effective.

There seems to be some perverse human characteristic that likes to make easy things difficult.

Price is what you pay, value is what you get.

We enjoy the process far more than the proceeds.

Why not invest your assets in the companies you really like? As Mae West said, “Too much of a good thing can be wonderful”.

You do things when the opportunities come along. I’ve had periods in my life when I’ve had a bundle of ideas come along, and I’ve had long dry spells. If I get an idea next week, I’ll do something. If not, I won’t do a damn thing.

Warren Buffett: How He Does It

Did you know that a $10,000 investment in Berkshire Hathaway in 1965, the year Warren Buffett took control of it, would grow to be worth nearly $30 million by 2005? By comparison, $10,000 in the S&P 500 would have grown to only about $500,000. Whether you like him or not, Buffett's investment strategy is arguably the most successful ever. With a sustained compound return this high for this long, it's no wonder Buffett's legend has swelled to mythical proportions. But how the heck did he do it?

Buffett's Philosophy

Warren Buffett descends from the Benjamin Graham school of value investing. Value investors look for securities with prices that are unjustifiably low based on their intrinsic worth. When discussing stocks, determining intrinsic value can be a bit tricky as there is no universally accepted way to obtain this figure. Most often intrinsic worth is estimated by analyzing a company's fundamentals. Like bargain hunters, value investors seek products that are beneficial and of high quality but underpriced. In other words, the value investor searches for stocks that he or she believes are undervalued by the market. Like the bargain hunter, the value investor tries to find those items that are valuable but not recognized as such by the majority of other buyers.

Warren Buffett takes this value investing approach to another level. Many value investors aren't supporters of the efficient market hypothesis, but they do trust that the market will eventually start to favor those quality stocks that were, for a time, undervalued. Buffett, however, doesn't think in these terms. He isn't concerned with the supply and demand intricacies of the stock market. In fact, he's not really concerned with the activities of the stock market at all. This is the implication this paraphrase of his famous quote : "In the short term the market is a popularity contest; in the long term it is a weighing machine."

He chooses stocks solely on the basis of their overall potential as a company - he looks at each as a whole. Holding these stocks as a long-term play, Buffett seeks not capital gain but ownership in quality companies extremely capable of generating earnings. When Buffett invests in a company, he isn't concerned with whether the market will eventually recognize its worth; he is concerned with how well that company can make money as a business.

Buffett's Methodology

Here we look at how Buffett finds low-priced value by asking himself some questions when he evaluates the relationship between a stock's level of excellence and its price. Keep in mind that these are not the only things he analyzes but rather a brief summary of what Buffett looks for:

1. Has the company consistently performed well?

Sometimes return on equity (ROE) is referred to as "stockholder's return on investment". It reveals the rate at which shareholders are earning income on their shares. Buffett always looks at ROE to see whether or not a company has consistently performed well in comparison to other companies in the same industry.

Looking at the ROE in just the last year isn't enough. The investor should view the ROE from the past five to 10 years to get a good idea of historical performance.

2. Has the company avoided excess debt?

The debt/equity ratio is another key characteristic Buffett considers carefully. Buffett prefers to see a small amount of debt so that earnings growth is being generated from shareholders' equity as opposed to borrowed money.

This ratio shows the proportion of equity and debt the company is using to finance its assets, and the higher the ratio, the more debt - rather than equity - is financing the company. A high level of debt compared to equity can result in volatile earnings and large interest expenses. For a more stringent test, investors sometimes use only long-term debt instead of total liabilities in the calculation above.

3. Are profit margins high? Are they increasing?

The profitability of a company depends not only on having a good profit margin but also on consistently increasing this profit margin. This margin is calculated by dividing net income by net sales. To get a good indication of historical profit margins, investors should look back at least five years. A high profit margin indicates the company is executing its business well, but increasing margins means management has been extremely efficient and successful at controlling expenses.

