Personally, as part of continuous investment education, I’ll download, read, and study Warren Buffett’s letters in Annual Reports of Berkshire Hathaway Inc. The letters contain wisdom, principles and 7 decades worth of personal experiences on investing and financial stewardship. Truly, they are masterpieces and I would highly recommend them to all who wish to build wealth via stock investing.
Here, in this write-up, I’ll like to list down 5 major takeaways on wealth building from the 2021 version of Warren Buffett’s letter. They are as follows:
#1: Investing vs Trading
Our goal is to have meaningful investments in businesses with both durable economic advantages and a first-class CEO. Please note particularly that we own stocks based upon our expectations about their long-term business performance and not because we view them as vehicles of timely market moves. That point is crucial: Charlie and I are not stock-pickers; we are business-pickers.
As investors, we are looking to own businesses which could generate consistent growth in sales, profits, and cash flows (durable economic advantages) over the long-term. This explains why we will study the business model, financial results, management team and future growth initiatives of a company before investing. This is different from stock traders and speculators who decide to buy, hold and sell stocks based on market moves.
#2: Compound Wealth
Early in 1965, things changed. Berkshire installed new management that redeployed available cash and steered essentially all earnings into a variety of good businesses, most of which remained good through the years. Coupling reinvestment of earnings with the power of compounding worked its magic, and shareholders prospered.
Here is a simple formula to compound wealth, which is to save money and have it invested into a variety of great businesses which could deliver rising revenues and profits (through the years). The essence is to build a portfolio of businesses that are highly profitable and sustainable with the mindset to keep them for life as if you are not going to sell them in the future.
#3: Have Cash Reserves
Charlie and I have pledged that Berkshire will always hold more than US$ 30 billion of cash and equivalents (U.S. Treasury Bills). We want your company to be financially impregnable and never dependent on the kindness of strangers (or even that of friends). Both of us like to sleep soundly, and we want our creditors, insurance claimants, and you to do so as well.
Some may opine that stocks are better investments than cash and deposit (FDs) as stocks could yield dividends and appreciate in value over time. While I hold a similar view, I would not think that cash is totally trash. This is because cash can help us to stay invested for we use cash to pay bills. We don’t need to be forced into selling off our investments to pay for an unforeseen expense. Thus, I would say that cash has its place in wealth building despite it not yielding much today.
#4: Equities to Hold Wealth
I always kept at least 80% of my net worth in equities.
In this letter, Buffett had revealed that Berkshire has US$ 144 billion in cash and equivalents in its balance sheet. Also, Buffett is an investor, who buys and holds a basket of great businesses that are ever expanding over time. In his context, it would make sense for him to keep a percentage of his wealth in equities. This is typical among billionaires today, where their wealth consists primarily of shares of their businesses that they founded today.
Many people might not feel comfortable having a high percentage of net worth in equities. This is because most of them may adopt a view, where stocks aren’t businesses to keep for the long-term but are vehicles to trade for quick gains. In these cases, they are not investors but could be stock traders or speculators.
#5: Comfortable with Our Investments
People who are comfortable with their investments will, on average, achieve better results than those who are motivated by ever-changing headlines, chatter and promises.
Here, being comfortable with an investment refers to having the peace to really hold onto an investment over the long-term, regardless of price movements, be it going up or coming down. So, if you are about to buy a stock today, the major question is – ‘Are you buying it with the intention to keep it for life?’.
Or, would you be reconsidering your stock positions, every time there are latest reports on COVID-19, elections, US-China trade war, Russia-Ukraine war, oil and gas prices, and currency fluctuations? Are you trying to guess and speculate the winners and losers in the stock market?
If that is you, you are not investing.
Stock investors tend to assess stocks based on its business fundamentals and its valuation. The others tend to buy and sell stocks based on headlines, chats, and promises. That is why stock investors tend to buy good businesses at prices that are undervalued when most people panic sell in the markets. Similarly, this also explains why stock investors tend to avoid chasing spikes when most people are rushing in to grab stocks in a mania.
For instance, if we look at Berkshire’s investments, we find that Buffett has kept his position in most of the stocks throughout major global events, including the COVID-19 pandemic. This includes AMEX, Apple, Bank of America, Moody’s and Coca-Cola. Upon studies, we would learn that Buffett’s stock holding period can be decades long and that is a testimony of his character as a value investor.
Personally, I find that the biggest takeaway from Buffett’s letter is this – Building wealth is not about being witty in the markets. It is about doing the simple stuff like saving money and investing in good businesses on a consistent basis for the long-term. The idea is to compound wealth as these businesses expand and not to be concerned with short-term price movements or potential trading gains.
Here is the link to get a copy of Warren Buffett’s letter for 2021.
If you wish to learn more on the art of stock investing, here’s a free training you can attend: