Want to invest like Buffett? Here’s how - Mark Hulbert - MarketWatch:
"The first is a “focus on cheap, safe, quality stocks,” defined as those that have exhibited below-average volatility and sport low ratios of price-to-book value — a measure of net worth. In addition, the researchers looked for stocks whose profits are growing at an above-average pace and that pay out a significant portion of their earnings as dividends.
The second part of the formula will raise eyebrows: It calls for investing in these stocks “on margin” — that is, borrowing money to buy more shares than could otherwise be purchased. To match Buffett’s long-term return, the researchers found, a portfolio would need to be 60% on margin — borrowing enough so that it owned $160 of “cheap, safe, quality stocks” for every $100 of portfolio value."
"The first is a “focus on cheap, safe, quality stocks,” defined as those that have exhibited below-average volatility and sport low ratios of price-to-book value — a measure of net worth. In addition, the researchers looked for stocks whose profits are growing at an above-average pace and that pay out a significant portion of their earnings as dividends.
The second part of the formula will raise eyebrows: It calls for investing in these stocks “on margin” — that is, borrowing money to buy more shares than could otherwise be purchased. To match Buffett’s long-term return, the researchers found, a portfolio would need to be 60% on margin — borrowing enough so that it owned $160 of “cheap, safe, quality stocks” for every $100 of portfolio value."
It can be easy to overlook the extent of this leverage, since Buffett is able to borrow from other parts of his business. But that doesn’t mean the company isn’t still leveraged, Frazzini argues. According to its most recent annual report, for example, the total value of Berkshire’s holdings are double the company’s net worth, implying that its current leverage is about 2-to-1 — somewhat higher than its long-term average.
Employing margin can magnify profits, of course. It also increases potential losses when things go wrong. But note that the formula combines a heavy use of margin with stocks that tend to be much less risky than the market, so the net result can still be a portfolio that is no riskier than the market as a whole.
‘Margin call’ risks
To be sure, a heavily margined portfolio will always run the risk that, if its holdings fall enough, of getting a “margin call” — the need to come up with additional cash. Berkshire Hathaway has been able to sidestep that risk over the last 50 years. Despite a heavily reliance on leverage, its worst return in any calendar year was a loss of 9.6%. And its book value has been less volatile than the S&P 500 SPX -0.01% . Volatility is a common measure of a portfolio’s risk.
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