3 Ways to Think Like Buffett

During the year 1999, Robert G Hagstrom wrote the book “The Warren Buffett Portfolio” which told us all about the legendary investor. The best thing about this book is that it’s different from many of the other articles and books written about Warren Buffett. It’s different because it provides valuable insight into Warren Buffett’s thought processes in regards to investing. This is a great way to look at the psychological mindset of the Oracle of Omaha, and figure out why he became so incredibly wealthy.

Even though investors could benefit a great deal from reading the book in its entirety, we chose three samples and suggestions that will help you improve your stock selection by getting into the mindset of the wealthiest investor in the world.

  •     Look at Stocks As Buying Businesses

For some reason, investors tend to look at the stock market and individual stocks as tiny pieces of paper. They think that people trade these pieces of paper back and forth. While this may be true on one level, it could be the reason why investors are often emotional about certain positions. Plus, when you think this way, it does not give you the ability to clearly consider the best decisions in regards to investing.

Warren Buffett has stated on more than one occasion that he thinks shareholders should look at themselves as “part owners” of any business that they plan to invest in, or they are already invested in. When you think this way, according to Buffett and Hagstrom, as an investor you will typically avoid making off-the-cuff investment decisions. This will allow you to become more focused on longer-term choices. Typically, the long-term “owners” will analyze situations in tremendous detail. They will put a lot of thought into purchasing shares and selling them. They will not take these decisions lightly. By increasing analysis, Hagstrom believes that this will lead to bigger and better returns on investment.

  • Increase the Investment Size

In most cases, it really doesn’t make sense for investors to “put all of their eggs in one basket,” but it isn’t always smart to put all of your investments in too many baskets either. Sometimes over diversification can hurt investment returns just like lacking in diversification. This is the biggest reason why Buffett does not invest in mutual funds. It’s also the main reason why Buffett chooses to make large investments in a smaller selection of companies.

Buffett believes firmly that investors have to do their homework before they even consider purchasing a stock. Once the process of due diligence is completed, the investor must feel completely comfortable with their choice, and feel safe putting a large sum of money into that particular stock. They should also feel good about minimizing their investment portfolio to just a handful of quality companies that have excellent prospects for growth.

Buffett believes that properly allocating your funds is extremely important and it’s worth spending time doing so. It’s more than just choosing the best company. You have to feel good about the companies that you choose.

Think about this for a second…

If you have an unbelievable prospect that has very minimal risk financially and the long-term growth potential is incredible, while you even consider putting money in your 15th favorite stock? Why not add more to the share of your number one choice? Doesn’t that seem like the financially sound thing to do?

  • Reduce Portfolio Turnover

There’s no question about it. Rapidly moving from one stock to another, or in an out of the same stock, has the ability to make an investor a tremendous amount of money. But Buffett believes that the trader operating this way is actually putting a damper on his or her investment returns.

Why is that?

Constantly turning over your portfolio actually increases the amount of taxes needed to be paid on capital gains. Plus, you’ll have to spend a lot more money on trading commissions throughout the year as well.

Buffett believes that the things that make sense and business also make the most sense in stocks:

“An investor should ordinarily hold a small piece of outstanding business with the same tenacity that an owner would exhibit if he owned all of that business,” said Buffett.

Investors need to begin thinking for the long-term. By having a long-term mindset, an investor will be able to avoid paying large commission fees as well as excessive short-term capital gains taxes. They’ll also feel more comfortable riding out a stock’s short-term fluctuations. This will allow the investor to reap many rewards due to dividends and increased earnings as time goes by.