As an investor, you’d be hard-pressed not to have heard about Warren Buffett. The ‘Oracle of Omaha’, his US$108 billion fortune, and his freely given investing advice are famous around the globe. That’s why I apply Buffett wisdom when seeking shares to add to my ASX portfolio.
While Buffett doesn’t typically invest on the ASX, I believe many of his philosophies can translate to Aussie shares.
Using Buffett wisdom to hunt down ASX bargain shares
Let’s start with the billionaire’s “first rule of investment”:
Never lose money.
Well, that’s often easier said than done. But the investing great has a simple trick to ensure he’s protected against risks.
That is, buying undervalued shares that offer ‘economic moats’.
An economic moat is an advantage a company holds over its peers, be it low-cost production or a globally recognised brand. Fortunately, it can be relatively simple to figure out if a company offers such a moat.
On the other hand, identifying the true value of a share – and thereby, whether it’s undervalued – can be tricky.
It’s also one of the most impactful aspects of any investment.
If a stock is bought for more than it’s worth, it’s arguably more likely to prove a poor investment.
Conversely, buying a share for less than its true value can kick start an investors’ returns.
However, the market doesn’t always correctly assess a company’s worth. For that reason, different investors tend to use different methods to find a company’s true value.
Delving into a company’s balance sheet
Of course, one simple way to assess value is metrics like a price-to-earnings (P/E) ratio or a price-to-book (P/B) ratio. A dividend yield might also act as a value gauge.
Though, these measures don’t delve into why a share might be trading at the valuation it is.
Additionally, they’re not all that much use when surveying a loss-making share.
Finding ASX shares on sale
It’s for that reason that identifying whether an ASX share is ‘on sale’ is incredibly personal.
For instance, an investor might not know much about lithium mining, but could have a good gauge on the retail space.
That same investor might be quick to recognise an ASX retail share trading below the true worth of its business.
I personally tend to turn to companies that have already turned a profit and boast a loyal customer base. I also like those that offer ‘sticky’ products that customers often can’t go without, such as, in my opinion, Xero Ltd (ASX: XRO). The company’s accounting software could count as one of Buffett’s touted ‘economic moats’.
My #1 rule when buying ASX shares
Unfortunately, no investment, no matter how considered, is guaranteed to provide returns.
It’s likely that some of the ASX shares I believe to be ‘on sale’ could actually be fairly valued, thereby compressing my potential returns.
That’s why I also aim to create a diverse portfolio of stocks. That way I can help to protect my portfolio against many of the major risks involved with investing.