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Warren Buffett’s Simple Formula for Picking Great Stocks

Credit: The Motley Fool

It’s often said that Warren Buffett’s approach to investing can’t be profitably employed by the average investor. The rationale is that Buffett’s wealth and prestige give him access to deals that most of us never hear about or couldn’t afford even if we did.

But if you spend time reading Buffett’s writings, it becomes clear that this opinion is wrong. Not only is the billionaire from Omaha, Nebraska, in the U.S. open and honest about his approach to investing, but he’s also clear that his strategy can be used just as effectively by small investors.

Take this excerpt from Buffett’s 1977 letter to Berkshire Hathaway shareholders:

We select our marketable equity securities in much the way we would evaluate a business for acquisition in its entirety. We want the business to be one (1) that we can understand; (2) with favorable long-term prospects; (3) operated by honest and competent people; and (4) available at a very attractive price.

This is remarkable in its simplicity. Buffett isn’t interested in risky, complicated, high-flying, growth stocks. He doesn’t bet on speculative turnaround stories. All he wants are genuinely great companies trading at decent prices.

A glance at Berkshire’s portfolio of common stocks bears this out. Its biggest holdings are some of the oldest, most-established, and best-known companies in America. They include Wells FargoCoca-ColaAmerican Express, and Wal-Mart, the youngest of which has been around for more than five decades.

Berkshire Hathaway holdings

Buffett doesn’t have exclusive access to companies like these. While Berkshire’s stakes are enormous, they were accumulated in the same way that mom and pop investors would go about doing so. That is, by buying publicly traded shares on the stock market.

It stands to reason that Buffett’s success has less to do with exclusivity and more with his discipline in identifying great companies and buying them when they’re trading for a discount. “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price,” he said in 1989.

And it would be a mistake to overlook the fact that Buffett holds stocks for decades. “When we own portions of outstanding businesses with outstanding managements, our favorite holding period is forever,” Buffett wrote the previous year.

The individual investor who wants to get rich cannot deny the raw power of these insights. All of us can spot great companies. All of us have the ability to buy shares in these companies during market downturns. And all of us can hang on to them for decades, as opposed to selling out at the first sign of profit or loss.

The trick is to do so. As Walt Disney put it, “The way to get started is to quit talking and begin doing.”

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. This article was written by John Maxfield and first published on fool.com. It has been edited for fool.sg.