There have been more significant figures in the history of global finance, but in today’s economy no-one is more influential than the 82-year-old Warren Buffett. The Oracle of Omaha, who once famously said “you only find out who is swimming naked when the tide goes out,” has earned the admiration of millions for his common-sense approach to investing.
Among his admirers is Larry Swedroe, no minor figure in today’s financial world himself. He and I spoke last week about Buffett, the subject of Swedroe’s 13th book. “He’s got a great folksy way about him,” he told me. “He doesn’t talk above people’s heads … He makes investing sound simple and easy. And like I explain in the book, if you follow Buffett’s advice, that’s the surest way to outperform the vast majority of investors.”
Think, Act, and Invest Like Warren Buffett: The Winning Strategy to Help You Achieve Your Financial and Life Goals is a quick, plain-language read. Swedroe’s done much more than simply write a fan letter to the world’s most successful investor. He’s put together a succinct, no-nonsense summary of what he believes it takes to make your financial plan a reality. Swedroe’s worth listening to. He is principal and the director of research for The BAM ALLIANCE, a group of independent U.S. wealth management firms. He blogs for CBS Money Watch and speaks regularly.
Three highlights from the book:
1. There are no secrets on CNBC
As soon as you hear something reported on a business news channel, it is priced into the market. That is to say investors – many of whom knew the information before it was broadcast — have already taken it into consideration and bought and sold the securities affected accordingly. Their current price reflects the news. “If you heard it on CNBC, or read it in Money magazine, it’s obviously not a national secret,” Swedroe told me. “The market is aware of it, the smart people at Goldman Sachs, Morgan Stanley and the hedge funds are also aware of it. Therefore that information is already in prices. The news may be bad, but that’s why prices are where they are now. And if they’re right, and things are bad, people perceive a lot of risk. Therefore expected returns should be high as long as the news doesn’t get worse than already expected. So instead of thinking ‘I have to sell because prices are low,’ Warren Buffet says ‘I like to buy when everyone else is panic-selling because while I can’t predict the future, I know that unless things get worse than already expected, I’m going to get high returns because prices are low.’”
2. Stage-two thinking is powerful
The difference between stage-one thinking and stage-two thinking is that the former concentrates on the immediate impact of news, while the latter focuses on the two or three steps that are likely to follow. Everyone knows that a recession will lower the share values of a whole range of companies in that economy. That’s stage-one thinking. Investing on that insight is virtually guaranteed to result in a poor return because everyone has the same information you do. Successful investors hear word of a recession, and begin to project out a few months (or longer). “When things are bad, governments and central banks don’t sit there and do nothing,” said Swedroe. “Stage-two thinking says OK, the news is bad, therefore it’s likely the government will take action. It might be a stimulus program, a TARP program, a tax cut program. The Federal Reserve is not going to sit there and do nothing, they’re likely to cut interest rates and if that doesn’t work they’ll engage in quantitative easing … It’s this ability to see through the fog and to anticipate that actions will be taken. That’s why the stock market is actually used as a leading economic indicator. Smart investors anticipate these actions will take place, they know that the actions will take time — maybe three, six, nine months — to happen and have their positive effect on the economy. But they’re going to buy ahead of it because they don’t want to wait. If they wait the six to nine months, other smart investors will beat them to the punch and drive prices up.”
3. Swedroe’s rules of prudent investing
The book includes 30, and they’re all worth reading. Here’s his top three: “The number one thing would be to never take more risk than you have the ability, willingness or need to take. Plans will fail because you get stressed out,” he told me. “And then your stomach will take over. I don’t care how well the plan is thought-out; it will blow up at that point. A second one would be to never invest in any asset or security unless you can explain the risks of that investment to your children. If you don’t understand it well enough to do that, you should probably run away. And that means staying away from complex investments. If I had to pick a third one it would be to make sure that you don’t treat what you may think of as the highly improbable as impossible or what you think is highly likely as a certainty. Bear markets like 2008 can and do happen. We could get a Great Depression. There could be a war in the Middle East. Your plan should incorporate the potential for what I call alternative universes that might show up and you need to be prepared to deal with those consequences.”
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