One of the most widely quoted pearls of wisdom from legendary investor Warren Buffet is, “Rule No. 1: Never lose money. Rule No. 2: Don’t forget rule No.1.”
It’s a quote people love sharing on social media. After all, if you’re posting the number one investing rule of the Oracle of Omaha, it makes you look pretty smart.
Unfortunately, nobody (on the Internet at least) seems to be able to find an original written source for the quote or even the of name somebody who claims to have heard Mr. Buffett utter it.
However, that doesn’t conclusively proved that he never said it. So for the sake of argument, let’s agree that he did give those words as serious advice, and try to figure out what he might have meant.
Beyond The Obvious
Telling an investor to never lose money is like telling a football coach to never lose a game or a sea captain to never let his ship sink. Of course that’s the result they most want. But each of these endeavors cannot be undertaken without the risk of loss. A ship tied to the pier can still sink. A forfeited football game counts as a loss. And cash sitting “safe” in the bank loses future buying power every day due to inflation.
Additionally, Mr. Buffett himself has not been able to live up to his own No. 1 rule. Berkshire Hathaway stock, his largest investment, has experienced sustained declines in value in the last two recessions. In early 1999 Berkshire began a year-long decline that saw the stock price lose more than 40% of its value. And it happened again in late 2008.
But maybe this is where investors were wise to follow Buffett’s No. 1 rule, with a long-term interpretation and greater understanding. After both declines, shareholders who were patient saw their stock eventually regain its value and go on to be worth multiples of its pre-recession high.
Notice that the rule doesn’t state “never let your investments decline in value.” Short-sighted investors, who sold out at or near the bottom of the stock price decline, broke the rule by turning their paper loss into actually “losing money.”
This aligns with another well-known quote commonly attributed to Buffett that goes, “Unless you can watch your stock holdings decline by 50% without becoming panic-stricken, you should not be in the stock market.” (Again, difficult to source conclusively.)
It was very apropos for investors who from late 2007 through early 2009 saw the S&P 500 Index lose about half its value. Those who panicked and sold near the bottom missed out on the recovery. Those who maintained a long-term perspective and remained disciplined saw the index steadily regain its value until nearly doubling its pre-recession high.
Whether Mr. Buffett actually made this point or not shouldn’t detract from its powerful perspective. Pursuing inflation-beating, long-term returns from stocks requires a commitment that you’ll have to endure periods of significant decline throughout your investing lifetime. Stock return premiums can be significant over time but only for those disciplined enough to continue pursuing them when every headline and TV talking head is declaring disaster.
But possibly the best advice for Warren Buffett admirers is in a quote we know for sure that he made.
In his 2014 letter to shareholders, he directed that upon his death the money he has set aside for his wife be invested in broadly diversified, low-cost mutual funds. He said, “What I’m suggesting is that this is what a very high percentage of people should do.”
Not as profound or as share-worthy as the other two quotes. But certainly more easy to follow.
Talk to us about how a low-cost, globally diverse portfolio can play a major role in your long-term investment strategy. And then ask us to hold you accountable to exercise the critically-needed patience while others may be panicking over market volatility.
And always be suspicious of quotes you find on the Internet.