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Investing Wisdom From Warren Buffett's Amazing 19-Page Memo

In the summary of a 19-page memo Warren Buffett sent to the Washington Post's (NYSE: GHC  ) Katharine Graham in 1975, he wrote:

A mildly non-conventional investment approach, emphasizing a business approach to security selection, gives some opportunity for long-term results slightly above average without corresponding increase in investment risk.

According to Fortune, this simple advice may have saved Washington Post's pension plan. It also remains the most sensible investment strategy around for ordinary investors, in my opinion.

Buffett has recently shared the original 19-page memo with Fortune. You can read the amazing document in its entirety here. The memo laid out some of the overall challenges facing Washington Post's pension plan in considerable depth. The discussion of investment management is simply outstanding, and it is one of the clearest expressions of Buffett's philosophy I've ever read.

Where everyone is actually below average
Buffett begins his section on investment management by confessing he's skeptical that professional money managers would be able to deliver outperformance for a pension fund. This, of course, makes complete sense if you look at conventional money management in the aggregate.

According to Buffett, professionally managed money makes up too much of the investing universe to be able to perform above average as a group. It's analogous, he says, to someone sitting down at the poker table and announcing, "Well, fellows, if we all play carefully tonight, we all should be able to win a little." All in all, Buffett declares that he's "virtually certain" that professional money management cannot deliver above-average performance. Indeed, it will deliver below-average performance because of fees.

So now what do we do, Warren?
If professional money management cannot deliver outperformance, then how should a pension fund manage its money? Buffett attempts to answer that question in the main body of the memo by suggesting and analyzing five options.

The first option would be for the pension fund to just go with conventional money managers with the "expectation that performance will be slightly poorer than average because of costs involved." The second option might be to create a portfolio that merely aims to recreate the market. The third option, which would be very difficult to implement, would be to identify superior, yet unknown, money managers whose record has been good for the right reasons. The fourth option would be to invest everything in fixed income.

Attitude is everything
Buffett tees up the fifth and final option by admitting that it's "the one to which I lean," even though it's somewhat unconventional. The key to this option is that it "involves treating portfolio management decisions much like business acquisition decisions by corporate managers."

Nowadays, many of us who are well-versed in Buffett's investing philosophy know all about option five. This strategy recommends buying shares of solid public companies at a reasonable valuation, then holding them for the long term. Investing decisions are governed by the fundamentals of the business, not by one's market outlook. That might sound overly simple until you think about all the media coverage -- day-in and day-out -- devoted to the ebbs and flows of the overall stock market. As Thelonious Monk once said, "simple ain't easy."

My favorite part of the entire memo is Buffett's comparison of his business-focused investing approach with conventional money management. He notes the biggest difference is one of attitude. With Buffett's approach, "the business becomes the standard against which the measurements are made rather than quarterly stock prices." Most importantly, I think, is that Buffett's approach "demands an excess of value over price paid, not merely a favorable short-term earnings or stock market outlook." The state of the overall stock market shouldn't be a primary factor in the purchase decision of an individual stock, according to Buffett. Rather, one needs to think like a potential owner of a business.

One final advantage of option five is that it could be handled by qualified analysts who understood Buffett's "rather unique selection criteria." And everything could be handled on a "quite infrequent basis."

What this means for you
While Warren Buffett was writing privately to Katharine Graham as a friend and board member of Washington Post, his advice is equally valuable and relevant to you.

If you are interested in obtaining above-average returns without taking on additional risk and paying exorbitant fees, then it might make sense to think about purchasing stocks in the same way you might purchase a business. This strategy will require a bit of work on your part, and will demand that you remain focused on the fundamentals even when the market acts irrationally.

But Buffett believes such an approach will deliver a good return, as long as your assessments of the underlying businesses are "reasonably correct."

This approach apparently worked quite well for Washington Post, which was able to deliver a healthy pension plan to's (NASDAQ: AMZN  ) Jeff Bezos, who recently purchased The Washington Post. And this strategy performed extremely well over the years for Warren Buffett, and for shareholders of Berkshire Hathaway (NYSE: BRK-A  ) (NYSE: BRK-B  ) , too.

Read/Post Comments (10) | Recommend This Article (41)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 25, 2013, at 11:47 AM, MFMotleyStool wrote:

    Leave it to these pumpers to sing off the same song sheet and somehow mention Amazon and Warren Buffett in the same article. OK. The author did not imply anything about Buffett buying AMZN shares but it's fairly universal with MF writers pumping amazon at all costs, although I did see one of their authors tell the truth about their awful metrics several times recently. He better be careful or one of the top FOOLs may fire him.

  • Report this Comment On August 25, 2013, at 6:44 PM, sciencedave wrote:

    > Motleystool>. If you think they pump the stocks why are you reading these articles? This is a place for valued commentary....not axes to grind.

  • Report this Comment On August 27, 2013, at 6:48 PM, wgreystone wrote:

    If you believe the long term stock trend is up (and the average return is greater than interest rate), then the simple way to beat market average is to use leverage. That's what warren buffet did.

  • Report this Comment On August 27, 2013, at 6:50 PM, cmalek wrote:

    "This is a place for valued commentary....not axes to grind."

    The MF commentary is as valuable as any other stock analyst's.

    Maybe not "axes to grind" but push certain stocks that they fell in love with.

  • Report this Comment On August 28, 2013, at 12:17 AM, lowmaple wrote:

    Of course they are going to recomend stocks that they believe will increase thru thick or thin trading days. After all that's what we pay for. All stocks go down as well as up sometimes. Buffett abviously got a great deal on GS and BAC but if we had bought even those seemingly risky unguaranteed stocks we would still been ahead now.

  • Report this Comment On August 29, 2013, at 7:45 PM, daveandrae wrote:

    As a business owner, I get it.

    The fact that most people, which include professional mangers, don't "get it" is a HUGE advantage to those of us that know what we're doing.

    I wrote this in my investment journal almost five years ago on November 25th, 2008.

    "As I type, stocks are trading at the most attractive prices that I will probably ever see in my lifetime. The 5 year p/e ratio of Harley Davidson is now below 4. I find this price astonishing for this business has earned, on average, a 29% return on shareholder capital over the last 10 years, an 18% annualized growth rate in per share earnings, and right now this particular business is being given away, with no takers. Of all the businesses I own, I know the most about this one, and it is, by far, the cheapest of the entire group. "

    Total return since 11/25/2008-

    S&P 500-


    Harley Davidson-


    Nuff said

  • Report this Comment On August 29, 2013, at 10:34 PM, SkepikI wrote:

    ^ likely one of the most lucid and instructive bits of commentary I've read. Makes me wish I kept a journal.. if only for a few seconds. Actually more succinct and valuable than the article. Thanks daveandrae

  • Report this Comment On August 30, 2013, at 5:36 AM, wax wrote:

    It has been mentioned in this thread that this is a place for valued commentary, and I agree that is the case.

    But read through the articles, and almost all of them contain value commentary that is about what somebody else said or did.

    Where is the author's value commentary?

    An earlier comment is spot on by the way, almost every index page article is intended to move the reader to the newsletter pages in hopes they will subscribe. They have little to nothing to do with value.


  • Report this Comment On August 30, 2013, at 7:03 AM, Corridorlights wrote:


  • Report this Comment On January 01, 2015, at 5:43 PM, WickedWillie wrote:

    An investment with bells on always makes an investor's pockets jingle.

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