Learning from Warren Buffett

published 17 May 2006

Susan McDonald, chairman of Calculus Capital, tells MoneyWeek where she'd put her money now.

Few of us can hope to emulate the performance of the great investor and head of Berkshire Hathaway, Warren Buffett. He has overseen a tripling in the price of Berkshire shares over the last decade and has returned twice as much, in percentage terms, as the S&P 500.

However, while few of us are ever likely to be as successful, we can at least learn from his essentially simple approach, while recognising that he just does it better. He is a classic buy-and-hold investor. Buffett dismisses short-term considerations, such as stockmarket volatility, and even macro-economic fluctuations, and looks for well-managed businesses with good long-term prospects. He avoids sectors he does not understand or cannot evaluate (which is why he emerged unscathed from the collapse of the tech bubble). Most importantly, he refuses to overpay, but is willing to buy a good business at a fair price.

We are at that time of year when gurus give their forecasts for the coming year and, more embarrassingly for them, have their forecasts for the past year checked for accuracy. If there is one consistent fact, it is that even the best paid, most feted, City gurus have a hard time making accurate predictions. So, when they say one particular company, sector or economy is hot or about to soar, should we follow their advice?

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I would not fall for those seductive pitches, but instead adopt lessons from Warren Buffett's investment manual. Do not be swayed by market behaviour and concentrate on evaluating businesses. Whether you are investing in large or small companies, look for firms with favourable long-term prospects, take a long-term view and be prepared to hold. Even if buying a few shares, act as if you are buying the whole company, operate within your circle of competence by investing in companies you understand, look closely at the quality of management and do not overpay.

I manage funds in a venture capital trust and in Enterprise Investment Scheme funds and so invest in smaller companies, but I believe Warren Buffett's approach is as relevant as if I were investing in companies with larger capitalisations. In January 2005, I picked two companies in this column, Egdon Resources and Cellcast. Egdon operates in the politically stable environment of the UK, has proven oil and gas reserves, and is developing underground gas storage facilities something which seems very prescient in the light of Russia's apparent use of its gas supplies for political purposes. Cellcast provides interactive television programming which is broadcast in the UK, South America and Asia. Both are well managed companies, have understandable businesses and operate in sectors with good long-term growth prospects.

I would add two more smaller companies. Playgolf (PLG), which is an experienced operator of driving ranges and is developing urban golf centres in London and Glasgow that appeal to a younger market, and Daniel Stewart (DAN), a stockbroker focused on bringing smaller companies to Aim. Daniel Stewart has strong demand for its services from firms wanting to join Aim and can, therefore, be selective in the clients it chooses. Playgolf has the added attraction of strong asset underpinning. Again, both these firms are well managed, operate understandable business models and are reasonably priced.