Could someone today do what Warren Buffett did and parlay a $105,000 investment into more than $50 billion?
In considering the things Buffett did to become the world’s wealthiest man, the answer is yes. But comprehending the things he did takes a measure of study. Not to mention the commitment needed to execute it.
Much has changed since Buffett began his career in the 1950s. But the American economic system is largely run by the same rules and principles.
Early Money Making Secrets
Buffett discovered two of his lifelong money making secrets early in life: reinvesting profits and being willing to be different, according to warrenbuffett.com. These are principles that would certainly be useful today.
In high school, Buffett and a friend purchased a pinball machine and put it in a barbershop. They used the proceeds to buy more machines until they had eight in different shops. When they sold the venture, they used the proceeds to buy stocks and start another business.
In 1956, Buffett began managing money with $100,000 he received from a handful of investors while working in Omaha, Nebraska. When he ended the partnership 14 years later, it was worth more than $100 million from investing in undervalued companies.
He is often characterized as advocating a “buy and hold” strategy, but further examination indicates this is an oversimplification of his strategy.
Buffett’s Investment Strategy
There are several aspects to Buffett’s approach to investing. The most basic aspects have to do with his assessment of stock value, known as value investing. Early in his career, he said he is 85% Benjamin Graham, known as the godfather of value investing.
Value investing determines the underlying fair value of a stock based on it is future earnings ability, according to Investopedia.
To guide his decisions, Buffett considers the business, the management, financial measures and value. While these considerations seem easy to understand, they can be hard to execute.
A key Buffett tenet is to ask if management is candid with shareholders. This is not an easy question for many companies to answer.
There are also concepts Buffett follows that seem complex but are actually easy to execute, like economic value added (EVA). The concept is not easy to grasp, but in fact it is a laundry list of adjustments. It is an easy way to calculate EVA for a company.
Buffett’s ideas are also open to adaptation. Traders often require adherence to a formula to control emotions, but investors can adapt their models to current environments.
Another Buffett tenet is to restrict his activity to his area of competence – businesses he understands. Robert Hagstrom, the author of “The Essential Buffett: Timeless Principles for the New Economy,” wrote investment success is not a matter of how much one knows, but how realistically one defines what they don’t know.
Buffett regards a deep understanding of the operating business as a prerequisite for forecasting future business performance. He first analyzes the business, not the market, the economy or the investor sentiment. Then he looks for a consistent operating history. Lastly, he uses the data to determine whether the business has good long-term prospects.
Focus On Management
Another Buffett tenet is to evaluate management quality. This is one of the most difficult tasks for an investor. Buffett focuses on the degree to which the management is rational. He considers management’s approach to reinvesting, retaining earnings or returning profits to shareholders as dividends.
Research indicates that historically, management tends to be greedy and retains too much profit. It is naturally inclined to seek scale rather than utilize cash flow to maximize shareholder value.
Another tenet considers management’s honesty with shareholders. Does it admit mistakes? Does management resist the “institutional imperative”?
Buffett seeks out management that resists a “lust for activity” and the duplication of competitor strategies.
Buffett focuses on return on equity (ROE) as opposed to earnings per share. ROE can be distorted by leverage (a debt-to-equity ratio) and therefore be less reliable than the return-on-capital metric. Buffett recognizes this, but he examines leverage separately, preferring low-leverage companies. He also looks for high profit margins.
Buffett also looks at what he calls “owner’s earnings” – the cash flow available to shareholders. He defines it as net income plus depreciation and amortization minus capital expenditures (CAPX) minus additional working capital needs.
With owner’s earnings, Buffett pays attention to a company’s ability to create cash for shareholders.
He also has a “one-dollar premise;” the market value of a dollar assigned to each dollar of retained earnings. This metric resembles market value added, the ratio of market value to invested capital.
Focus On Value
Buffett tries to estimate a company’s intrinsic value. He projects the future owner’s earnings, then discounts them back to the present. The projection of future earnings is easier to do if Buffett’s other tenets have been followed since consistent historical earnings are easier to forecast.
Buffett also coined the term “moat,” the “something that gives a company a clear advantage over others and protects it against incursions from the competition.”
The Bottom Line
Buffett’s tenets create a foundation in value investing that is open to adaptation. It is an open question which tenets require modification in consideration of a future where consistent operating histories are more difficult to determine, where intangibles play a bigger role in franchise value, and the blurring of industries’ boundaries makes business analysis harder.
