Buffett's Bear-Market Lessons

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As of this morning, the S&P 500 is down more than 40% year to date. Investors are stressed out, wondering what the market's misery means. More than a few are debating whether to give up on stocks altogether.

Hang in there, Fools! In the long  run, stocks still tend to offer the best returns -- better than bonds, CDs, and even real estate. They may involve risk, but while lottery tickets offer a near-guarantee that you'll lose your money, stocks in general merely offer volatility. Over months and years, stocks may swing up and down, but over decades, their trend has always been upward. In other words, even though this year's drop has been ginormous, it's likely to pass.

As long as you don't need to sell now, hanging on to your stocks -- or buying new shares at today's crash-rattled prices -- will probably serve you well in the long run. Keep any money you'll need over the next five or even 10 years out of stocks. But for the rest of your investment capital, it's hard to find a more promising place than the stock market.

Listen to the Oracle
Don't just take my word for it. Even back in 2002, when the market capped two prior years of losses with a 22% plunge, top investor Warren Buffett was giving  Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B) shareholders the same advice.

In his letter to shareholders that year, Buffett spent little time wringing his hands over the state of the market. Instead, he addressed some of the problems that led to Wall Street's latest stumble, including derivatives, CEO performance, audit committees, and the independence of boards of directors.

Buffett explained that he looks for businesses with solid competitive advantages, run by trustworthy and skilled people: "If we buy into these companies at sensible prices, losses should be rare." Competitive strengths can be surprisingly easy to find, once you start looking:

Company	Competitive strength
Wal-Mart (NYSE: WMT)	Its size lets it command low prices from suppliers, and pass the savings on to customers.
United Parcel Service (NYSE: UPS)	Newcomers can't easily duplicate its broad, established delivery network.
Microsoft (Nasdaq: MSFT)	Its operating system is already on gobs of PCs, and relatively few people want to go through the bother of switching to an alternative.
Intuit (Nasdaq: INTU)	Once users input their tax information into TurboTax, they're loath to switch to a competitor.
eBay (Nasdaq: EBAY)	For those who want to tap a huge marketplace of buyers and sellers, there aren't many other options.

He also noted that though he was happy with his stock holdings, he wasn't too interested in adding to them, because they still didn't seem like bargains at then-current prices. Even after a big drop, some stocks can still be overvalued. Fools should always buy only when the price is compelling.

During his more than six decades of investing, Buffet said, he'd seen attractive prices in about 50 of those years, suggesting that there are usually bargains around. In some relatively rare environments, however, they can be hard to find. "Occasionally," he quipped, "successful investing requires inactivity."

Finally, he offered three suggestions for investors:

• We should be cautious when a company sports "weak accounting" -- for example, not expensing options, or using overly optimistic assumptions for its pension-fund investing.

• We should beware of unintelligible footnotes in financial statements, since they can "indicate untrustworthy management." He cited Enron as one example of suspicious corporate gobbledygook.

• Lastly, Buffett advised investors to "be suspicious of companies that trumpet earnings projections and growth expectations." Companies often encounter surprises, and earnings rarely grow smoothly and predictably.

You can find much more wisdom in Buffett's many letters to shareholders. These articles on the Oracle may also offer investing inspiration:

• Warren Buffett's Priceless Investment Advice
• Learn From Buffett's Patience
• A Simple Lesson From Buffett