The Business of Value Investing.pdf

134 The Business of Value Investing

term “ circle of competence ” is widely known but not necessarily

truly understood. It goes beyond simply understanding a business.

Since befriending Bill Gates over 15 years ago, Buffett probably has

read every single Microsoft annual report. I think he understands

the business better than many technology investors. But Buffett

doesn ’ t simply defi ne his circle as understanding the operations

of a business. He wants to know the entire industry, the competi-

tive forces, the regulatory environment, and anything that might

be of signifi cance. Armed with this information, Buffett then can

handicap his investment odds and determine if they meet his

requirements. The technology sector doesn ’ t meet Warren Buffett ’ s

requirements.

All investment activity involves some risk. In exchange for that

risk, the market offers investors an opportunity to earn rates in

excess of the U.S. Treasury ’ s risk - free rate. Otherwise, stock markets

would be of little value. Discipline prevents investors from assuming

risks that they don ’ t need to take on to earn excess returns. Having

the discipline to remain inside your circle of competence enables

investors to do two very important things.

1. Disciplined investors rarely ever abandon an investment at
   the first sign of trouble.


2. Disciplined investors rarely ever chase an investment that is
   the fad of the day.

Not falling prey to these two actions may be the most valuable

skill that any investor can hope to possess. When it ’ s all said and

done, you succeed in investing by selling a security for more than

you paid for it. By not jumping at the fi rst sign of trouble or chasing

rising stock prices, you stand a better chance of investment success.

Regardless of the company, it takes conviction to invest against

the general market consensus. By zigging when the market zags,

you are sticking your neck on the line. You are setting yourself

up for criticism from the investing establishment. When Warren

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