Focus On Staples
Many Buffett observers have noticed he has made a lot of money over decades buying stocks in goods used every day, according to CNBC. He is known for being reluctant to invest in technology — an area that may not fall within his comfort zone.
Many consumer goods companies have beat broader market averages in recent years, such as Coca Cola and Wal-Mart.
Buffett’s Ownership Role
Kiara Ashanti, a financial adviser and securities trader writing in Money Crashers, noted that Buffett has taken an ownership role in many of his investments. He buys enough stock to gain seats on companies’ boards. As a board member, it is possible to influence a company’s direction and its management decisions.
The key point is that to gain wealth, ownership is imperative.
Ashanti observed that Buffett is often mischaracterized as following the “buy and hold” model, holding a stock through good times and bad. Buffett buys for specific reasons. When such reasons end, he sells.
Ashanti agreed Buffett looks for good prices, good management and a competitive advantage. In 1996, he cited General Motors, IBM and Sears as great companies that could not stay competitive in their markets.
Buffett does not pay attention to daily stock prices or what the press has to say about companies. He sticks to his tenets, asking if the company is properly valued and if it is making money.
While there is more to Buffet’s strategy than “buy and hold,” it bears noting that he has gone on record as saying successful investing takes time, discipline and patience.
According to the website, warrenbuffett.com, Buffett offered the following 10 money making secrets.
1) Reinvest your profits.
2) Be willing to be different. Don’t base decisions on what others say or do. The average is what everyone else does. To be above average, judge yourself by your own standards.
3) Never suck your thumb. Make decisions fast. Gather any information in advance to make a decision, but make sure you stick to a deadline.
4) Spell out the deal before you begin. Bargain leverage is greatest before the job begins.
5) Watch small expenses. Buffett looks for businesses with managers who obsess over the smallest costs.
6) Limit your borrowing.
7) Be persistent. Tenacity and ingenuity will enable you to win against a better established competitor.
8) Know when to quit. Know when to walk away from a loss and don’t let anxiety cause you to keep trying.
9) Assess the risk. Asking “and then what?” will help you see the possible outcomes when struggling with a decision.
10) Know what success really means. Buffett does not measure success in dollars. At his present age, he said a person measures success by how many people you want to have love you actually do.
Images from Flickr.
Fidelity Investments is Mining Cryptocurrency
Fidelity Investments is a multi-billion dollar brokerage that just so happens to be mining cryptocurrency. In fact, it has been at it for three years, using its own computers to harvest bitcoin and Ethereum.
CEO Abby Johnson recently told Fortune that its U.S.-based mining operation is “making a lot of money.” This comes despite running a relatively modest operation.
Hadley Stern, Senior VP of Fidelity Labs, described his company’s venture as an “experiment.”
The real reason we began mining, and still do, is to learn how the network works, how consensus works, how difficulty levels work,” he said in reference to the mining process.
The key to profitability has been the dramatic rise in cryptocurrency over the past year. Bitcoin and Ethereum are the world’s No. 1 and 2 cryptocurrencies by market capitalization, and no-one else comes close.
Well Ahead of the Pack
The fact that Fidelity has been at this for three years speaks volumes about the company. Other, much bigger players are still dipping their toes in the market, but are unsure about how to proceed. Goldman Sachs is reportedly on the fence about starting a cryptocurrency trading operation, while J.P. Morgan has already begun handling customer orders for bitcoin-based instruments.
Fidelity is doing a lot more than just mining tokens. Earlier this year, it reached an agreement with Coinbase to let customers view cryptocurrency prices alongside other assets on their Fidelity homepage.
Coinbase is the world’s most funded cryptocurrency exchange with more than 7.4 million users.
The cryptocurrency market ended the week on a firm note, with bitcoin (BTC/USD) reaching a session high of $4,425.00. At press time, the index was up 1.6% at $4,368.
Ether is also trading higher against the dollar, with the ETH/USD rallying more than 3% to $305.
Ripple (XRP) lost momentum on Friday, but still managed a weekly gain of 21%.
Chinese Government Eyeing Fresh Bitcoin Legislation?
The Chinese government could roll out fresh cryptocurrency regulation in the coming months permitting licensed brokers to operate, based on recent information from Xinhua.
The state-owned news publication recently revealed that the government is mostly concerned with stamping out illegal activity involving bitcoin and other cryptos. Government authorities could be planning to regulate the market by creating a licensing program with strict Know Your Customer (KYC) and Anti-Money Laundering (AML) systems.