4. How long has the company been public?

Buffett typically considers only companies that have been around for at least 10 years. As a result, most of the technology companies that have had their initial public offerings (IPOs) in the past decade wouldn't get on Buffett's radar (not to mention the fact that Buffett will invest only in a business that he fully understands, and he admittedly does not understand what a lot of today's technology companies actually do). It makes sense that one of Buffet's criteria is longevity: value investing means looking at companies that have stood the test of time but are currently undervalued.

Never underestimate the value of historical performance, which demonstrates the company's ability (or inability) to increase shareholder value. Do keep in mind, however, that the past performance of a stock does not guarantee future performance - the job of the value investor is to determine how well the company can perform as well as it did in the past. Determining this is inherently tricky, but evidently Buffett is very good at it.

5. Do the company's products rely on a commodity?

Initially you might think of this question as a radical approach to narrowing down a company. Buffett, however, sees this question as an important one. He tends to shy away (but not always) from companies whose products are indistinguishable from those of competitors, and those that rely solely on a commodity such as oil and gas. If the company does not offer anything different than another firm within the same industry, Buffett sees little that sets the company apart. Any characteristic that is hard to replicate is what Buffett calls a company's economic moat, or competitive advantage. The wider the moat, the tougher it is for a competitor to gain market share.

6. Is the stock selling at a 25% discount to its real value?

This is the kicker. Finding companies that meet the other five criteria is one thing, but determining whether they are undervalued is the most difficult part of value investing, and Buffett's most important skill. To check this, an investor must determine the intrinsic value of a company by analyzing a number of business fundamentals, including earnings, revenues and assets. And a company's intrinsic value is usually higher (and more complicated) than its liquidation value - what a company would be worth if it were broken up and sold today. The liquidation value doesn't include intangibles such as the value of a brand name, which is not directly stated on the financial statements.

Once Buffett determines the intrinsic value of the company as a whole, he compares it to its current market capitalization - the current total worth (price). If his measurement of intrinsic value is at least 25% higher than the company's market capitalization, Buffett sees the company as one that has value. Sounds easy, doesn't it? Well, Buffett's success, however, depends on his unmatched skill in accurately determining this intrinsic value. While we can outline some of his criteria, we have no way of knowing exactly how he gained such precise mastery of calculating value.

Conclusion

As you have probably noticed, Buffett's investing style, like the shopping style of a bargain hunter, reflects a practical, down-to-earth attitude. Buffett maintains this attitude in other areas of his life: he doesn't live in a huge house, he doesn't collect cars and he doesn't take a limousine to work. The value-investing style is not without its critics, but whether you support Buffett or not, the proof is in the pudding. As of 2008, he holds the title of the richest man in the world, with a net worth of more US$62 billion (Forbes 2008). Do note that the most difficult thing for any value investor, including Buffett, is in accurately determining a company's intrinsic value.

[More about Warren Buffett...]

8 Money Secrets From Warren Buffett

1. Rich Is A State Of Mind

"I always knew I was going to be rich. I don’t think I ever doubted it for a minute." - Warren Buffett

The difference between being poor and being rich is really just a state of mind. Poor people think thoughts of poverty and lack, rich people think thoughts of abundance and prosperity. Your beliefs are going to determine the way you perceive wealth, the decisions you make and the way you act towards it.

2. Success Is More Than About Your Bank Balance

When asked by CNBC what is the secret to success, Buffett replied "If people get to my age and they have the people love them that they want to have love them, they’re successful. It doesn’t make any difference if they’ve got a thousand dollars in the bank or a billion dollars in the bank… Success is really doing what you love and doing it well. It’s as simple as that. I’ve never met anyone doing that who doesn’t feel like a success. And I’ve met plenty of people who have not achieved that and whose lives are miserable."

