The stock market rally we’ve seen since November’s vaccine news has been one of the most rapid I can remember — the FTSE 100 is up by 20% since the start of that month. Bargains are getting harder to find, but I’m following the rules used by Warren Buffett.
This strategy has helped me generate healthy profits from the market recovery we’ve seen so far.
Buying shares: an overlooked bargain?
When shares are rising rapidly, I often feel as though I should be doing something. Anything. After all, everyone else seems to be buying shares and making quick profits. The reality is that timing the market like this is difficult. It’s easy to lose a lot of money.
So the first thing I do in situations like this is to remember Mr Buffett’s advice on taking a long-term view — “you can’t produce a baby in one month by getting nine women pregnant”.
I don’t rush into the market unprepared, trying to buy shares that are rising. Instead, I focus on finding shares to buy that still offer good value and long-term prospects. An area where I’ve often had success is buying companies with temporary problems. Mr Buffett agrees, saying that “we want to buy them when they’re on the operating table”.
One example of a stock that’s missed out on the recent stock market rally is FTSE 100 software group Sage. I reckon the market is being blinded by short-term news and is not seeing the long-term potential of this business.
Sage is on my buy list at the moment. I think it’s the kind of unloved quality stock Mr Buffett might buy in the US market.
What Warren Buffett would do now
After such a strong run-up in share prices, I think there’s a reasonable chance the market will slow down over the coming months. In fact, I hope it does, because it will give me another chance to buy shares in great businesses at good prices.
Mr Buffett has a quote for this, too. He says that “opportunities come infrequently. When it rains gold, put out the bucket, not the thimble”.
The way I read this is that I need to research stocks I want to buy ahead of time. That way I can act fast when prices fall, picking up bargains. This approach worked well for me last year and I’m sure it will do again.
Quality vs value
Warren Buffett started out as a value investor, buying unloved businesses at bargain prices. He’s had a lot of success this way but admits that it’s important to focus on quality, not just price.
“It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price,” he famously said.
What this tells me is that if I’m buying shares in a good company, they don’t need to be dirt cheap. A fair price is acceptable. Over time, the value of the business should continue to rise.
Right now, I think focusing on quality is more important than ever. Some companies are going to struggle to deliver attractive returns to shareholders, even when the world returns to normal. By focusing on quality businesses with good growth potential, I hope to avoid these potential losers.
