Berkshire Annual Letter 1996 (Part 7)
Warren Buffett feels that the best way for the majority of people to invest is through an index fund. These people are sure to beat the net results delivered by the majority of professional fund managers.
For the people who elect to do their own investments, there are a few important things to remember. Smart investing is not complex. Neither is it easy.
What an investor needs to do is to be able to correctly evaluate selected businesses. Why only selected?
You need not need to be an expert in every industry or every company. Know your own circle of competence, and evaluate companies only within that circle.
There is no need to understand modern portfolio theory, beta, option pricing, etc to become a successful investor. There are only two things you need to know well:
1) How to value a business
2) How to think about market prices
The goal as an investor is to purchase (at a rational price) a part interest in a business (you can understand) whose earnings are going to be higher 5, 10 or even 20 years from now.
Only a few companies meet this criteria, so when you come across one, you should buy a sufficient amount of it. Don’t buy anything that you are not willing to own for 10 years.
If you own a portfolio of companies with ever increasing earnings over the years, your portfolio’s market value will increase too.
This is the exact approach taken by Berkshire.