Today, Warren Buffett is by and large considered the greatest investor in the world. Some would say he's the greatest of all time. You don't have to look much past his $72.9 billion net worth to understand the praise.
Why, then, would Buffett say that ordinary individual investors have an edge on him and on the market? He said exactly that, and he explained why. The reason is pretty simple, and it's illustrated by Buffett's own performance through the years.
Then and now
Considering Buffett's celebrity status today, it's easy to overlook a critical and largely forgotten fact: Buffett made his best-performing investments over 60 years ago. Back in those days, the Oracle of Omaha was managing his first investment partnership and producing 50%-plus annual returns. That's incredible!
Berkshire Hathaway became huge, that's what.
The problem with investing tens of billions
Buffett now has to invest tens of billions every year, and that massive size limits his investment universe.
In a 2005 talk at the University of Kansas, Buffett told attendees that he could "make you 50% a year on $1 million" of capital. "I guarantee that," he confidently told the crowd. But he can no longer take advantage of small-cap opportunities or special situations. Those investments are simply too small for a behemoth like Berkshire. Buffett would have to invest in hundreds or even thousands of different companies to fully deploy Berkshire's cash. The only feasible way to attack this size "problem" is to cut big checks for investments in big companies.
Burlington Northern Sante Fe, for example, was valued at $34 billion in 2009, when Berkshire purchased the 75% of the railroad it did not yet own. That kind of purchase won't return 50% per year, but it's an effective way to deploy a massive chunk of cash in one fell swoop.
You and I, however, don't have billions of dollars to put to work. We have our hard-earned, if modest, retirement savings or brokerage accounts. We can invest like Buffett did in the 1950s.
Investing like a younger Warren Buffett
So how do you invest like the 1950s version of Warren Buffett? In that same University of Kansas talk, he tells us exactly how to do it:
You have to turn over a lot of rocks to find those little anomalies. You have to find the companies that are off the map -- way off the map. You may find local companies that have nothing wrong with them at all. A company that I found, Western Insurance Securities, was trading for $3/share when it was earning $20/share! I tried to buy up as much of it as possible. No one will tell you about these businesses. You have to find them.
In other words, he'd go back to Benjamin Graham 101. He'd look for stocks with particularly low price-to-earnings ratios. He'd seek out companies that have market caps at significant discounts to book value or even to current assets. He'd look for stocks with big margins of safety.
He'd also take advantage of online tools and investing communities like those available at The Motley Fool in order to find those companies. He'd read company filings and financial statements online, taking the time to read the fine print just as carefully as the headlines. Buffett even said, "It would perhaps even be easier to make that much money in today's environment because information is easier to access."
Buffett would adapt to this new environment without abandoning his core investment philosophies. He'd only invest if he understood the business. He'd do his homework and read the annual reports, listen to the conference calls, make an assessment of the management team -- and read that fine print again.
All of these things can be done by everyday investors like you and me. Our advantage is that we can look under the rocks and into the tiny corners of the market that the big players ignore.
The greatest investor in the world thinks you can do it -- and I believe him.