Some people dream of being a millionaire. Exactly how they plan to aim for a million can vary wildly – if they have an exact plan at all!
One approach to building wealth I like is investing in blue-chip shares with proven business models.
Scattergun approach versus laser focus
Some people scour the market looking for hundreds of small companies to invest in and hoping that one or two of them really hit the big time in the style of Amazon or NVIDIA.
I would do the opposite!
Rather than spreading my money across a plethora of different companies, I would stick to just a few. Twelve, ten, or even a handful of shares could work for me.
Covering the waterfront
The more I could concentrate my investment funds on shares that perform spectacularly, the better my long-term returns will be. Key to doing that is avoiding poor or average shares, so that I use my money to buy larger stakes in just a few great ones.
To illustrate, imagine if I started investing £500 a month into a hundred different shares, with an average compound annual return of 5%. It would take me almost half a century to become a millionaire.
If I put the same amount each month into just the best performing handful of those shares, with an annual compound return of 20%, my plan to aim for a million would succeed in 20 years.
Remember – I am buying the same shares in the second example as in the first. The difference is that, in the second example, I am not bogging my portfolio down with all the other weaker performers.
Learning from Warren Buffett
To be clear, 20% is an unusually high return. Some investors might achieve it for a year or two, but few can manage that feat every year on average for decades.
That is, however, close to the 19.8% compounded annual per-share increase in market value of Berkshire Hathaway in the decades Warren Buffett has been running it. When he was investing smaller amounts before heading Berkshire, his returns were even stronger.
Buffett offers a solution to an obvious problem with my example above: how could I weed out the merely average performers and find spectacular shares?
He suggests imagining that in my whole life I could make only 20 investment choices. Using that as a filter could help me weed out all but my strongest-seeming investment ideas.
Watching the theory in practice
Buffett’s investment in Apple (NASDAQ: AAPL) illustrates the point.
The company benefits from a large market of potential customers that I expect to endure for decades. It has specific things that help set it apart from competitors, including a strong brand, proprietary technology, and an ecosystem of services.
That sets the company up to be highly profitable – and quite possibly to stay that way. Last year, the tech giant reported net income of $97bn.
Apple faces risks. Revenue declined last year and that could happen again as cheaper competitors improve their product offerings.
But it is an example of the sort of spectacularly successful business in which Buffett likes to invest (it is his biggest holding by far).
If I wanted to aim for a million, I would focus on owning just a few companies with similarly attractive commercial characteristics.
