Warren Buffett’s 7 Game-Changing Rules That Transformed My Investing Philosophy
What You Need to Know in 13 Minutes
Ever wondered how Warren Buffett, the legendary value investor, consistently achieves remarkable returns year after year? What if I told you his secret lies in a simple set of rules that anyone can follow?
In this article, I’m going to break down Buffett’s famous investment strategy, which boils down to just 7 rules. Let’s get started.
1- Don’t Hold a Stock for 10 Minutes Unless You’re Willing to Hold It for 10 Years:
Warren Buffett: I’m not recommending that people buy stocks today or tomorrow or next week or next month. I think it all depends on your circumstances. But you shouldn’t buy stocks unless you expect, in my view, you expect to hold them for a very extended period and you are prepared financially and psychologically to hold them the same way you would hold a farm and never look at a quote. You don’t need to pay attention to them.
Investing, according to Warren Buffett, is more about understanding human behavior than about sheer intelligence. It’s about playing the long game. Buffett’s mantra? “Don’t hold a company for 10 minutes unless you’re willing to hold it for 10 years.” This mindset shifts your focus from quick gains to the long-term prospects of the businesses you invest in.
Take a look into Buffett’s portfolio, and you’ll find giants like American Express, Coca-Cola, and Bank of America. What’s intriguing? He’s held onto these investments for more than a decade. Let’s talk Coca-Cola. Buffett’s been in since 1988, investing about $1.3 billion. Fast forward to today, and that investment has ballooned to $24.8 billion, churning out a cool $700 million in dividends annually.
See the magic? It’s the power of time and the beauty of compounding. Investing isn’t a sprint; it’s a marathon. And Buffett’s wealth is a testament to the rewards of patience and long-term vision.
Warren Buffett: You’ve got to be prepared when you buy a stock to have it go down 50% or more and be comfortable with it as long as you’re comfortable with the holding. And I pointed out three times in Berkshire’s history when the price of Berkshire stock went down 50%. There wasn’t anything wrong with Berkshire when those three times occurred. But if you’re going to look at the price of the stock and think that you have to act because it’s doing this or that or somebody else tells you “How can you stay with that when something else is going up?” or anything. You’ve got to be in the right psychological position. And frankly, some people are not really careful. Some people are more subject to fear than others.
Here’s the bottom line: Think long haul. Don’t get sucked into short-term gambles. Stick to Buffett’s advice: If you wouldn’t hold it for 10 years, don’t hold it for 10 minutes.
Warren Buffett: The real test of whether you’re investing from a value standpoint or not is whether you care whether the stock market is open tomorrow. If you’re making a good investment in a security, it shouldn’t bother you if they closed down the stock market for five years.
2- Don’t Lose Money:
Warren Buffet: The first rule of an investment is “Don’t lose”, and the second rule is don’t forget the first rule, and that’s all the rules there are. I mean if you buy things for far below what they’re worth and you buy a group of them, you basically don’t lose money.
Warren Buffett’s top rule in investing, also championed by Phil Town in his book “Rule #1”, is simple yet crucial. It’s all about mindset. Let’s say you invest in ten stocks, and six soar — that’s a win. But what about the other four? They shouldn’t drag you down.
When you’re in the red, don’t keep pouring money into it. Sounds like common sense, right? But in the stock market, it’s easier said than done. When losses mount, the natural instinct is to try and bounce back. But sometimes, cutting your losses is the smart move.
The big lesson from Buffett? Keep tabs on those valuations. Grab stocks below their actual worth, and diversify your portfolio. This strategy slashes your risk.
Now, let’s talk real-world: Buffett’s Taiwan Semiconductor play. He jumped in during Q3 of 2022, but swiftly realized it wasn’t the right fit and pulled out by Q4.
Even though he bought the stock when it was dirt cheap, his mistake didn’t bite back. He actually made money on it. So, remember Buffett’s top rule: “Don’t lose money.”
3- Buy Stocks Below Their Intrinsic Value:
Warren Buffet: The only reason for making an investment and laying out money now is to get more money later on, right? that’s what investing is all about. If you buy Coca-Cola today, the company is selling for about 110 to 115 billion dollars in the market. The question is, if you had 110 or 115 billion, you wouldn’t be listening to me but I’d be listening to you incidentally, but the question is would you lay it out today to get what the Coca-Cola company is going to deliver to you over the next 200 or 300 years? The discount rate doesn’t make much difference after as you get further out, and that is a question of how much cash they’re going to give you. It isn’t a question of how many analysts are going to recommend it or what the volume in the stock is or what the chart looks like or anything. It’s a question of how much cash it’s going to give you. That’s the only reason. It’s true if you’re buying a farm, it’s true if you’re buying an apartment house, any financial asset, you’re laying out cash now to get more cash back later on. And the question is, how much are you going to get, when are you going to get it and how sure are you?
