How did Warren Buffett get his start....
 

As a youngster, Warren Buffett was always interested in how to make money.

When he was a teenager, he bought some pinball machines. He figured that a good place to put these pinball machines was in barber shops, since kids who were waiting around for a haircut could play some pinball while they waited. He came to an equitable arrangement with the barbers -- they split the profits evenly. Every week, all he had to do was go around to his various pinball machines and collect his money.

As he became a young man with a wife and started a family, he wanted to find security for his family, so his urge to become wealthy increased. He had studied finance under a man named Benjamin Graham. Graham had written the classic textbook "Security Analysis," where he explained a whole new way of evaluating stocks based on identifying and buying undervalued stocks.

The problem with this was that Graham's method blatantly said that the stock market was not an "efficient market." This flew in the face of the theories of the economists of his day, and of today's economists too. It led to a fierce intellectual conflict between these two schools of thought.

Warren Buffett stepped into this maelstrom. To this day he believes that the "efficient market hypothesis" is wrong -- that is, you can find exceptions where the market is NOT efficient. It is WHERE the theory is wrong that Warren Buffet has made all his money.

What is the efficient market hypothesis? It assumes that the stock market is an "efficient market" where there's perfect knowledge of what's going on, and that knowledge is applied in a purely rational way. So any new information should immediately be factored into the stock price.

The efficient market hypothesis says that if a stock is trading at $252 per share, it really is WORTH $252 a share at that time. However, if a few months later it only trades at $6 a share, then at that later time it is really WORTH $6 a share -- EVEN IF THE FUNDAMENTAL ASPECTS OF THE BUSINESS HAVE NOT CHANGED.

Warren Buffett's criticisms of the "efficient market hypothesis" is that people are not fully logical creatures, but they are in fact highly emotional. People do NOT make unemotional calculations of stock prices, but they are in general highly affected by the daily EMOTIONAL effects of the behavior of others in the stock market. If everyone else is buying, people feel more secure to buy as well. But if everyone else is selling, people also have a tendency to want to sell. This is an emotional reaction -- not one always based on logic.

By using this knowledge, Warren Buffett was able to bring a purely logical approach to stock market investing, which takes advantage of the emotional behavior of most others in the stock market. When the stock prices go too low (due to emotional reasons), Buffett will buy. Then, when they shoot up too high (again due to emotional reasons), Buffett will sell. Using this technique, he has almost always made money.

What's happened to this conflict today? The efficient market hypothesis is still dominant among financial and economic circles. Yet, on the other hand, Buffett is (at present valuation) the second richest person in the USA (behind Bill Gates). As long as the efficient market hypothesis still dominates thinking in financial circles, you can make a LOT of money using Warren Buffett's stock market investing techniques.

- Dien Rice

Re: How did Warren Buffett get his start....
 

Dien, as a fan of Mr. Buffet.. and reader of several books on him I thoroughly enjoyed reading your post.. Thanks, Josh Hinds :-)

> As a youngster, Warren Buffett was always
> interested in how to make money.

> When he was a teenager, he bought some
> pinball machines. He figured that a good
> place to put these pinball machines was in
> barber shops, since kids who were waiting
> around for a haircut could play some pinball
> while they waited. He came to an equitable
> arrangement with the barbers -- they split
> the profits evenly. Every week, all he had
> to do was go around to his various pinball
> machines and collect his money.

> As he became a young man with a wife and
> started a family, he wanted to find security
> for his family, so his urge to become
> wealthy increased. He had studied finance
> under a man named Benjamin Graham. Graham
> had written the classic textbook
> "Security Analysis," where he
> explained a whole new way of evaluating
> stocks based on identifying and buying
> undervalued stocks.

> The problem with this was that Graham's
> method blatantly said that the stock market
> was not an "efficient market."
> This flew in the face of the theories of the
> economists of his day, and of today's
> economists too. It led to a fierce
> intellectual conflict between these two
> schools of thought.

> Warren Buffett stepped into this maelstrom.
> To this day he believes that the
> "efficient market hypothesis" is
> wrong -- that is, you can find exceptions
> where the market is NOT efficient. It is
> WHERE the theory is wrong that Warren Buffet
> has made all his money.

> What is the efficient market hypothesis? It
> assumes that the stock market is an
> "efficient market" where there's
> perfect knowledge of what's going on, and
> that knowledge is applied in a purely
> rational way. So any new information should
> immediately be factored into the stock
> price.

> The efficient market hypothesis says that if
> a stock is trading at $252 per share, it
> really is WORTH $252 a share at that time.
> However, if a few months later it only
> trades at $6 a share, then at that later
> time it is really WORTH $6 a share --
> EVEN IF THE FUNDAMENTAL ASPECTS OF THE
> BUSINESS HAVE NOT CHANGED .

