Warren Buffet, a role model of the entire investment community, has been the biggest proponent of ‘Value investing’. His success of creating such enormous wealth is a testimony to this. To understand more, let us discuss one of the best bets of Warren Buffett.
Warren Buffet has always loved the insurance business, owing to its financial structure. At the age of 21, Mr Buffet took a train to Washington DC to visit GEICO’s office. The only other person working that day was Lorimer Davidson, an executive at GEICO. Davidson agreed to meet Buffett and generously explained him both the insurance industries as well as GEICO’s special competitive advantages.
GEICO was set up in a unique way for an insurance company, bypassing traditional agents required to sell policies directly to consumers. In addition, GEICO targeted only high-quality drivers such as government bureaucrats and professors. By selecting its market segment and not having to pay agents’ commissions, GEICO was able to offer car insurance at a huge discount to other insurers while, still earning a superior profit margin. Buffett was excited with the explanation provided by Davidson.
On the next working day, Buffett started buying GEICO, by putting a large part of his fortune into the stock. In a span of just one year, this decision fetched Buffett almost 50 per cent return. Warren Buffett is also recognised for his uncanny ability to use ‘Contrarian Investing’ style. Let us discuss one of his contrarian bets that led him to make profits of nearly 20 million.
He once said, “Be fearful when others are greedy and be greedy when others are fearful.” In 1963, Warren Buffett invested in American Express, which was in news for all wrong reasons. The company had provided credit to Allied Crude Vegetable Oil, based upon the inventory of the company’s soybean-based salad oil.
The inventory was kept in container ships, which was presumed to be full of salad oil. However, in reality, the containers were filled with water and had only a few feet of salad oil on top. Since oil floated on top of the water, it appeared to inspectors that these ships were loaded with oil. This scandal led to a loss of nearly US$ 58 million for American Express and triggered the fall in its share price.
After this incident, Warren Buffett conducted analysis in his own unique style and found that American Express’ competitive advantage and cash-flow generating capabilities were intact and the scandal could not stop people from using the green cards, issued by American Express. Later, Buffett bought around US$ 13 million shares of American Express and made about US$ 20 million profit post-divestment of his stake in the company.
Thomas Rowe Price Jr
Thomas Rowe Price Jr is considered to be “the father of Growth Investing.” Going against the herd mentality, he opted investing in good companies for a long-term, which was not so popular at that time. He was of the view that investors should put more focus on individual stock-picking for the long-term. He believed that well-organised companies can deliver returns that could outpace the growth rate of the economy. Therefore, good research is needed in stock picking, along with diversification for risk reduction.
During the process of selecting stocks, one should consider the approach of Thomas Rowe Price Jr. He considered those companies that had good research excellence in product development, along with absence of strong rivals and which also, had least intervention by the government. He also kept in mind such companies that had a cost-effective budget, well-compensated workers, decent percentage profit, good profit margin and an enviable increase in earnings per share.
He further believed that smaller companies with right management as well as right business philosophies could grow at much faster pace than larger companies. In many cases, they could double or triple their earnings in just a few years. 3M was one such stock, which he held for 33 years (between 1930 and 1965) led by its moat in R&D and innovation. Other than 3M, he held six other stocks like DuPont, Black & Decker, Scott Paper, Merck & Co., IBM and Pfizer, whose average appreciation had been thirty-six times of its buying cost.
Philip Fisher was another prominent long-term investor who further propagated the ‘Growth Investing’ philosophy and believed in investing in high-quality growth stocks which are run by a strong management team. He believed that any company spending high on R&D has good prospects of growth. According to him, the combination of high marketing costs and initial production costs can drag down earnings. At first, it looks like growth is slowing down, while in reality, it is just an early stage of a new product cycle.
Fisher was willing to pay more for the stock he felt had high growth-potential, regardless of the fact that it might not be an undervalued company according to value-investing standards. One of the most famous examples of his proficiency in money management is evident with his purchase of Motorola in 1977, which Fisher had held until his death. When he purchased the stock, Motorola was just a radio manufacturing company and was not recognised for any strong R&D or management of the company. Fisher, being a long-term growth-driven investor, purchased the stock and saw it grow 20-fold in 20 decades versus a seven-fold appreciation of S&P 500.
This proves how these philosophies work wonders for the investors. Stocks purchased using multiple philosophies lead to a more diversified portfolio. We at DSIJ have special products designed over such philosophies, which have given huge returns to our investors. To know more about these, do get in touch.