Warren Buffett’s First and Best Investing Lesson

In the spring of 1942, Warren Buffett made his first investment in the stock market when he purchased three 3 shares of Cities Service stock, an Oklahoma natural gas company that Warren’s father, Howard, had frequently recommended to clients at the stock brokerage that he ran and operated.

By the fall of 1942, the stock quickly fell from $42 to $32, before coming back to $45 in short order. Warren Buffett did not like seeing his investment fall from $126 to $96, which in 1942 dollars is like seeing a $5,000 investment fall to the $4,000 range nowadays, and then he sold at $45 which is more like turning $5,000 to 5,200 in today’s dollars.

Shortly after this, the price of natural gas began to boom, and by 1943, the stock rose to $110. In today’s dollars, if Warren Buffett had held onto his Cities Service stock, it would have been the equivalent of turning $5,000 to $15,000 in short order.

Buffett’s lesson (granted, he was barely a teenager) that he later recounted was that there was value in “letting winners run” rather than taking a small profit as soon as the opportunity presented itself. Real multi-generational wealth doesn’t come from capturing 10% and 20% capital gains here and there, but rather, by letting an investment like Coca-Cola grow from x to 52x as it has done over the past 35 years.

Many of you saw the recent news that Warren Buffett is lending $10 billion to Occidental so that it can acquire Anadarko Petroleum. In exchange, Berkshire Hathaway is getting $800 million in preferred Occidental dividends as well as the opportunity to purchase 10% of the company in 2029 (or possibly later under the terms of the offering) at Occidental’s 2019 pricing.

The great irony of all this? Cities Service was acquired by Occidental in 1982 for $4 billion. Warren Buffett is essentially bringing the story of his investment life full cycle by acquiring possibly 10% of the successor company to the first company that he had ever invested in his entire life and quickly sold. I think it is fair to say that Warren Buffett internalized his lesson from the sale of Cities Service, as he has negotiated for himself contractual terms that commit Berkshire to Occidental for the next decade and then give it the opportunity to potentially buy ten percent of the company at a steep discount.

Once you have the capacity to identify good investments, the next risk you will face is the temptation to sell them when the stock looks pricey on a P/E ratio or some other metric. I can’t tell you how many articles I’ve read over the past couple of years that discussed selling Starbucks, Alphabet, Disney, or Nike on the basis that its P/E ratio looked a little frothy. There is a point to worrying about valuation, but it is the type of concern that might drag down future returns from 15% to 12.5% annualized. So what. It will still beat the S&P 500 from the higher base without any future work on your part. My argument is that the life-changing money comes from identifying those fast growers and watching the net profits rise at a great clip year over year, never letting them go.

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