Here’s something that often escapes notice when jumping into the stock market: It’s not just about betting on the next big thing. It’s about digging into a company’s free cash flows, growth trajectory, and making a conservative forecast of future cash flows.
Then, it’s about figuring out what you’d be willing to pay for those future cash flows today, ensuring a solid return on investment. In simpler terms, it’s about buying below what the company is truly worth.
Let’s take Buffett’s move with Apple in early 2016 as a prime example. Back then, Apple’s market cap was around $600 billion, giving it a PE ratio of 12.
Buffett recognized it as a solid company with a strong competitive advantage, or “MOAT,” likely to generate increasing cash flows over time. So, he snapped it up at that price.
Fast forward to today, Apple’s market cap has soared to about $2.6 trillion, and its annual free cash flow has more than doubled from $53 billion to $100 billion.
The key is to ensure the company you’re investing in can generate enough cash flow to justify its current market valuation. In other words, make sure you’re getting a good deal based on what the company can deliver.
Warren Buffett: The real question is, Berkshire is selling for 105 or so billion now. If you’re going to buy the whole company for 105 billion, can we distribute enough cash to you soon enough to make it sensible at present interest rates to lay out that cash now? and that’s what it gets down to. If you can’t answer that question, you can’t buy the stock. You can gamble in the stock if you want to or your neighbours can buy it. But if you don’t answer that question and I can’t answer that for internet companies, for example, there are all kinds of companies I can’t answer it for, but I just stay away from those.
So, make sure you’re buying well below the intrinsic value and if you’re not sure, stay away.
4- Stick To Businesses That You Understand:
Warren Buffett: I have an old-fashioned belief that I should expect to make money in things that I understand. And when I say understand, I don’t mean to understand what the product does or anything like that. I mean, understand what the economics of the business are likely to look at look like 10 years from now or 20 years from now. I know in general what the economics of say, Wrigley chewing gum will look like 10 years from now. The Internet isn’t going to change the way people chew gum. It isn’t going to change which gum they chew. If you own the chewing gum market in a big way and you’ve got Double mint and Spearmint and Juicy Fruit, those brands will be there 10 years from now. So, I can’t pinpoint exactly what the numbers are going to look like on Wrigley but I’m not going to be way off if I try to look forward on something like that. Evaluating that company is within what I call my circle of competence. I understand what they do. I understand the economics of it. I understand the competitive aspects of the business.
Many investors stumble here, especially when they’re just getting started. They might use a stock screener and spot some seemingly cheap stocks, but they often fail to dig deep into understanding the businesses they’re investing in. This becomes problematic when the stock inevitably fluctuates, leaving them uncertain about their next move.
Let’s say you buy a random company, and the stock price drops 30% the next day. Is it a bargain opportunity or a sign that something’s fundamentally wrong? Without thorough research and a firm grasp of the business, you’ll be left guessing.
That’s why it’s crucial to stick to what you know — your circle of competence. This means investing in businesses you understand inside and out.
Warren Buffett: Defining your circle of competence is the most important aspect of investing. It’s not important how large your circle is. You don’t have to be an expert on everything, but knowing where the perimeter of that circle of what you know and what you don’t know is and staying inside of it is all important. And if I don’t understand something, but I get all excited about it because my neighbours are talking about the stocks are going up and everything. They start fooling around someplace else. Eventually they’ll get creamed and they should.
Buffett’s advice is clear: Stay within your circle of competence. It’s not about the size of your circle; it’s about sticking to what you know. Stray into unfamiliar territory, and you’re asking for trouble.
5- Don’t Buy Cigar Butts:
Warren Buffett: I’ve been taught by Ben Graham to buy things on a quantitative basis. Look around for things that are cheap and I was taught that in say, in 1949 or 1950, it made a big impression on me. So I went around looking for what I call “used cigar butts” of stocks. And the cigar butt approach to buying stocks is that you walk down the street and you’re looking around for cigar butts and you find this terrible looking soggy, ugly looking cigar, one puff left in it, but you pick it up and you get your one puff. Disgusting and throw it away, but it’s free. I mean, it’s cheap. And then you look around for another soggy, one puff cigarette. Well, that’s what I did for years. It’s a mistake, although, you can make money doing it but you can’t make it with big money. It’s so much easier just to buy wonderful businesses. So now, I would rather buy a wonderful business at a fair price than a fair business at a wonderful price.
