Today, Warren Buffett is number three on Bloomberg’s list of the world’s wealthiest people with a fortune of $83.4 billion.
The story of how Buffett got to where he is today is fascinating and is one of the best lessons in the power of compounding.
At the age of 21, Buffett was worth just $20,000, but by the age of 30, his fortune had hit $1 million. By 39 he was worth $25 million, and ten years later his wealth had grown to several hundred million.
What most people don't realize is that most of Buffett's fortune was created after 50th birthday. At 52 he was worth $620 million a figure that exploded to $17 billion by age 66. The snowball has only accelerated since then. In fact between his 83rd and 87th birthdays, Buffett's wealth has grown by around the same amount as it did during the first 66 years of his life.
Kevin Martelli of Martek Partners, a Swiss-based hedge fund, tried to outline why Buffett has been so successful in his career in a recent presentation titled, A Perspective on Value Investing.
Mr. Martelli compares Buffett's investment approach to that of a private equity fund, which follows a similar strategy to Berkshire -- finding attractive businesses to buy to generate market-beating returns.
That being said, there are several key differences between Buffett's approach and that of private equity.
For example, private equity funds tend to conduct rigorous due diligence and detailed businesses plans/spreadsheets. Buffett meanwhile generally focuses on management's track record, and research is limited to annual reports.
Also, private equity is known to make heavy use of leverage, something Buffett tries to avoid and private equity managers tend to have a busy schedule of meetings. Buffett keeps an empty calendar.
The Oracle of Omaha's approach might seem lazy when compared to that of the private equity manager, but the returns speak for themselves. Between 1964 and 2014, Berkshire has compounded at 21.6% per annum. For private equity, returns of 7% to 9% on committed capital are considered good.
Secret To Warren Buffett's Investment Success:
Even though many factors have helped Buffett grow his fortune to where it is today, it really all comes down to time. Spotting Coca-Cola's potential when he did, buying GEICO in its early days and picking up Wells Fargo before the rest of the world caught on would have generated handsome returns if only held for a few years, but holding them for decades is the reason why Buffett has been able to earn billions.
Mr. Martelli points out in his presentation that the success of Berkshire is an interesting paradox. Here you have a company run by one of the most cautious and inactive investors of all time that's beaten every other money manager over the long-term. 80-90% of investment funds fail to beat the S&P 500 over 5-10 year periods.
Berkshire's gains have not been entirely stable, however. On three occasions in its history, Berkshire has lost 50% of its market value. Nevertheless, Buffett is well known to be indifferent to short-term price volatility (which is effectively a measure of other investors’ uncertainty regarding value) but is very much focused on avoiding permanent loss of capital, so he's held the rudder still during these periods.
To illustrate how powerful understanding the difference between n (i) the short term market perception of risk and (ii) the long term performance of an investment can be, Mr. Martelli complied the table below comparing the returns of ten different assets. Five of these assets were perceived to be safe blue chips, while the others were perceived to be too risky. The returns speak for themselves.
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