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72 Billion Reasons To Buy Shares

The four richest people in the world, in order of wealth, are Windows creator, Bill Gates, telecom magnate, Carlos Slim Helu, Warren Buffett and the owner of Zara, Amancio Ortega.

Gates became prosperous by knowing his bits from his bytes. Helu dialled up his wealth from telecoms, while Ortega racked up his fortune through the rag trade.

Warren Buffett, who is worth US$72 billion, made his money through no-nonsense investing.

I think most of us would struggle to develop a new computer operating system. We might also be all fingers and thumbs, if we tried to turn our hands to retailing. And I suspect many of us would not know the first thing about setting up a telecoms company.

Simple rules

But we can all invest. What’s more, we can all invest as well as Warren Buffett, provided we stick to some very simple rules about buying and selling shares.

Warren Buffett, you see, is not one of the world’s greatest stock pickers. There, I’ve said it. Warren Buffett is not a fantastic stock picker.

He failed to spot Amazon when the internet retailer was still in its infancy. He didn’t even recognise that Apple would one day grow to be one of the biggest companies in the world.

But that has not stopped Buffett from being fabulously rich.

What Warren Buffett is very good at, though, is asset allocation. Over a period of 50 years, the Sage of Omaha has slowly knitted together an eclectic mix of companies that apparently have nothing in common.

Swimming in cash

But they do have something in common.

They generate oodles of cash. Buffett is swimming in cash.

With a continuous flow of money at his disposal, Buffet can choose how best to allocate the funds generated to deliver more cash, which he can allocate again to produce…you guessed it… even more cash.

Sometimes he would invest the money in his most promising holdings. On other occasions he would buy new businesses to add to his already sprawling portfolio of companies.

But every dollar that he allocates is done without emotion, sentiment or historical bias. Or as Buffett said: “If horses had controlled investment decisions, there would have been no auto industry.

The next best thing

However, it has to be said that Buffett has one very big advantage. He owns many of the businesses in his portfolio, outright. That means he has access to most of the profits and most of the cash that his companies make.

We don’t. But we do have the next best thing.

We have dividends, which we can choose to do with as we wish. And as investors we can choose how best to allocate those dividends to generate more returns.

Some of the best places to invest the cash could be in the companies that we already own. So look through your portfolio for businesses that can generate high returns on equity.

It’s that easy

What that means is really quite simple.

Equity is the stake that we shareholders have in a business. So a high return on equity means that we are earnings lots of profit for every dollar that we have invested.

If a company can generate the profits without assuming too much debt, then that is even better. It means that it is not exposed to additional risks such as undesirable fluctuations in interest rates.

Currently, half of Singapore’s large caps, which make up the Straits Times Index (SGX: ^STI), and mid-cap companies generate good returns on equity. Around half of those have not taken on massive debts.

So investing is not really that hard. And if you can do it without emotion, sentiment or historical bias, then you could be on your way to becoming as good as Warren Buffett.

A version of this article first appeared in Take Stock Singapore. Click here now for your FREE subscription to Take Stock -- Singapore, The Motley Fool's free investing newsletter.

Written by David Kuo, Take Stock - Singapore tells you exactly what's happening in today's markets, and shows how you can GROW your wealth in the years ahead.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Director David Kuo doesn’t own shares in any companies mentioned.