Warren Buffett: How to Invest for 2023

So 2022 was a rough year for investors, and people are worried about what's ahead. That's not a secret. The US stock market has been down over 20 percent, and this only tells part of the story. There are many stocks that were formerly high flyers that are down 50, 60, or even 70 in some cases.

At first glance, 2023 isn't looking any brighter; investors have plenty of things to be worried about. Inflation is still at its highest level in decades, interest rates are rising, and if those two things aren't enough, add on top of that the economy is expected to enter a nasty recession in 2023.

So in this video, we're going to analyze Warren Buffett's advice on how to invest during the challenges ahead in 2023. These challenges include inflation, rising interest rates, and investing when the economy is likely heading for a recession. There are four principles from Warren Buffett that I want to highlight that will help you navigate these challenging times ahead.

So make sure to stick around to the end of this video, because these principles are things that you can begin applying to your investment approach today to help you avoid making mistakes and losing money. Now let's get into the video.

Number one on our list is to view price decline as a buying opportunity. Prior to 2022, the last decade or so in the U.S. stock market was one of the longest bull runs ever. The S&P 500 bottomed in March of 2009 at around 750. It ended 2021 at nearly 4,800. This was a total return of 540, one of the best times in the history of the stock market.

There is a feeling among many investors that stocks could only go up. Well, 2022 was a different story. 2022 proved that stocks can, in fact, go down. Most people view stock market declines as a bad thing. Warren Buffett makes the argument that if you're in a period of your life where you're still saving money and investing it, you should be happy when stock prices fall.

In a 2020 interview with CNBC, Buffett said net buyers of stocks benefit when the stock market goes down. By net buyers, he means investors who buy more stocks than they sell. Given that most of the viewers of this channel are under the age of 65, if you're watching this video, there's a good chance that you are what Buffett refers to as a net buyer of stocks, and you should get excited when the stock market falls.

Let me explain what he means. A stock represents a small ownership stake in a company. If you own a share in a company like Apple, you're actually a very, very, very small owner of that company. Let’s use a simple example to demonstrate what Buffett means when he says buyers of stocks benefit when prices go down.

Let's say you buy one share of a hypothetical company called XYZ Corporation for ten dollars. There are a hundred shares outstanding of XYZ. The one share you own represents a one percent ownership stake in the company. This is calculated by taking the number of shares you own (one) and dividing it by the total shares outstanding (100).

XYZ Corporation is a great company, and you're super excited about its future. Because of this, you want to own as large a percentage of the company as possible. A few months pass, and the stock price of XYZ Corp falls to five dollars from the ten dollars you paid for your share. Most people would be upset at seeing the price of the stock they own fall, and this is a completely normal reaction. People hate the feeling of losing money.

However, if you're going to be a net buyer of this stock, here’s why it is a good thing. The stock is now trading at five dollars a share. For the same ten dollars that you spent buying your first share, you can now buy two shares of the same stock. This means that you now get double the ownership in XYZ Corporation for the same price as when the stock was trading at ten dollars per share.

These two shares represent a two percent ownership stake in the company. This is why Buffett says falling stock prices are a good thing. As stock prices fall, each dollar you spend on stocks buys you a bigger ownership piece of the company. The opposite is also true: as stock prices increase, every dollar you spend buying stocks actually buys you a smaller ownership stake in the company.

This is why Buffett has said that people with years of investing and saving ahead of them shouldn't get excited when the stock market skyrockets. Warren Buffett likes to explain this concept using hamburgers of all things as an analogy. Here's what he had to say: "To refer to a personal taste of mine, I'm going to buy hamburgers the rest of my life. When hamburgers go down in price, we sing the Hallelujah Chorus in the Buffett household. When hamburgers go up in price, we weep."

For most people, it's the same with everything in life—they will be buying except stocks. Everyone always says you should buy stocks when prices fall, but few people understand the math of exactly why. Once you understand the math behind it, you can more confidently view a falling stock market as the buying opportunity that it is.

