Warren Buffett’s Investing Secrets, F-Troop, and Amazing Bigfoot Investments

“Well if there were no Gods then anyone can do anything and nothing will matter.  You could do as you like and nothing would be real.  Nothing would have meaning, or value.  So even if the Gods don’t exist, it still necessary to have them.” – Vikings

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Even Bigfoot appreciates the climate in Margaritaville.

It was reported (quite a while ago) that Jimmy Buffett of “Margaritaville” fame and Warren Buffett of “Having All the Money” fame were related.  However in 2007 they spit into a tube (well, separate tubes, one tube would be gross) and had their DNA tested.  The results showed that if they were related, it was more than 10,000 years in the past, as Warren Buffett was related to Scandinavians and either Iberians or Estonians.  Jimmy Buffett was related to the Dutch, sunscreen, tequila and salt.

I’ve always regretted that they weren’t related, since my ideal restaurant would be the Buffett Buffet™.  All you can eat cheeseburgers (from Jimmy) and Coca-Cola® from Warren (who owns a large chunk of the company Coca-Cola™).  The television screens would alternate between surfing, bartending shows, and a stock ticker.

But this post is all about Warren, and only slightly about Cheeseburgers in Paradise©.

Warren Buffett is smart.  You don’t start with (relatively) small amounts of money and end up with billions by luck, unless you’re Mark Cuban, who is the only person on planet Earth who sold a company with 330 employees for enough stock to make him a billionaire.  Thankfully he has a billion dollars, so he can hire people smarter than him.   (Yes, he has more money than me, but, really – aside from being so lucky?  He’d be a wonderful bartender.)

One data point in my favor in stating that Warren is smart would be that he graduated from the University of Nebraska at the age of 19, and then went off to Columbia (the college, not the country).  Why Columbia (the college, not the country)?  He knew that Benjamin Graham taught there.  Ben Graham is known as the “Father of Value Investing,” and Buffett wanted to learn from him, and took his class.  After finishing at Columbia, he wanted to go to work for Graham, but Graham said no.  Buffett went back to Nebraska to be a stockbroker.

One day, Graham called and said that Buffett could come to work for him – he was being called up to the big leagues.  The next day Buffett killed all of his customers (no witnesses that way) and went to New York to work for Graham.  Okay, Buffet didn’t kill anyone.  That we know of – this isn’t Game of Thrones.

So, when Buffett got the job with Graham, he learned a lot.  Eventually Graham had enough money and wanted to spend the rest of his life on, well, whatever he wanted to spend it on (PEZ®, pantyhose and elephant rides?), so he shut the company down.  Buffett was, by most standards, pretty well off, and decided he wanted to move back to Omaha and open his own value investing shop because he missed all of the corn and the corn smells.  Buffett’s various ventures were pretty small – in 1990, his company (Berkshire Hathaway) was worth $7175.  Per share.  Recently that same share would cost over $260,000, and Berkshire Hathaway’s total value is over $440 billion dollars.

Warren Buffett has done okay.

He’s also known for being pretty frugal.  I know you’re happy I added frugal to that last sentence, because otherwise you’d just think that I thought that Warren Buffet was pretty.

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I personally think that this picture is pretty, even if Game of Thrones® has made dragons the good guys.

Warren has lived in the same house since the 1950’s, (it is a nice house, but not that nice), drives a car for years at a time (rumor is he bought a hail damaged one because it was cheaper), and recycles Pringles© canisters into air conditioning ductwork for his house and saves the trays for TV dinners to use to microwave Oscar Meyer® hot dogs.

Me?  If I had as much money as he does, I’d probably buy a new car every time mine ran out of gas (I kid, I drive my cars forever (LINK)).

I was watching a video while exercising (I work out for only for you and I study for only for you, Internet!) and heard Warren state “ . . . if I could invest as a small investor today I think I could . . . I know I could make a 50% return.”

That was a pretty powerful statement, since I certainly count as a small investor by Mr. Buffett’s standards.

Why can’t he do that?  He’s got billions of dollars he has to invest, so he has to do big deals.  There are a lot of good deals you could do with a few million dollars, but very few good deals in the billion plus region.  Turning the company’s $440 billion into $660 billion in a year is hard.  He could turn $10 million in to $15 million in a heartbeat.  Small deals are easier since there are so many of them.

Warren’s advice to investors is simple:  buy a low overhead (low fees) index fund (an index fund is a fund that is created to match an index, like the Dow Jones Industrial Average or the S&P 500).  If you can’t do what he does and value invest, this is the best way to get a good return.  And that’s good advice (in my opinion) for any small investor that doesn’t have the time to do the required research.

Let’s repeat that:  Warren Buffett says you should buy an index fund.

But me?  I know Warren didn’t get all of those Pringles® cans by investing in an index fund.  What did Warren Buffett do to get really rich?

What research did Graham and Buffett (reminder:  not Jimmy Buffett, but Warren Buffett) do prior to investing?

  1. Good Leadership, Good Business – Graham and Buffett were looking for leaders that had experience, capability, and great integrity. Warren can call CEOs and talk to them and give them the sniff test.  You can’t, so this is harder for you.  The business also has to be a good one. (More on this later.)
  2. Low Price to Earnings Ratio – The price to earnings ratio (P/E ratio) is how much you have to spend to get a dollar of the company’s earnings.

Before the 1980’s, the rule was a company that had a price to earnings ratio of over 20 was ALWAYS overpriced.  But the rule back then was to take the P/E and subtract the current prime interest rate.  Today the prime interest rate is ~1%, so using that old rule, a P/E of 19 would be acceptable.  Right now it’s difficult to make a return on capital because so much money is flooding everywhere . . .

