Wednesday, December 4, 2013

Warren Buffet’s Favorite Exercise

I like learning from super investors of the world. When I think about super investors, the first thought that comes to mind is Warren Buffett.

Buffett’s favorite exercise is going to a certain year, looking at the top 10 - 20 companies by market capitalization, and then determining whether they are still around or not. This fits in perfectly with the long-term investment strategy of the Oracle of Omaha, where he tries to select companies that are still going to be around and doing well 15 – 20 years into the future.

For example, using the Standard & Poor's, I looked at the top ten companies in the index as of 1983:

YEAR
COMPANY
%
MARKET
% OF
8312
Int'l Bus. Machines (IBM)
1
$74,346
6.09%
8312
Exxon Corp (XOM)
2
$32,114
2.63%
8312
General Electric (GE)
3
$26,626
2.18%
8312
General Motors (GM)
4
$23,414
1.92%
8312
American Tel & Tel (T) (new)
5
$17,234
1.41%
8312
Stand'd Oil,Indiana
6
$14,848
1.22%
8312
Schlumberger, Ltd (SLB)
7
$14,503
1.19%
8312
Sears, Roebuck
8
$13,150
1.08%
8312
Eastman Kodak
9
$12,603
1.03%
8312
duPont(EI)deNemours
10
$12,405
1.02%

Thirty years later, only two of these companies went bankrupt (Eastman Kodak and General Motors), while the rest did well for their shareholders. The past 30 years were a tumultuous period for all of the companies however, as it was characterized by a flurry of mergers, acquisitions, reorganizations and changing of business focus. For example, at one point in 1993, International Business Machines (IBM) was very close to falling on the wrong path. In another example, Sears had acquired and then spun-off a handful of companies before merging with Kmart in 2004 to form Sears Holdings (SHLD). An investor who put $1000 equally in each of those ten leading blue chips at the time, did very well 30 years later if they held patiently all the stock they received and reinvested their dividends.

The AT&T you see listed is the long-distance operations of the original Ma Bell, after the split of the 7 regional baby bells. The company was acquired by SBC (one of the 7 baby bells that were split from Ma Bell in 1984) in 2005. Subsequently, SBC changed its name to the AT&T (T) we know today.

Exxon managed to merge with Mobil in 1999, and formed Exxon Mobil (XOM). This was quite interesting, because both companies originated from the break-up of Standard Oil Trust in 1911. You might notice Standard Oil of Indiana in the list, which was also a descendant of the Standard Oil Trust, and was later renamed Amoco. The company was acquired by BP in 1998.

In my investing, I look at the dividend kings, not as a list of recommendation per se, but for learning perspective. It is always a good idea to try and understand how some companies managed to boost earnings, so that they could increase dividends to shareholders for over 50 years in a row. For example, companies like Procter & Gamble (PG) were able to use their scale to their advantage in the new medium of television starting in the 1950s. Then the company managed to ride the wave of prosperity after the fall of the Soviet Union in the 1990s.

Full Disclosure: Long IBM, XOM, PG,

Relevant Articles:

Why Warren Buffett purchased Exxon Mobil stock?
Warren Buffett Investing Resource Page
How Warren Buffett made his fortune
Check the Complete Article Archive

5 comments:

  1. Its amazing how simple this exercise really is. Its even more amazing that the greatest investor ever uses it. Keep up the great work, DGI. Little nuggets like this help us little guys out more than you know. Thank you, sir.

    ReplyDelete
  2. I agree that some companies you just can't go wrong with. As long as you continue to monitor them and make sure they are looking out for their shareholders interests.

    I also like learning from super investors and own some books like The Intelligent Investor by Ben Graham. It is hard to find the time and energy to read the whole book, but I have been skipping around a little.

    ReplyDelete
  3. Sounds like you're just researching for qualitative factors like brand recognition, loyalty, competition and resistance to paradigm technology shifts! All great things to go with the quantitative analysis.

    ReplyDelete
  4. DGI,
    Going further down that list, to smaller companies, I wonder if one might find a gem. A company that had only just started to raise dividends yearly and became a great company, raising dividends and becoming successful for decades. It gives rise to the idea that some companies today that will one day become dividend kings have only recently begun to raise dividends. It's why on occasion I will take a shot at a stock that has a shorter record of increasing dividends if I am really impressed with the business and it fits the overall model of the kind of company I want to own.

    Merry Christmas and Happy New Year DGI,
    A

    ReplyDelete
  5. Interesting exercise showing that investing in the big companies can still pay off. Many times I hear that I won't get rich investing in the large blue chip dividend growth stocks because they aren't growing quickly anymore. Well, looking at your list and realizing those companies are still the largest and best companies makes me think I'd be a happy owner of them. And most likely, fairly well off had I been consistently buying and holding shares of those companies over the long term.

    ReplyDelete

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