While others have shied away from the market, Buffett has been using the fallen stock prices as quite the buying opportunity. So far in 2022, Buffett has bought a whopping 66 billion dollars worth of stock for the Berkshire Hathaway portfolio just through the end of September. If stock prices continue to fall in 2023, I think it is pretty fair to assume that Buffett will continue to buy large amounts of stock.

Number two on our list is to only buy stocks and businesses you understand. Ever since the early days of the stock market and Wall Street, people have been tempted to buy stocks and businesses they know absolutely nothing about. This trend arguably hit an all-time peak in 2020 and 2021.

Legendary investor Peter Lynch used to tell the story of a guy who would hear a stock tip while on the bus to work and would go out and put a large portion of savings into a stock he knew nothing about. This guy would buy the stock just hoping it would go up. Almost always, the stock would go down in price, and the guy would panic sell because he had no idea what the company was in the first place.

Replace the word "bus" in that story with the word "internet," and it sounds a lot like what happened in 2020 and 2021. People would hear about a stock on the internet, including even here on YouTube, and would buy it without having a clue about the business. Buying stocks that you don't have a deep understanding of is arguably one of the easiest ways to lose a lot of money in the stock market.

This is where Warren Buffett's concept of the circle of competence comes in. The circle of competence has been used over the years by Warren Buffett as a way to focus investors on only investing in stocks they know best. This is what Buffett had to say about the concept in his 1996 shareholder letter: "What an investor needs is the ability to correctly evaluate selected businesses."

Note that word "selected." You don't have to be an expert on every company or even many—you only have to be able to evaluate companies within your circle of competence. The size of that circle is not very important; knowing its boundaries, however, is vital.

Picture a circle. This represents your circle of competence. Stocks that fall within the circle are those that you are an expert on. You have a deep understanding about the company and its industry. To put it another way, you have an edge. Buffett refers to investing as a no-called strike game.

Here's what he means: each day you have the opportunity to buy any stock you want at the price it is currently trading at. You get offered up thousands of potential stocks to buy every second of every day. You can get offered Tesla at 200, Apple at 150, Coca-Cola at 60, Disney at 100, Netflix at 300. The list goes on and on. You can watch these names go by day after day.

There's no penalty for doing nothing. According to Buffett, one of the biggest keys to successful investing is only acting when you see an opportunity that falls well within your circle of competence. But when that opportunity does come along, you have to act big.

This is one of the biggest reasons Buffett is so successful: he's willing to sit on his hands for an extended period until the right opportunity comes along. This is where people made mistakes in 2020 and 2021. They saw other people seemingly making a ton of money in the stock market and things like Bitcoin; they were suffering from FOMO or fear of missing out, so they jumped into investments they simply didn't understand.

And don’t let this happen to you in 2023. Next on our list is to ignore economic predictions. Just type in the words "2023 recession" into Google or here on YouTube, and you will be flooded with articles and videos about how the economy is going to enter a massive recession next year.

It's human nature to want to be able to successfully predict a recession, to be able to sell your stocks right before the economy crashes, wait until stock prices hit a bottom, and then get back into the market and ride the wave back up to the top. This is many investors' perfect dream.

However, Buffett says factoring in economic predictions is the wrong way to go about investing. At the 2015 Berkshire Hathaway annual meeting, Buffett even went as far as to say any company that has an economist on its payroll has one too many employees. Buffett was talking to a college class when he was asked a question by a student about the economy and whether or not it was a good time to invest because the economy might be heading into a recession.

This is what Buffett had to say: "What you really want to do in investments is to figure out what's important and knowable. If it's unimportant and unknowable, you forget about it." Macro factors are important, but in my view, it is not knowable.

According to Buffett, in order for a piece of information to be included in an investment decision-making process, it needs to pass a simple two-step test. That information has to be: one, important and two, knowable. When it comes to economic predictions, they definitely meet the first part of this test. The economy certainly has an impact on stock prices.

The S&P 500 peaked out at over 1500 in the fall of 2007 before the Great Recession. Stock prices then fell from that peak by over 50 percent as the economy entered into arguably the worst economic slowdown since the Great Depression. Even Buffett would agree that the economy is important when it comes to investing.

