Who Taught Buffett How To Invest?

Known in the investment world as the Oracle of Omaha, Warren Buffett is likely the most successful investor in modern history.

Over his career, the Nebraska native has built up a fortune of over $120 billion and created the behemoth conglomerate of Berkshire Hathaway.

But just where did Warren Buffett get his investing acumen, and what teacher had the most influence on the future billionaire?

Graham and Munger: The Two Greatest Forces Shaping Warren Buffett’s Success

Buffett’s quantitative approach to picking stocks was heavily influenced by Benjamin Graham. The author of The Intelligent Investor and co-author of Security Analysis, Graham is known as the father of traditional value investing.

Using Graham’s principles, Buffett and generations of other value investors have been able to determine the fair value of businesses based on their assets and cash flows. Combined with the volatile nature of markets, this ability to price a business quantitatively allows value investors like Buffett to find stocks trading below their intrinsic values.

Later, Buffett’s investment thinking would be further refined by his friend and lifelong business partner Charlie Munger.

The businesses Buffett previously invested in were often described as “cigar butts.” In other words, there were a few puffs left for investors to make a small amount of profit.

Where Graham shaped Buffett’s quantitative thinking, Munger offered a broader perspective to understand qualitative characteristics, like management quality, branding and moats.

Munger advocated for paying higher prices for high-quality businesses, an approach that became integral to the Berkshire Hathaway investment culture.

This combination of an eye for quality and a Graham-influenced nose for value led Buffett to make such famous investments as the purchase of GEICO Insurance, the acquisition of See’s Candies and the longstanding investment in Coca-Cola.

Who Taught Warren Buffett to Invest?

In a sense, Warren Buffett taught himself to invest with the help of his father’s influence. Growing up with access to a collection of investment books in his father’s financial office, Buffett began cramming at an early age.

By six he was actively saving capital, and at the age of eleven, he made his first investment in three shares of Cities Service stock.

Buffett’s decades-long streak of beating the market, however, began when he read The Intelligent Investor in 1949. From there, Buffett applied to Columbia University and studied under Graham beginning in 1951.

A combination of foundational principles from the book, more advanced tutelage from his studies at Columbia and the reserve of investing knowledge he had gained in his youth provided Buffett with the framework needed to become the best-known investor of all time.

Who Taught Buffett How To Invest?

Warren Buffett learned how to invest quantitatively using the principles of valuation analysis taught by Benjamin Graham.

While studying under Benjamin Graham, Buffett formed a positive view of his future professional idol. While many finance professors merely taught, Buffett’s professor was an active investment professional with a winning track record.

During this time, Graham was running the Graham-Newman Corporation, an investment fund that operated on his personal principles of value investing.

Over the firm’s 20-year history, Graham-Newman generated average annual returns of 17 percent, well over the long-term average of the S&P 500.

Did Warren Buffett Work for Benjamin Graham?

After graduating from Columbia, Buffett offered to go to work for Ben Graham without even drawing a salary. While Graham refused this offer initially, he later hired Buffett to work at his New York investing firm.

Beginning in 1954, Buffett worked at Graham-Newman evaluating the liquidation value of companies the firm might be interested in buying.

The firm closed in 1956, setting the stage for Buffett’s return to Omaha and his decision to found his own investment partnership.

What Is the Benjamin Graham Approach to Buffett?

Buffett’s approach has changed over the years thanks to Charlie Munger’s influence and Berkshire’s growth into a company too large to buy cigar butt stocks. The Oracle of Omaha does, however, still dispense his thoughts on a more traditional approach to Graham’s investment style when discussing investment with small amounts of money.

In one of Berkshire’s famous shareholder meetings, Buffett laid out when he considered the classic characteristics of a Graham value stock.

Two specific metrics he mentioned were a low price-to-earnings ratio and a price below working capital. He also advised investors looking for these stocks to look among small, obscure companies. These are often the stocks the market prices inefficiently, while huge investment firms like Berkshire Hathaway must wait for deals in much larger businesses.

Buffett has gradually adopted Graham’s ideas to the needs of Berkshire Hathaway. While it’s no longer possible for him to use the company’s gigantic cash stockpile effectively by investing in the kinds of stocks Graham-Newman would have bought, he notably still values public and private businesses using his famous teacher’s methods.

What Are Graham’s Rules for Investing?

The first and most important rule of Graham’s value investing style is that stocks are pieces of businesses with determinable values.

Those who buy stocks simply expecting them to appreciate to higher prices were, in Graham’s view, speculators rather than investors.

Investors, meanwhile, seek to determine the fair value of a business and buy the stock below that value. This idea essentially underpins all other concepts in value investing.

Next on Graham’s list of investing rules was the concept of a margin of safety. Put simply, Graham believed that investors should buy stocks that traded far below their fair value in order to protect against loss and maximize profit.

A stock trading at a 10 percent discount to its assumed fair value would have been of little interest to Benjamin Graham, who tried to invest with a 50 percent margin of safety.

Finally, Benjamin Graham advised investors to embrace volatility. Volatile markets, he argued, would bring investors mis-priced assets that they could then profit from.

He developed this idea as a character he called “Mr. Market,” who would offer to buy or sell pieces of companies at wildly different prices from day to day. By buying when the price was excessively low or selling when the price was excessively high, investors could profit from Mr. Market’s swings in enthusiasm.

What Is the Graham 75/25 Rule?

Beyond his pioneering work in stock valuation, Graham also recommended creating balanced portfolios consisting of both stocks and bonds. Ideally, he recommended having between 25 percent and 75 percent of one’s total invested assets in bonds at any given time.

Graham advocated for increasing the percentage of bonds when stocks were overpriced, then decreasing it when bargains appeared. In neutral market conditions, a 50-50 split would often be seen as the most sensible.

This asset allocation scheme is quite different than the generally recommended program of increasing bonds and decreasing stocks as an investor ages. In most circumstances, though, the idea of adjusting in favor of bonds when stocks are overvalued still holds up well.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.