The Case for AML
The need for KYC/AML protocols has long been raised by cryptocurrency proponents, especially in reference to initial coin offerings (ICOs). In response, the blockchain community has come together to create the Simple Agreement for Future Tokens (SAFT). The SAFT is both an instrument and open-source framework for token sales that vets accredited investors.
SAFT activity is quickly gaining traction, with the likes of Gizer recently issuing a presale of its ICO through SAFTLaunch.
SAFT was officially created by Protocol Labs in close collaboration with AngelList and Cooley.
China’s Stance Looms Large for Cryptocurrency Market
Although digital assets have recovered from the China-induced flash crash of September, favorable regulations on the mainland could mean big business for bitcoin exchanges. Prior to the ban on ICOs and bitcoin brokers, Chinese investors were responsible for a quarter of all BTC trades.
According to Xinhua, China is likely to pursue a licensing program similar to Japan, a country that recently approved 11 cryptocurrency exchanges. CnLedger, a leading source of cryptocurrency news in China, recently had this to say:
“Xinhua News, official press agency of CN: Virtual currencies have become the top choices of underground economies. We shall adopt ‘0-tolerance policies’ towards crimes hidden underneath and take measures such as record-keeping, licensing, AML processes, real-name, limiting large transactions.”
Is China’s cryptocurrency ban temporary? It certainly looks that way. Regulators must already know that the ban hasn’t stopped mainland investors from buying cryptocurrencies next door in Hong Kong or Singapore. A saner approach to an all-out blanket ban is a tighter regulatory framework that will stamp out money laundering and other underground activities.
«Featured image from Shutterstock.»
Tim Draper Has Made Over $110 Million Since 2014 With his Bitcoin Investment
Tim Draper, the billionaire technology investor and prominent venture capitalist who has invested in some of the most successful technology startups in the likes of Coinbase, Patreon, SpaceX, Tesla, Box, FourSquare, has profited over $110 million from his investment in bitcoin less than three years ago.
In 2014, Draper participated in the auction of 144,336 bitcoins by the US government and the US Justice Department, which were seized during the investigation into Silk Road, a dark web marketplace. Draper was granted the permission to purchase a batch of 30,000 at around $600 from the US government.
Upon securing 30,000 bitcoins, Draper told Fox Business:
“[I’m] very excited about bitcoin and what it can do for the world. Bitcoin is as big a transformation to the finance and commerce industry as the internet was for information and communications. If bitcoin were here in 2008, it would be a stability source for our world economy. Everybody should go out there and buy a bitcoin. Every investor who’s a fiduciary should at least be partially involved in bitcoin because it’s a hedge against all the other currencies. There’s a whole ecosystem being built that’s going to make commerce much easier with much less friction and safer.”
Today, Draper’s 30,000 bitcoins are worth $129.9 million. Considering that Draper had spent $19 million purchasing the batch of 30,000 bitcoins in 2014, Draper has recorded a profit of over $110 million in less than three years.
While Draper held onto his investment in bitcoin, the US Justice Department was quick all of the 144,336 bitcoins seized during the Silk Road operation. According to various sources, the US government sold the majority of its 144,336 bitcoins at a price of $336, at $48 million. If the US government had sold its bitcoins in 2017, it would have generated an additional profit of around $573 million, as 144,336 bitcoins at today’s bitcoin price of $4,330 are worth $624.9 million.
Since 2014, in addition to purchasing tens of thousands of bitcoins, Draper has funded some of the most successful bitcoin companies in the cryptocurrency market including Coinbase and Korbit. Earlier this year, Coinbase secured a $100 million investment at a $1.6 billion valuation, while Korbit was acquired by the parent company of a $10 billion gaming company in Nexon at a $140 million valuation.
Furthermore, Draper has not sold his stake in Coinbase and earlier this year, Brian Armstrong, the CEO of Coinbase, revealed that Coinbase is still at an early stage in terms of developing and scaling. Armstrong noted that it will evolve into the safest and most trusted exchange in the global market.
“Digital currencies are having their ‘Netscape’ moment. The pace of innovation has been accelerating and we are now seeing exciting projects and companies being built on top of digital currencies. We’re beginning to transition into phase three of our secret master plan. Our goal is to be the safest, most trusted and compliant, and easiest to use. Not the first to market with new assets. Especially at scale, it takes time to ensure any new asset we add is well tested and secure,” said Armstrong.
Coinbase is also one of the two exchanges in the US market apart from Gemini that is targeting institutional and retail investors by providing sufficient liquidity. As Coinbase and its flagship cryptocurrency trading platform GDAX continue evolve, Draper will position himself at the forefront of cryptocurrency innovation and disruption.
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