Warren Buffett distills investment success into three words—margin of safety—and tells investors to take one of two approaches: either focus on value or buy an index fund. Buffett, the “Oracle of Omaha,” has been steadfastly giving such sage advice for decades, through calm and choppy markets alike.

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In fact, twenty years ago I hosted Warren and Charlie Munger, his Berkshire Hathaway partner, for a two-day conference at Cardozo Law School that launched an international best seller, The Essays of Warren Buffett: Lessons for Corporate America. At the time, Warren's investing style was unfashionable. Critics increasingly said he'd lost touch, misunderstanding the budding “new economy” and its “game-changing” technology. Buffett foresaw exceedingly high stock prices—and soon proved correct.

After recently stumbling on the transcript from that gathering, I published an annotated version, The Buffett Essays Symposium: Annotated 20th Anniversary Transcript. It's packed with timeless gems for every investor—then and now, in ups or downs—including these three pivotal propositions.

First, margin of safety refers to paying a low price compared to value obtained. In theory, there is no difference between stock price and business value: if markets are efficient, then prices are good estimates of value. But investors like Buffett laugh at this theory; at the symposium, Munger labeled it “twaddle” and “gibberish.”

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Buffett and Munger say that market prices gyrate above and below business value. In the 1950s, Buffett's Columbia University professor, Benjamin Graham, offered the image of a manic depressive veering from euphoria to gloom, though reality is neither wonderful nor awful. So avoid overpaying and buy low, they say. But don't go to extremes: better to buy a great business at a fair price than a fair business at a great price, Munger has famously quipped.

At the symposium, the Berkshire executives referenced some of their earliest and savviest purchases, like shares of the Washington Post Company in 1973-74 at a price about 1/5 of value. Today, look to Berkshire during the crisis of 2008, as it invested throughout corporate America, from Goldman Sachs to U.S. Gypsum, at prices yielding enviable margins of safety.

Second, focus on exceptionally valuable companies, those already run successfully, rather than turnaround prospects. After all, change is both difficult and uncertain. Buffett explained at the symposium: “We try to buy into businesses with excellent economics, run by honest and able people at a decent price. We buy very few securities, so we look at it as ‘focused' investing.”

In annotations I solicited for The Buffett Essays Symposium, the author Robert Hagstrom writes: Warren popularized the concept of ‘focused investing,' a portfolio management approach that concentrates one's bets on those stocks that have the highest probability of beating the market over the long-term.”

Shareholder activists and venture capitalists manage for change but, as Munger warned at the symposium, doing so creates “complicated legal problems” he'd rather avoid. Warren stressed that these arise from needing an “exit strategy.” In contrast, Berkshire looks for a “non-exit-strategy—things we'll never want to exit.”

Non-exit businesses are those commanding competitive advantages that deter rivals and withstand technological onslaughts for years, such as barriers to entry or brand strength. Buffett calls these features “moats,” like medieval defenses fortifying castles. Such quality businesses are desirable when run by people you like, trust and admire—those you'd be happy to have your child marry, Buffett advises.

Finally, and especially value for law professors and other readers of this blog: know your limits and avoid investment targets outside what Buffett dubs your “circle of competence.” So if you cannot make required judgments—about value, moats, and managers—then invest through low-fee index funds. Doing so beats the after-cost results most professionals deliver. As they say in poker, “If you've been in the game 30 minutes and don't know who the patsy is, you're the patsy.” Buffett implores you: Don't be the patsy.

At the 1996 symposium, Bill Ackman, then a little-known investment novice in our audience, challenged index investing as a social practice and defended what would become his brand of shareholder activism. He contended that as more capital is indexed—and voted algorithmically for average returns—too much is staked in larger companies just because they are in the index. Munger, moderating the symposium's investing panel, concurred: “You are plainly right. If you pushed indexation to the very logical extreme, you would get preposterous results.”

On the other hand, countered Jeff Gordon of Columbia University, index fund operators actually have incentives to promote superior governance and performance across the board. As long-term owners with large stakes, he reasoned, “They are a bit like Charlie and Warren,” whose focused investing influences manager behavior. So more indexing through big players may be better for all of us—except perhaps the most sophisticated. Concluded moderator Munger: “Well, ladies and gentleman, you have just heard a very subtle and profoundly correct point.”

Following up on the symposium, in a Forbes interview, I credited Graham with designating “margin of safety” decades earlier as the key to investment success. I said Buffett still agreed. That remains true now, twenty years later, and that simple pearl of wisdom will likely remain the key for decades to come. All investors—focused, activist or indexed—can thank Ben Graham for minting and Warren and Charlie for popularizing, the perpetual payoff.

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Lawrence Cunningham, a professor at George Washington University, has published extensively on Berkshire, Buffett, and investing, including as editor of the classic The Essays of Warren Buffett: Lessons for Corporate America and the newly-released The Buffett Essays Symposium: Annotated 20th Anniversary Transcript

Buffett Essays Symposium
Buffett Essays Symposium