Buffett’s way of thinking, partly inspired by Charlie Munger, has greatly boosted Berkshire’s wealth. At first, Buffett followed Ben Graham’s lead, hunting for super cheap companies, even if they weren’t great. Graham believed that if you bought a bunch of these cheapies, overall, you’d make out okay.
But Buffett realized this wasn’t the best approach. He found it smarter and easier to invest in really good companies and hold onto them for a long time. Sure, these companies might not be dirt cheap, but if you find a solid one at a fair price and stick with it, you’re in for a win.
Look at Apple, for example. It’s a top-quality business, no doubt. Buffett saw its value and potential, buying it at a reasonable price. While there might be some super cheap companies out there, Buffett saw the value in sticking with a quality pick like Apple.
In short, Buffett’s new motto is about grabbing fantastic companies at fair prices, rather than settling for okay companies at super cheap prices. And it’s paid off big time for him.
6- Be Greedy When Others Are Fearful and Fearful When Others Are Greedy:
Warren Buffett: People behave very peculiarly in terms of their reactions because they’re human beings and they get excited when others get excited, they get greedy when others get greedy, they get fearful when others get fearful and they’ll continue to do so. And you will see things you won’t believe in your lifetime in securities markets. Investors behave in very human ways, which is they get very excited during bull markets, and when they look in the rearview mirror and they see a lot of money having been made in the last few years, they just push and push and push up prices, and when they look in the rearview mirror and they see no money having been made, they just say this is a lousy place to be. So they don’t care what’s going on in the underlying business, and it’s astounding, but that makes for a huge opportunity, just huge opportunity.
One key point: Most investors follow the herd. They all get greedy at the same time, and they all panic together when fear strikes. This herd mentality drives the stock market, fuelled by fear and short-term thinking.
The kicker? If you can break away from the crowd and invest in top-notch businesses during market panics, you’re on the path to Buffett-like returns. And that’s exactly what he does. In 2008, for instance, when the banking system was in turmoil. Buffett swooped in and made some big investments in Goldman Sachs. Then, in 2011, amidst more chaos, he jumped into Bank of America.
Why? Because he understood these businesses inside out. He knew the risks were low, so while everyone else was running scared, he seized the opportunity to be greedy.
Warren Buffett: It doesn’t take brains, it takes temperament. It takes the ability to sit there and look at something. When I started out in 1950, I would go through and find things at two times earnings, and they were perfectly decent businesses and people wanted jobs at those companies and everybody knew they were going to be around and they wouldn’t buy them at two times earnings, and that’s when interest rates were 2.5%.
7- Seize Your Golden Opportunities:
Warren Buffet: Big opportunities in life have to be seized. We don’t do very many things but when we get the chance to do something that’s right and big, we’ve got to do it, and even to do it in a small scale is just as big a mistake almost as not doing it at all. You’ve really got to grab them when they come because you’re not going to get 500 great opportunities.
In my 38 years, there have only been three incredible stock market opportunities: the dotcom crash, the global financial crisis, and the 2020 stock market crash. These chances come around roughly once every decade or so. You’ve got to stay alert and mentally prepare to seize them when they arise.
What I noticed? Most people let these opportunities slip right through their fingers. Instead of researching the stock market, they’re glued to TikTok. The blueprint is there, but many won’t take action.
The key is to act. If you’re serious, write down some investing goals for the next month. Maybe invest your first $500, dive into a company’s annual report, or pick up a famous stock market book. I’ll share some of my favourites at the end of this article.
Whatever it takes, make a plan and follow through. Don’t just listen to the secrets from the world’s best investor — act on them.
Warren Buffett: The biggest mistakes we’ve made by far, I’ve made not we’ve made, biggest mistakes I’ve made by far are mistakes of omission and not Commission. I mean, it’s the things I knew enough to do. They were within my circle of competence and I was sucking my thumb. Those are the ones that hurt. They don’t show up any place. I probably cost Berkshire at least $5 billion by sucking my thumb 20 years ago or close to it when Fannie Mae was having some troubles and we could have bought the whole company for practically nothing. I don’t worry about that if it’s Microsoft because I don’t know it. Microsoft isn’t in my circle of competence, that’s why I don’t have any reason to think I’m entitled to make money out of Microsoft or out of Cocoa Beans or whatever, but I did know enough to understand Fannie Mae and I blew it, and that never shows up under conventional accounting, but I know the cost of it, I know. I passed it up, and those are the big mistakes.
So when you get that pitch right in your Hitting Zone, make sure you swing. You might not swing for many years but when you do get that perfect pitch, SWING HARD.
Here are some of my favourite stock market books:
One Up on Wall Street By Peter Lynch.
The Intelligent Investor By Benjamin Graham.
The Snowball: Warren Buffett and the Business of Life By Alice Schroeder.
