Three insights from Warren Buffett to help you become a better investor

Warren Buffett is regarded by many to be the greatest investor who has ever lived. With more than 75 years of experience in the markets (he bought his first stock aged 11 way back in 1941), he has accumulated a wealth of investing knowledge, which he has shared liberally, both through interviews and his shareholder letters. Here are three pieces of wisdom from the Oracle of Omaha that I think will make all of us better investors. 

Low stock prices are good: Buffett has a famous analogy where he compares buying shares to buying any other product, like cars or hamburgers. As a consumer of goods such as these, you would naturally prefer for their price to be lower, rather than higher, and this is a point easily grasped by anyone. However, low share prices are typically viewed by many as a problem, rather than an opportunity. Buffett seems constantly bemused by this attitude and thinks that as someone who is a net buyer of stocks, low prices are something to be celebrated. The trick is to have the cash available to take advantage when attractively-priced opportunities come around. 

Complicated financial reporting is a sign of trouble: “Beware of companies displaying weak accounting. When managements take the low road in aspects that are visible, it is likely they are following a similar path behind the scenes. There is seldom just one cockroach in the kitchen”.

Reading financial reports is not the simplest thing to do, but it shouldn’t be overly complicated either. Generally speaking, a basic knowledge of accounting should be enough to understand 90% of what is written in a trading update. If you find that you are having trouble trying to make sense of paragraphs of small print and appendices, chances are that there is something that management does not want you to see. This is a red flag that should immediately make you suspicious.

Price-to-book does not matter that much: Buffett learned his craft from the father of value investing, Benjamin Graham. He was a highly successful practitioner who made much of his fortune during the 1930s, when valuations were significantly depressed, and he targeted businesses that were trading below what their book value was. In essence, he was able to buy dollar bills for 50 cents. Although he spent his early career following similar strategies, Buffett eventually progressed to looking for “wonderful companies at fair prices” rather than “fair companies at wonderful prices”, meaning that measures like price-to-book became less important to him.

These days, with so much more data available to investors, it is extremely rare to see a quality company trading at or below book value. Indeed, a price-to-book ratio of less than one will often be a sign that there is some structural problem at the business. For these reasons, Buffett prefers to focus on metrics like return on equity and discounted future cash flows, which tell you more about how productive a business is rather than how cheap it is.