"By year-end, investors of all stripes were bloodied and confused, much as if they were small birds that had strayed into a badminton game." -- Warren Buffett.
Warren Buffett released his 2008 letter to Berkshire Hathaway (NYSE:BRK-A) (NYSE:BRK-B) shareholders in February of 2009. By this point, Fannie Mae and Freddie Mac were under government control, Lehman Brothers had filed for bankruptcy, and by any and all stretches of the imagination, the U.S. economy was in recession.
It was in that letter to shareholders, however, that we got some of the best insights into what led to the financial collapse, as well as five great investing tips for avoiding huge long-term losses.
1. "Produce earnings that are not correlated to those of the general economy."
Most businesses tend to do better when the economy is healthy. Some businesses, however, aren't as heavily affected by the swings in the economy. These tend to be companies that sell or produce necessities. For Berkshire, two of the company's most important businesses -- its insurance and utility groups -- fall into this category.
Float is a not-so-fancy term for the premiums insurance companies collect and hold onto until a claim is paid. This is critical for Berkshire because it's what Buffett uses to make his stock investments. From 2007 to 2008, and then again from 2008 to 2009, two of the three major insurance companies owned by Berkshire increased their float.
For investors, looking back at which companies were able to stay profitable through the recession could provide strong potential choices to help protect your portfolio against future risk.
2. "Maintaining Berkshire's Gibraltar-like financial position."
Buffett said that in good times and in bad, Charlie Munger and his chief priority is to maintain Berkshire's financial position. Buffett ensures this by focusing on the following: 1) maintaining excess liquidity, 2) strengthening competitive advantage, and 3) having diverse revenue streams. Today's investors would be wise to follow a similar formula.
This can be done first by holding some money on the sidelines. While stuffing cash under your mattress may not seem like sound investing advice, having excess liquidity does allow greater maneuverability to seize opportunities as they arise.
Buffett also focuses on strengthening Berkshire's competitive advantage. Investors don't necessarily have a "moat" to widen, though it's always good practice to focus on investing in businesses that have a strong competitive advantage.
Buffett may not believe in over-diversification of his stock portfolio, but he does own a wide variety of companies in several different industries. This isn't, however, diversification for the sake of diversification. Buffett looks for great businesses at good prices, and it wouldn't hurt to find great businesses that span the entire stock market.
3. "When investing, pessimism is your friend, euphoria the enemy."
Buffett has said this same line in a hundred different ways a thousand times -- and it's probably been quoted a million times.
Let me be clear, though, it's very easy to write, "When the market is down, you should be a buyer." It's very hard, however, to be in the middle of a global financial meltdown and stick to your guns.
Buffett did that, and four years later, he made a killing earning $12.7 billion in 2013.
4. "Our advice: Beware of geeks bearing formulas."
Buffett went on to explain, "The stupefying losses in mortgage-related securities came in large part because of flawed, history-based models used by salesman, rating agencies and investors."
If the financial crisis taught us nothing else, let it be that you cannot base models about the stock market on the history of the stock market. The only thing predictable about the stock market is that it will be unpredictable.
5. "Beware the investment activity that produces applause; the great moves are usually greeted by yawns."
Think about the most boring thing you did all month.
While I can't say for sure, I would bet for a number of you it included: paying your mortgage (Wells Fargo), picking up some soda (Coca-Cola) and essentials (Proctor & Gamble) at the store (Wal-Mart), and paying for it with your credit card (America Express).
These are five of the top six holdings in Berkshire Hathaway's portfolio. The key to great investing -- or, the key for much of Buffett's success -- is finding great businesses and letting time take care of the rest.
More of Warren Buffett's greatest wisdom
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Dave Koppenheffer has no position in any stocks mentioned. The Motley Fool recommends American Express, Berkshire Hathaway, Coca-Cola, Procter & Gamble, and Wells Fargo. The Motley Fool owns shares of Berkshire Hathaway, Coca-Cola, and Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.