Buffett Is So Wrong

There are legitimate reasons that even savvy investors lose big money in the stock market. Unless you're inclined to make periodic moves into and out of equities, after all -- almost always a sucker's bet -- you'll have to ride the roller coaster of short-term performance gyrations. And as the last couple of years have made painfully clear, even folks who have done their investing homework can get crushed when Mr. Market lurches into baby-with-the-bathwater mode.

Case in point: Warren Buffett. We at the Fool often cite the Oracle of Omaha, because his investment philosophy dovetails with our own: Be a buyer of businesses, not a short-term speculator. When it comes to holding periods, your favorite time frame should be forever.

And then there are Buffett's two cardinal rules: 1) Don't lose money; and 2) Don't forget rule No. 1.

And yet ...
Over the past year, Buffett's Berkshire Hathaway (NYSE: BRK-B  ) holding company has gotten crushed by some 30%. Several of Berkshire's stock holdings have fared badly: Both American Express (NYSE: AXP  ) and CarMax (NYSE: KMX  ) have dropped significantly, while his big bet on ConocoPhillips (NYSE: COP  ) has tumbled by some $2.7 billion!

Buffett now regards his enormous investment in Conoco as a "major mistake of commission," criticizing in particular "the terrible timing of my purchase [that] cost Berkshire several billion dollars."

Ouch. Even Oracles can misfire, particularly when it comes to the question of "timing" an investment in a company so tightly tethered to the global economy's inevitable ebb and flow. Those kinds of concerns especially require patience -- not near-term hand-wringing.

Buffett knows that, and he has plenty of patience, of course. We Fools, however, can profit from the error embedded in his assessment (not his investment), out-Buffetting the Oracle himself by: 1) Buying shares of extremely wide-moat companies trading at discounts to their long-term prospects; and 2) leaving near-term "analysis" to the squawking heads on CNBC.

Beat COP
What does the example of ConocoPhillips tell us about Buffett the investor, and how can we apply that to our own portfolios? Good questions both, and as the Oracle reiterates every year in his letter to shareholders, he and sidekick Charlie Munger are on the lookout for improving earnings and widening moats, among other assets.

The moat part of COP's story is easily grokked. Barriers to entry in its industry are enormous, and only the biggest of boys need apply, as the company's very short list of meaningful rivals attests. On the earnings front, though, the story gets trickier. Yes, COP has grown earnings over the last five years by an annualized rate of 16%. But amid the global economic downturn, analysts expect that torrid pace to reverse: The consensus forecast calls for the energy behemoth to see its earnings shrink by 66% this year.

Even though Buffett's timing was so wrong, he's holding onto the majority of his shares, since he presumably likes the company's current valuation: "I still believe the odds are good that oil sells far higher in the future than the current $40-$50 price."

Other value investors might want to take a closer look, too. Despite the expected earnings decline, the company trades for just 8.6 times estimated earnings -- less than competitors such as Chevron (NYSE: CVX  ) , BP (NYSE: BP  ) , and ExxonMobil (NYSE: XOM  ) .

Opportunity knocks
This mayhem, in fact, has presented an opportunity that should cause dyed-in-the-wool value hounds to lick their chops and to review their holdings, with an eye toward dialing up positions in those fundamentally sound holdings that, for reasons unrelated to fundamentals, currently sport bargain-bin price tags.

In addition to gauging your holdings for their, um, moat-a-bility and earnings-growth potential, though, be sure to zero in on the quality of the management team as well. Buffett can no doubt pick up the phone and chat with Ken Chenault of American Express or Tom Folliard of CarMax whenever he'd like, but we mere mortals can use proxies such as return-on-equity (ROE) and return-on-assets (ROA). These key profitability metrics go a long way toward helping investors assess management's talent for wringing profit from their companies' capital. Then, too -- and for smaller companies especially -- the level of inside ownership can be a key indicator of just how invested managers are in the company they run. Literally.

The Foolish bottom line
It's been a difficult year for most investors, The Oracle included. But Buffett's been in situations like this before, and he knows that patient investors on the lookout for stocks with strong moats trading for bargain prices will be rewarded when the market recovers.

Our Inside Value team agrees with Buffett, and it sees a number of companies with strong moats trading for bargain prices these days. For instance, one current recommendation has consistently posted double-digit, industry-surpassing ROE and ROA figures, and insiders hold nearly 30% of its shares. But despite a growing demand for its products and a rich earnings-growth history, the company trades well below industry-average multiples. I'm a big fan of this firm; indeed, I own shares. And the company looks like a stone-cold bargain just now.

