Guidelines for the Amateur Investor

Jun 24, 2014 by Askia Roberts

Warren Buffett provides simple advice for the amateur stock picker. Most of us aren’t financial wizards and don’t even hold a job in a finance-related field. We’re teachers, managers, laborers, and engineers. Can the average person do a good job of picking stocks? That depends.

Warren Buffet has 60 years of experience and invests full-time. Historically, Buffett has insisted that investing doesn’t require a high IQ, but it does take experience to recognize a great investment. He also has several advantages the average person doesn’t. However, his basic strategies are available to all.

Buffett has suggested two different sets of instructions for non-professional investors.

If you lack knowledge about the stock market and are short on time, check out these tips:

1. Put 10% of your investment monies into short-term government bonds. This is money that can be accessed quickly and easily, but isn’t rotting away in a checking or savings account.
2. Put the remainder in a low-cost index fund. While this isn’t the most exciting advice, it makes a lot of sense. Few managed funds are able to match the expense-adjusted results of an index fund over several years. Plus, the expenses and the folly of the fund manager are too much of a disadvantage.

This is the exact advice Buffet has left for the trustee that will administer his wife’s trust. Assuming he loves his wife, it’s probably good advice for the rest of us.It doesn’t get much simpler than this. It also requires very little time and attention.

If you prefer to pick your own stocks, follow this advice:

1. Familiarize yourself with stock analysis. Buffett has frequently given this advice to business students. It consists of analyzing every single stock on the NYSE. When students point out that there are thousands, Buffett’s response is, “Start with the A’s.”
   • Warren Buffett has stated that it’s easy to recognize good companies after you’ve researched a few thousand of them. 
2. Consider the margin of safety when you invest. Invest in companies that are available for a discount relative to the true value of the company. The greater the margin of safety, the greater the potential upside. The downside is also greatly reduced.
3. Invest in businesses, rather than markets. Buffett doesn’t recommend investing just because a certain type of economy exists. At the end of the day, it’s the quality of the underlying company that’s most important. The economy rarely enters the picture.
4. Keep it simple. According to Buffett, having anything beyond average intelligence is unnecessary when it comes to investing. Stick with businesses that are easy to understand. It’s easy to understand how a grocery store makes its money. Biotech companies are a little more complicated.
5. Be careful where you get your information. Buffet once said, “Never ask your barber if you need a haircut.” Who benefits if you follow a broker’s advice? Be sure to consider the source.
   • Unfortunately, the more mysterious the source, the more credibility we tend to project onto the source. You might doubt your friend, but you convince yourself that the odd man on the bus certainly knows what he’s talking about.

Warren Buffet suggests an index fund for the armchair investor, but many enjoy investing and can do well on their own. It’s important to put in the necessary work to find solid investments. If you’re short on time, the index fund is probably your best option.