Investing Made Simple by Warren Buffett

By Joe Ponzio on July 6, 2007  |  5 comments

Investing isn't all that difficult—at least, it doesn't have to be. With the universe of investment opportunities available at the click of a mouse, why bother to try and invest in companies or in ways that you do not easily understand?

Warren Buffett:

I have three boxes on my desk: In, Out, and Too Hard.

The point is simple: Don't invest in things (or in ways) that you do not easily understand. Sounds simple enough. What's the catch?

The Hard Part

The catch is...you have to do it. You have to be able to say, "No." You have to say it a thousand times before you say, "Yes." You have to be bored—practically to tears—at the lack of truly wonderful investment opportunities that are (or aren't) available.

On top of it all, you have to have a solid, rational reason for buying a stock. You have to buy it as if you were buying the entire company. Then, you have to hold onto it regardless of what the professional gamblers do to the price. You have to believe that you are right—not because the price is changing, but because your rationale and reasoning is right.

When Is It Too Hard?

There is a simple test to determine whether an investment opportunity is a Yes, No, or Too Hard: If you do not understand it in five minutes...it's Too Hard. If you do not love it ten minutes after that, it is a No.

Will that eliminate 99.9% of your investment options? Yes—and that's the point! There are more than 5,000 businesses with stock trading on a daily basis...in the U.S. alone. If 99.9% of them are Too Hard or an automatic No, then there are five or so out there that are truly wonderful, easily understandable businesses selling at a discount to their true value.

But I Need To Diversify!

If you only invest in wonderful, easy-to-understand businesses, and you buy them on sale to their true value, you do not need to run out and diversify for the sake of diversifying. Your portfolio will eventually become diversified.

Think about it: We all know the story of Microsoft. Selling for pennies in the 1980s. Anyone who bought it became a millionaire many times over. If you had the chance to go back in time, wouldn't you put everything you owned into Microsoft back then?

Patience Is THE Virtue

Assuming you had purchased Microsoft, how long would you have held it? Would you have dealt with the daily, weekly, monthly, and annual fluctuations of 30% or more at any given time? How long before you would be "shook out" of your position?

Patience isn't a virtue in investing—it is the virtue. You know who held on to Microsoft the entire time? People who understood its business and saw value in the company—regardless of the stock price that the gamblers set on a particular day.

Invest Like Warren Buffett

At any given time, in any given market condition and economy, some gambling guru will make a killing—in the stock market, in real estate, whatever—and everyone will take that gamblers word as gold, try to replicate the gamblers success, and usually lose money. Why do they lose money? A gambler can only make money for so long—a few months, a few years—before the market conditions change and the gambler's system is no longer good.

On the other hand, for some 70 years, Warren Buffett has been successfully buying wonderful, easy-to-understand businesses when they are at a discount. And he has made billions from it.

When will you finally decide to stock worshiping gamblers and follow in the footsteps of the billionaire who made his money the easy way?

Also Filed Under "How to Think About Investing"

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• Pabrai's Law of Large Numbers
• Noise vs. News: Fed Meetings and Rates
• Lessons From the Banking Meltdown