> Warren Buffett's criticisms of the
> "efficient market hypothesis" is
> that people are not fully logical creatures,
> but they are in fact highly emotional.
> People do NOT make unemotional calculations
> of stock prices, but they are in general
> highly affected by the daily EMOTIONAL
> effects of the behavior of others in the
> stock market. If everyone else is buying,
> people feel more secure to buy as well. But
> if everyone else is selling, people also
> have a tendency to want to sell. This is an
> emotional reaction -- not one always based
> on logic.

> By using this knowledge, Warren Buffett was
> able to bring a purely logical approach to
> stock market investing, which takes
> advantage of the emotional behavior of most
> others in the stock market. When the stock
> prices go too low (due to emotional
> reasons), Buffett will buy. Then, when they
> shoot up too high (again due to emotional
> reasons), Buffett will sell. Using this
> technique, he has almost always made money.

> What's happened to this conflict today? The
> efficient market hypothesis is still
> dominant among financial and economic
> circles. Yet, on the other hand, Buffett is
> (at present valuation) the second richest
> person in the USA (behind Bill Gates). As
> long as the efficient market hypothesis
> still dominates thinking in financial
> circles, you can make a LOT of money using
> Warren Buffett's stock market investing
> techniques.

> - Dien Rice




Personal Development 24/7!

Re: How did Warren Buffett get his start....
 

> Dien, as a fan of Mr. Buffet.. and reader of
> several books on him I thoroughly enjoyed
> reading your post.. Thanks, Josh Hinds :-)

Hi Josh,

Thanks, your comment's made my day. :)

Warren Buffett is one of my personal heroes.... I learned about his investment technique from "The Warren Buffett Way" by Robert Hagstrom, Jr., but there's a whole slew of books out now.... That one book has made me tens of thousands of dollars. I had to put in some effort to understand it though. Often, it's what you do with the knowledge that counts. :)

As I said earlier, Warren Buffett doesn't like the efficient market hypothesis. So he looks for areas where there isn't an "efficient market" -- and TWO of the best places to look are monopolies, and strong brand names.

That's because these companies have "market power" -- they are less subject to competition, and have more control over the prices they can set. They're not badly affected in the "down times" unlike other businesses. People need or want their products, and there's only one place to get it, so generally they're happy to pay whatever price the company charges.

When you look at these two areas for your investments -- especially if you look at companies which are already profitable and are growing -- you can start to reap big rewards. :)

- Dien Rice

Re: How did Warren Buffett get his start....
 

Dien, one of my favorite books about Mr. Buffett is "Of Permanent Value The Story of Warren Buffett" By Andrew Kilpatrick. It's quite a read at about 636 pages, but excellent! .. Josh

> Hi Josh,

> Thanks, your comment's made my day. :)

> Warren Buffett is one of my personal
> heroes.... I learned about his investment
> technique from "The Warren Buffett
> Way" by Robert Hagstrom, Jr., but
> there's a whole slew of books out now....
> That one book has made me tens of thousands
> of dollars. I had to put in some effort to
> understand it though. Often, it's what you
> do with the knowledge that counts. :)

> As I said earlier, Warren Buffett doesn't
> like the efficient market hypothesis. So he
> looks for areas where there isn't an
> "efficient market" -- and TWO of
> the best places to look are monopolies, and
> strong brand names.

> That's because these companies have
> "market power" -- they are less
> subject to competition, and have more
> control over the prices they can set.
> They're not badly affected in the "down
> times" unlike other businesses. People
> need or want their products, and there's
> only one place to get it, so generally
> they're happy to pay whatever price the
> company charges.

> When you look at these two areas for your
> investments -- especially if you look at
> companies which are already profitable and
> are growing -- you can start to reap big
> rewards. :)

> - Dien Rice




Personal Development Community 24/7!

Re: How did Warren Buffett get his start....
 

Hi Josh!

> Dien, one of my favorite books about Mr.
> Buffett is "Of Permanent Value The
> Story of Warren Buffett" By Andrew
> Kilpatrick. It's quite a read at about 636
> pages, but excellent! .. Josh

Josh, I haven't read that book yet, but I've read "Buffett: The Making of an American Capitalist" by Roger Lowenstein. However, I do have a copy of Kilpatrick's book, I just got a bit daunted by the size! However, with your recommendation I'm going to start delving into it too! :)

Warren Buffett is truly an amazing guy.... One of the things I really like about him is he seems to be a really down-to-earth fellow, who is also very honest. He shows that you CAN be honest and be a financial success at the same time!

Thanks Josh.... I'd love to write more about Warren Buffett.... Maybe I'll write another post about an event in his life. (I'm really enjoying writing these short non-fiction "story"-type posts.... I hope more join in. :) I plan to add many of these posts to a "true stories" section here on Sowpub! )

- Dien