3. Spend Less Than You Earn

"Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks." -Warren Buffett

It seems like common sense advice and you’ve no doubt heard financial experts preaching about it for years. You can’t possibly get ahead financially if you’re spending more than your paycheck. Buffett is famous for living a simple and frugal lifestyle. He is the only billionaire I know that still lives in the same house he bought back in 1958 for $31,500. He drove a 2001 Lincoln Town Car for years which he bought second hand. Buffett has a net worth in excess of $52 billion and yet lives off an annual salary of $100,000. The relative percentage of his spending based on his overall net worth is minuscule.

4. Avoid Consumer Debt

The sooner we realize that consumerism is a social plague that has been propagated by billion dollar marketing machines to keep you shackled to your job, the sooner we can stop spending money on useless stuff. It is a fool’s game to spend today so that you can work tomorrow to pay it off. It is a losing proposition because one day your working days are going to be over but the debt is still going to be hanging over your head. Clever marketing has convinced our society that to be happy you have to have more, be more and do more. Buffett abhors consumer debt instead choosing to use debt wisely by leveraging it in investments. 

5. You Are Who You Associate With

"It’s better to hang out with people better than you. Pick out associates whose behavior is better than yours and you’ll drift in that direction." -Warren Buffett

If you want to succeed financially you need to associate with people who are most conducive to encouraging and cheering on your financial journey. If the people you associate with see money as evil, object to capitalism and find wealth a foreign concept then your financial health and well being is going to be influenced by their views. Whether we like it or not we are all influenced to some extent by the people we spend our primary time with. If you aspire to achieve financial security then you need to find a mastermind of people in your life whom you can all encourage and help each other.

6. Gambling Is A Fools Game

"Rule No.1: Never lose money. Rule No.2: Never forget rule No.1." - Warren Buffett

While we are young and naive we choose to take risks with our money that are dumb and stupid. Trying to hit a home run with your money every time is a losing proposition with long term consequences. To chase investments that offer a high rate of return you must also assume that it also comes with a higher rate of risk. Bill Gates once quipped "Warren’s and my betting has always been confined to $1 bets" when talking about them paying poker together. If two billionaires take risk management this seriously, it’s time we average punters did the same thing.

7. Give Back To The Community

"Of the billionaires I have known, money just brings out the basic traits in them. If they were jerks before they had money, they are simply jerks with a billion dollars." - Warren Buffett

They say that to have more you need to give more. A contradiction in terms, maybe, but it’s a simple truth that is as enduring as time. As the bible says "It is more blessed to give than to receive -Acts 20:35". Buffett has announced in 2006 that he was giving away over $30 billion to the Bill and Melinda Gates Foundation making it at the time of writing the largest charitable donation in history. He also contributes large sums to his children’s charitable foundations.

8. Generosity and Abundance Goes Hand In Hand

"Even though Ben Graham [Buffett's mentor] had everything he needed in life, he still wanted to give something back by teaching, So just as we got it from somebody else, we don’t want it to stop with us. We want to pass it along too." - Warren Buffett

A famous bible quote goes: "What benefit will it be to you if you gain the whole world but lose your own soul?" - Mark 8:36. The path to wealth isn’t a solo endeavor. How sad would life be if you come to the end of your life and there is no one to share it with. So as you journey on your path to financial abundance remember that there will be many people who generously helped you on your journey so it is only fitting to pay it forward when the opportunity arises. Generosity with your time, with your money, with your resources are great virtues to have. The greatest ally to building a strong friendship is to help others achieve what they want from life.

I leave you with this last quote "You only have to do a very few things right in your life so long as you don’t do too many things wrong." - Warren Buffett

The Warren Buffett Way

Even though you have all heard this a million times, and it has been proven over and over, many of you will not heed this advice and will lose a lot of money in the long run for a shot at the big bucks.

Warren Buffett, Benjamin Graham, Bill Miller, and Peter Lynch are arguably the best investors of all time. The following will be the strategies for EVERY single investor who wishes to reduce risk and maximize return:

1.) Understand how the company makes money. If you can’t verbally explain to someone how they make money, you certainly shouldn’t own stock in that company.