Why was the rule like that?  It was assumed that you could either get returns from saving your money or from investing it.  Currently there is no benefit from saving it with historically low rates, so the P/E has continually wandered higher.

Alone, however, P/E tells you nothing.

  1. Low Price to Book Value – The book value of a company is how much all of its “stuff” is worth. In theory, if a company has a price to book value of less than one, you could buy the company (price), sell all of its stuff (book value), and come out ahead.  In theory.  If you have ever driven past a boarded up factory (and you have) you know that the book value just might be overstated.

Again, like P/E, Price to Book tells you nothing.

One video I watched while climbing on an infinite staircase to nowhere showed a screening method for value stocks that was alleged to have come from Warren Buffett:

  • Pick the Price to Earnings ratio,
  • multiply it by the price to book value, and
  • if the number was less than or equal to about 30,
  • the stock was a candidate.

Simple, right?

It is (and it’s overly simple).  Because what stocks have low P/Es and low Price to Book?

  1. Great, Undervalued Companies in Great Markets and
  2. Failing Businesses in Crappy Markets.

How do you tell the difference?  Sometimes you don’t.  Buffett will go on at length, if you let him, about all of the failures he’s had in picking companies.  But he had a consistent strategy that he followed for years that obviously resulted outstanding returns.  And he didn’t pick only small companies – Coca-Cola® was one of the companies he picked that produced amazing gains for Berkshire Hathaway.

So, how does a company like Berkshire Hathaway measure up on the value score?

  • It has a P/E of 20, and a Price to Book of 1.5. This would result in a score of about 30, so it would be within Warren’s window.  According to Warren, Warren is a value!  Also, Berkshire Hathaway has a credit rating better than (really) most countries.

What about . . . Tesla?

  • Tesla has never made any money, so its P/E is infinite. Its price to book is 12, so, 12 times infinity is  . . . still infinity.  Probably not a Buffett candidate?

And Honda?

  • Honda, maker of the best-selling electric car has a P/E or 8.6. It has a price to book of 0.77.  That means it scores an amazing 6 or so on Warren’s scale.  Wow!

So, let’s also look at a company that no one understands, Amazon:

  • It has a P/E of 120.  A price to book of 20.  That’s an astonishing 2400.  Again, probably not a “buy” rating from Buffett.

But is Honda a good buy right now?  Or not?

The only way to tell is to go back to Buffett’s first point.  But you and I can’t call up the CEO of Honda and expect to get real answers.  Warren probably could.

But we have help fortunately:  Joseph Piotroski, an accounting professor at the University of Chicago came out with a list of criteria that are objective and that anyone can find in the annual report of any publically traded company and named it the F-Score, which I really hope was based on the 1960’s show “F-Troop.”  I’d go through the list, but it’s much easier to pop up a link.  So here’s the (LINK) to Piotroski’s criteria.

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I think that Agarn was a horrible value investor . . . did you see the episode where he traded the blankets for a handful of small marbles that were supposed to bring Custer back from the dead?

Source- mycomicshop.com

Profitability

  1. Return on Assets (1 point if it is positive in the current year, 0 otherwise);
  2. Operating Cash Flow (1 point if it is positive in the current year, 0 otherwise);
  3. Change in Return of Assets (ROA) (1 point if ROA is higher in the current year compared to the previous one, 0 otherwise);
  4. Accruals (1 point if Operating Cash Flow/Total Assets is higher than ROA in the current year, 0 otherwise);

Leverage, Liquidity and Source of Funds

  1. Change in Leverage (long-term) ratio (1 point if the ratio is lower this year compared to the previous one, 0 otherwise);
  2. Change in Current ratio (1 point if it is higher in the current year compared to the previous one, 0 otherwise);
  3. Change in the number of shares (1 point if no new shares were issued during the last year);

Operating Efficiency

  1. Change in Gross Margin (1 point if it is higher in the current year compared to the previous one, 0 otherwise);
  2. Change in Asset Turnover ratio (1 point if it is higher in the current year compared to the previous one, 0 otherwise);

The lower the F-Score, the crappier the company.

And it, when combined with the screen above the Piotroski F-Score produced a return 7.5% higher than any other Value Investing test.  So, does Honda suck or not?

I don’t know.  But I’m going to check with the help of Dr. Piotroski.

But the biggest failure in Value Investing is to allow your emotions to rule.  Markets are driven by emotion:  Elon Musk is awesome, so I’ll buy Tesla!!!!!

Tesla might be awesome, but there are way too many Tesla fans for the price to be rational.  Part of finding value in the market is understanding that you want to buy at the lowest prices.  When are the lowest prices?  “When blood is running in the streets.”  When people have given up.  When people are running scared.  At that point, amazing companies can be picked up at incredible values.

In April of 2000 I was thinking of buying Microsoft®.  I had generally been a pessimist, but, at a certain point, I was finally ready to give up being a pessimist.  I was talking to a broker and then . . . the Dotcom Bubble burst.  If I had bought Microsoft© back then?  It would have taken thirteen years to be at breakeven.  And that’s not including inflation, which ate away at the buying power of the dollar.

But can I still get a Cheeseburger in Paradise?  Sure!  Jimmy Buffett will even have a Margarita with you if you have the proper parrot apparel.  But don’t expect Warren Buffett to pay for it.  But he will take your discount coupons so he can use them to get some suits he bought in 1983 altered.

 John Wilder has no positions in any stock mentioned, and won’t take any for the next week or so, until he can calculate the F-Score of Honda.  Especially Tesla – he’s not buying that though he loves Elon.  John Wilder is NOT a financial advisor.  And he’s had wine tonight.  Don’t trust him.

Author: John

Nobel-Prize Winning, MacArthur Genius Grant Near Recipient writing to you regularly about Fitness, Wealth, and Wisdom – How to be happy and how to be healthy. Oh, and rich.