Monday, May 17, 2010

Why Warren Buffett is So Rich

Warren Buffett is a king, an oracle, and a God to the financial world. I personally idolize him; you will see more of him quoted and paraphrased on this blog than any other person. Over his long life, he built up an unimaginable fortune, mostly by investing in or swallowing up undervalued, unappreciated companies. The premise seems so simple, yet nobody has been able to amass anything close to his fortune using his methods. While there are plenty of self-made billionaires who founded their own companies, nobody has quite done it like Buffett has. Just as the Earth has just the right composition, temperature, and atmosphere to sustain life that a billion other planets cannot, Warren Buffett had the perfect combination of temperament, intelligence, upbringing, and passion to make him one of the richest men in the world.


While it is undeniable that Buffett is savvy, he is also a genius in the intellectual sense. He has a high IQ, is excellent at math, reads at a lightning pace, and possesses an incredible memory. As a college student, he would read all of his accounting textbooks cover to cover and memorize the material before the semester even started. Today, he reads five newspapers every morning, a feat which would take many adults (and probably some financial professionals) a good portion of the day to complete. He also spends hours every day reading annual reports, from which he can often glean accurate valuations within a matter of minutes. He can compound interest and discount cash flows in seconds, without the use of a computer or a calculator. These natural gifts are an incredible asset to have in the financial world as it allows him to internalize massive amounts of information and simplify everything to a few calculations.

Passion for Investing and Business

Warren Buffett has been focused on one thing and one thing only ever since he was a small child - making money. He started selling gum and soda at six years old and bought his first stock at 11. He read all of the business books in his house, and was particularly enamored with the book One Thousand Ways to Make $1000. Instead of having normal teenage hobbies, he instead found pleasure in starting and running his own businesses. The most infamous example was his pinball machine business in which he and a partner bought pinball machines for $25 apiece, placed them in local barbershops, and maintained them for a portion of the profits. He later sold the business for $1,200 or the equivalent of over $11,000 today. In high school he partnered with friends and ran multiple businesses, including golf ball wholesaling and selling food at the local ballpark. It is safe to say that he acquired much of the business acumen a man might get in graduate school before he turned 18.

Hard Work

Buffett also had (and still has) a tireless work ethic, mostly driven by his passion for business and his desire for success. He worked an early morning paper route for many years as a teenager, and eventually came to manage other paper boys in addition to running his own route. This job in addition to his other businesses net Buffett about $5,000 before he left for college, which is nearly $50,000 in today's dollars. After completing his graduate education at Columbia, he was determined to get a job working for his mentor and former teacher, Benjamin Graham (even offering to work for free) and was eventually offered a job. By the time Graham closed shop a few years later after, Buffett, only 26, was already a millionaire by today's standards by saving and investing his salary wisely.

Frugal Lifestyle

Warren Buffett would not have gotten off to this incredible head start had it not been for his lack of interest in material things and his penchant for frugality. He has simpler taste than most middle-class Americans, even as a billionaire today. By not squandering his earnings on frivolous things, he was able to begin compounding his wealth early, which ended up paying massive dividends down the road.

Business Genius

Buffett has always been able to earn extraordinary returns by not only investing and compounding his own money, but also by finding access to additional sources of capital. When Buffett started his investment partnership, the precursor to Berkshire Hathaway, he invested a mere $100 of his own money. However, unlike many money managers, he took the fees that he was being paid and reinvested all of it back into the partnership. Having enough in his personal account to live on, he allowed the power of compounding to take hold on his snowballing partnership stake. Just six years after he started the partnership, his share had grown to $1 million, and when he liquidated it eight years after that, his stake was worth $25 million, or around $140 million in today's dollars. Later with Berkshire Hathaway, he made insurance the foundation of his company. This allowed him to make massive returns by investing not only the cash generated by his businesses, but also the float from the insurance premiums. He continued making investments and purchasing undervalued companies that he understood, earning him a 20% annualized rate of return at the helm of Berkshire Hathaway.

So why is Buffett one of the richest people in the world? It's simple. Warren Buffett's passion was business, and his true profession was investing his own wealth; he simply let some other smart people along for the ride. He harnessed his business intelligence to amass a small fortune at a young age, and then invested it better than anyone else possibly could, turning it into billions.

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