2.) If you understand how the company works, and you wish to purchase stock in it, imagine this scenario: As soon as you purchase the stock, the stock market closes for 5 years. This means that you will not be able to sell the stock for 5 years. If you are still comfortable with the purchase, then it is a good investment. If not, don’t buy it.

3.) It is always a good thing when management owns a significant portion of the company’s outstanding shares. This doesn’t mean that a company whose management does not own a significant portion of the outstanding shares is a bad choice, though.

4.) The company should get a return on equity of over 15%. This is a Warren Buffett staple. A company that cannot generate 15% returns on their equity is not a very good company. There are exceptions to this, however. Growth companies who are still trying to make it off the ground generally don’t have this high ROE and oftentimes they have negative ROE. Successful investing in growth companies is not impossible, but it requires a bit more luck.

5.) If a company has been beaten down for a reason that is NOT related to their performance, such as analyst downgrades, a buy opportunity is created. Warren Buffett has a famous quote that goes: “Buy when there is blood in the streets.” Learn it, live it.

6.) It is a fact that the stock price of a company fluctuates up and down faster than the actual performance of the company. This means that the VAST majority of stocks at their 52-week high are actually overvalued. This also means that the VAST majority of stocks below their 52-week low are very undervalued. All the best investors would rather buy stock in a company near its 52-week low than near its 52-week high.

7.) Choose stocks with high cash and little debt. Hard times aren’t quite so hard when you have lots of cash on hand.

8.) If you are a growth investor, Peter Lynch suggests that you buy stocks with a P/E ratio less than the estimated growth rate. This results in a PEG of less than 1. Of course this uses analyst estimates, so it’s never a sure thing.

Along these same lines, it is also important to note that the companies which Warren and company must invest in are large, well followed (especially after he buys) companies. This puts them in the spotlight and raises the demand for stock in the company. Always true to form, the law of supply and demand forces the price up when the demand goes up and supply remains the same (for arguments sake, the supply would actually be less now that Warren bought a significant amount, which he has no choice but doing).

Investors should use a blend of value and growth in their investment decisions and never to invest in companies that are in the spotlight.

Warren Buffett Buyback Stocks

Warren Buffett, the CEO and largest shareholder of Berkshire Hathaway (BRK.A - Cramer's Take - Stockpickr - Rating), is the third richest man in the world, and he achieved that status through savvy investing.

We at Stockpickr thought it would be interesting to look at those Buffett stocks that are also the subject of big company share repurchases. As we often highlight here, many stocks have successfully risen in price through company buybacks. So at Stockpickr.com, we have come up with the 10 Warren Buffett stocks with stock buyback programs.

When a company buys back its own stock, it reduces the number of shares outstanding and therefore increases the earnings per share. It also sends a signal to investors that the company has confidence in its business and that its own shares are the best investment for its surplus funds.

As an example, Wal-Mart (WMT - Cramer's Take - Stockpickr - Rating) recently implemented a $15 billion stock buyback program. And we also saw that Buffett increased his position in the company. Wal-Mart recently announced a 49.1% quarterly increase in earnings on a 10% increase in revenue. The stock has a price-to-earnings (P/E) ratio of 14 and a P/E-to-growth (PEG) ratio of 1.1. The yield on the stock is 2%.

Wal-Mart shows up in the Bill and Hillary Clinton Portfolio, which lists the stocks held and recently liquidated by the Bill and Hillary Rodham Clinton blind trust. The Clintons also owned Biogen Idec (BIIB - Cramer's Take - Stockpickr - Rating), which also recently announced a $3 billion buyback. The pharmaceutical company, which is working on developing a treatment for lymphoma, as well as for multiple sclerosis and psoriasis, has a P/E of 37 and a PEG of 1.8.