As a billionaire many times over, it may be hard to imagine that Warren Buffett thinks much about how to invest a few hundred pounds.
In fact though, Buffett started investing on a very small scale. He has repeatedly said he believes he could get strong returns if he had only a small amount to invest. That is because he would be able to buy shares in firms that as someone allocating billions of pounds in assets he no longer looks at as investment opportunities.
So if I had a spare £800 to invest today, here are three lessons I would learn from Buffett in putting it to work in the markets. I think all make as much sense when investing £800 as £800m!
Stick to what you know
It is easy to imagine that investing in some little-known company in a rapidly emerging field could be the path to stock market success.
Sometimes it works out like that. But, like Buffett, I like to stick to my own circle of competence. Putting money into a business you do not understand is not investing as far as I am concerned. It is speculation.
Do less, not more
One of the interesting things about Buffett’s approach to the stock market is not how active he is, but how inactive.
Buffett spends a lot of time researching companies and staying up to date with what is going on. But he rarely invests. When he does, he often holds his stake for decades. Indeed, he has said his preferred holding period is “forever”.
Rather than buying shares with the hope of selling them a short time afterwards, I take the Buffett approach and buy to hold.
Always look for a competitive advantage
When choosing shares to buy, Buffett does not just focus on the size of the potential market for a given product or service. He also looks at what competitive advantage any given company has.
As an example, consider his shareholding in Coca-Cola (NYSE: KO). Demand for soft drinks is high and likely to remain that way for the foreseeable future. But the barriers to entry are low. It is easy for a local entrepreneur to start bottling water and selling it, for example.
But what Coca-Cola has done is develop certain attributes that make it stand out. One is proprietary drink formulas. Another is brands. On top of that, it has an outstanding global distribution network.
Competitive advantages matter because they help a business set itself apart from rivals. That can give it pricing power, meaning it has more flexibility to set prices at an attractive profit margin. That may not protect it from market evolution though. One risk to Coca-Cola is the increasing health consciousness of many consumers, threatening demand for some of its main products.
Coca-Cola has a lot going for it as a business. Pricing power is important and in order to achieve it and maintain it, a firm usually needs some sort of competitive advantage.
This post was originally published on Motley Fool
