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Berkshire Hathaway
Common Sense Rules

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By jammerh
February 13, 2004

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Investing takes discipline, patience, and knowledge, but it is also important to apply common sense. Following are eight of Buffett's Commonsense Rules Of Investing worthy of review:

1. Have a written or mental note of your investment plan and have the discipline to follow it.

If it's down on paper you'll find it easier to stick to the plan. Less chance you'll fudge on the discipline of your approach.

2. Be flexible enough to change or evolve your investment strategies when sound judgment and conditions warrant change.

Continually shifting is not appropriate. Patience is the key. Knowing when such flexibility is called for is a matter of good judgment.

3. Study sales and earnings of a company and how they are derived.

Knowing how your company makes money is a must. Estimate your purchase candidate's probable earnings and potential stock price for the next ten years as well as your potential return on the investment. Pay close attention to the firm's historical track record of owner earnings, return on shareholder's equity, and sales earnings.

Look for companies with a track record of stable sales and earnings growth, which helps somewhat in predicting its future. Buy outstanding companies producing products used repeatedly that maintain a high-perceived value by customers. Apply a 'margin of safety' and try to buy stocks selling at a discount to your own projection of the company's worth per share.

4. Focus on your purchase candidate. Understand the firm's products or services, the company's position in its industry, and how it compares with the competition.

Try to know as much as you can about not only the company at hand, but get all the scuttlebutt on each of its suppliers, competitors, and its customers. Having as much knowledge as possible about purchase candidates and using conservative assumptions helps create a reasonable possibility that projected earnings may be in the vicinity of actual future results.

5. Learn as much as possible about the people managing the business.

Knowing honesty and integrity when you see it involves good judgment of character. It's a skill like any other, and something you develop over time, via trial-and-error. Don't place big bets on people you don't know well enough to trust. Look at the record. How have they acted in the past?

6. When you find a great stock value, don't be swayed by predications for the stock market or the economy.

To do so is to acknowledge that others know your company better than you do. Remember, Mr. Market is a manic-depressive who shows up on your doorstep every day. You don't have to buy or sell to him.

7. Define what you don't know as well as what you do know and stick to what you do know.

Most of us possess some kind of specialization, or interest. It may give us greater insight into that particular field. By not only knowing not just what you know, but also the limits of what you know, you can avoid mistakes of overconfidence.

8. Sit on the sidelines in a cash position if you can't find investments of value based on your criteria. Many emotional investors make the mistake of buying at very high prices relative to value.

Often the best thing to do is nothing at all. Few stocks are a bargain at any price. Don't chase 'em. Wait for the 'fat pitch'. Patience is the key.


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