This post is a virtual interview with Mr. Warren Buffett that I created by framing questions to match answers from his annual letters. Its not a long interview so I strongly urge you to read each answer closely. Really give it an effort to understand what he's saying. This is distilled investing knowledge of a lifetime. It wouldn't hurt to memorize it:
Q. Mr. Buffett, you’ve taught us to look for a good business at a good price. Could you give us an example of a good business that all of our Rule One students can easily understand?
A. They ought to be confident if they buy a farm.... [T]hey ought to look at what the farm produces, how many bushels an acre do they get out of their corn or soybeans and what prices do they bring. If you decide to buy a farm and you pay the right price for it, you don’t need to lose faith in American agriculture, you know, because the prices of farms go down.
Q. So you don’t worry at all about being able to buy this farm or business cheaper tomorrow. What if the economy and stock market are melting down? Do you still step in there and buy?
A. If you tell me the economy is going to be terrible for 12 months, pick a number, and then if I find something that is attractive today, I am going to buy it today. I am not going to wait and hope that it sells cheaper six months from now. Because who knows when stocks will hit a low or a high? Nobody knows that. All you know is whether you’re getting enough for your money or not.
Q. So what are the key things you look for to determine whether you are getting enough for your money?
A. If you’re going to buy a stock in some business that’s been around for a 100 years and will be around for 100 more years and it’s not a leveraged company and it sells some important product and it’s got a strong competitive position and you buy it at a reasonable multiple of earnings, you don’t have to worry about crooks, you’re going to do fine.
Q. What’s your view of a ‘reasonable’ multiple of earnings? Is there a number?
A. We acquired a company recently and the owner quoted me as saying that I like to buy a PE of 10. I’ll leave it at that.
Q. We’re not supposed to worry about the business’s market price declining, right? Is there a percentage decline beyond which you’d be very concerned?
A. Unless you can watch your stock holding decline by 50% without becoming panic-stricken, you should not be in the stock market.
Q. That brings up the question of diversification. You are famously not diversified across the broad market. Why is that better than spreading it around to a lot of good companies?
A. Wide diversification is only required when investors do not understand what they are doing. Never invest in a business you cannot understand. Risk can be greatly reduced by concentrating on only a few holdings in businesses you understand well.
Q. Which takes us to my last question: What’s the most critical thing for our Rule One students to focus on?
A. The critical investment factor is determining the intrinsic value of a business and paying a fair or bargain price. [And] lethargy bordering on sloth should remain the cornerstone of [their] investment style.
Q. Thank you very much, Mr. Buffett. Everything makes total sense. Its so weird so few people follow these principles. I always wondered why.
A. I asked [Ben]Graham the same question. Everyone took his class at Columbia Business School. 90% of the people that took his class ended up doing something else.
Now go play.