My hunch is that even Buffett would agree, which would, of course, make him exactly right. Or so says me. Click here for a free 30-day guest pass and see for yourself. There's absolutely no obligation to stick around if you find it's not for you.

Shannon Zimmerman runs point on the Fool's Ready Made Millionaire investment service. Berkshire Hathaway and American Express are both Inside Value selections and Motley Fool holdings. Berkshire is also a Stock Advisor pick. You can check out the Fool's strict disclosure policy right here.

Read/Post Comments (9) | Recommend This Article (58)

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 March 27, 2009, at 6:08 PM, jmt587 wrote:

    Did I just read grokked? Nice.

  • Report this Comment On March 27, 2009, at 7:27 PM, baltbear wrote:

    the headline is an amusing way to introduce readers to the idea that buffet is correct: f/a requires records of ongoing profitability.

    the article is correct that anybody can miss on timing.

    if oil demand returns to close to 86 mm bpd, oil revenues will again skyrocket.

    conoco has made the largest investment of any part of big oil in profiting from oil alternatives, and is therefore the soundest truly long term buy/hold bet.

    the prudent speculator looks at the story, checks management's ability to walk the talk, and then makes the bet.

    the author of this article misses a central point:

    people like buffet have a "princely duty" to come into the market before the bottom, as part of creating the bottom for the fools, and buffet in the last 6 months has lived up to it.

  • Report this Comment On March 27, 2009, at 8:14 PM, CashGiftsDirect wrote:

    Patients is definitely key for any investor in these times. I am all to familiar with the moats example where big investors go for under valued stock in in hopes that it will turn into gold when the market gets better.

    I would like to end by saying, that you are very brave for going against what Warren said.

  • Report this Comment On March 27, 2009, at 10:10 PM, Jaycee5351 wrote:

    Let's see if I understand. I belong to three MF services, RYR, Champion Funds and the one run

    by Shanon RMM. Now if I want this hot stock,

    "a stone-cold bargain" I can sign up for Inside

    Value for another fee. What a deal.

  • Report this Comment On March 27, 2009, at 11:42 PM, 00djohnson wrote:

    I think you've got it exactly right,Jaycee5351, and how I do agree, you hit the nail on the head! Just a couple of weeks ago my son said to me, Dad," I use to be so impressed with the Motley Fools, but not so any more, everything I read is send us more , send us more$$. I myself have been a fan of the fools,for years and held them in high regards, but more and more I have to wonder, are they interested in helping small time investors like me who signed up for their fools monthly news letter, in hopes of receiving some much needed investing advise or was that just to get you in the door of offer after offer of something new, bigger and better. I'm sure you, like me, recieve countless lenghty and endless emails day after day, all leading to the request of yet another fee! Its no wonder one might sometimes begin to wonder just what the true intentions really are!! God know we don't have to wonder where their money to invest comes from!.

  • Report this Comment On March 28, 2009, at 7:01 AM, motleychang wrote:

    95% investors are wrong this time but how many will survive this crash? Sure Buffet will make it, me I am not sure.

  • Report this Comment On March 29, 2009, at 5:22 AM, wuff3t wrote:

    "Buffet doesn't make a move or any investment without his investments being fully investigated."

    That's priceless! Presumably you recommend that we should do no investigation before we invest?!

  • Report this Comment On April 03, 2009, at 7:25 PM, drborst wrote:

    Anyone read Buffett's Biography? He's been wrong many times before. (Berkshire Hathaway was textile manafacturer in the US when textile manafacturing was moving on to lower wage countries).

    He often gets things write by pushing management in the right direction or installing good managers. Sure, he timed COP badly, but if he holds (and lives) he'll find a way to make money.

    Maybe this time I can earn a better return than Buffett by timing things a bit better. Is he holding 'most' of it? Does that mean 'all' or is he selling slowly so no one notices?

  • Report this Comment On June 04, 2009, at 4:49 PM, peckmeier wrote:

    WELL Jaycee5351--there you go--letting the cat out of the bag--and--oodJohnson--you agree with him.

    What's worse--I agree ,also. Of course, the light bill and all the other things have to be paid out of the earnings!!! But, I confess, this has gone through my mind many times. There ought to be a better way so

    that those of us that are already in the saddle &

    straining on the leash would not have to undergo the punishment or temptation of an offer that is(?)

    better than the one last week that was better than thejone the week before that was......

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