Where economic predictions fail the test is when it comes to criteria number two: being knowable. Despite plenty of people that claim otherwise, Buffett has repeatedly said that he knows no one who can accurately and reliably predict the economy. Because the future of the economy is unknowable, it fails the second part of our two-part test.

As a result, Buffett recommends not factoring in economic predictions into your investment decision-making process. So this naturally leads to an important question: if we shouldn't focus on economic predictions, what should we spend our time on instead? In that same talk with college students, Buffett said investors should focus on understanding businesses.

Take Buffett's largest holding, Apple, as an example. When Buffett was deciding whether to invest in Apple, he wasn't focused on what the economy would look like next month or next year. Instead, he was focused on understanding Apple as a business. He wanted to know things like how much pricing power the company has, what separates the company from its competitors, how much cash it will generate, what it will do with that cash, and whether it was undervalued at its current price.

These kinds of things are knowable and a much better use of your time. Right now, the market is super focused on what will happen with inflation, interest rates, and the economy. While all of these things are certainly important, I would make the argument that they're not knowable. Investors would be better off following Buffett's advice and not letting predictions about these things factor into their investment decision process.

This is a perfect lead-in to Buffett's principle number four: have a long-term perspective. One of the most important lessons I have learned from studying Warren Buffett is just how important it is to have a long-term perspective when investing. Let me tell you a quick little story.

The year is 1941 in Omaha, Nebraska. Warren Buffett is 11 years old. While other kids his age are running around outside, Buffett had already discovered his life's calling: investing. At just 11 years old, Buffett made his first investment: six shares of a stock named City Service for 38 dollars a share. Shortly after he buys the stock, the price plunges— a story all of us can relate to.

The stock declines from the 38 dollars Buffett paid for it to 27 a share. Young Warren is panicking. He thought the stock was a winner for sure. Even worse, Buffett had convinced his sister to go in on the deal with him. Every day, Warren's sister reminds him that they are losing money. After a while, the stock price recovers and Warren sells for forty dollars a share.

At first, Warren is happy having made a little money on the investment, that is until the share price skyrockets all the way to 200 dollars a share. Young Buffett was too worried about the short-term price movements to see the bigger picture. This taught Buffett an important lesson about ignoring short-term movements in stock prices and instead focusing on the long term.

Buffett has taken the lesson he learned when he was just 11 years old to heart. Take a look at how long Buffett has held some of his best investments. Buffett first bought Apple in 2016. Shares in railroad BNSF first got bought in 2007. American Express first appeared in the portfolio in 1993. Coca-Cola has been in the portfolio since 1988, and then there is the insurance company Geico. Berkshire now owns 100% of Geico, but Buffett's personal ownership of the stock goes all the way back to 1951.

Buffett's investment timeline is measured in decades and years, while most other investors measure their holding periods in weeks and months. For reference, most professional investors hold their average stock for less than a year. When you're able to have a long-term perspective like Buffett, it allows you to take advantage of a concept known as time arbitrage.

Time arbitrage is how an individual investor can outperform a professional investor. Here's what I mean: the vast majority of investors are extremely concerned with the short-term performance of a stock. This includes the so-called "smart money," the people who work at large investment funds, which as an industry collectively manages trillions of dollars.

When you work at one of those funds, your fund's performance gets measured every day, week, and month. How much money you make, and even if you're able to keep your job, is dependent on the short-term performance of your investments. Naturally, this causes you to be extremely focused on what is going to move the stock price in the very short term.

You want to know how I know this? I work at one of those funds, so I see this every day firsthand. While this is a big problem in the investment industry, you can use other investors' short-sightedness to your benefit. This is where time arbitrage comes in. Time arbitrage is where you're able to think long-term while other investors are being short-sighted.

Let's say there's a great company. This company is extremely profitable, has a strong market position, and is led by a great management team. Most of the time, a great company like this will be trading at a high price. But every once in a while, a company like this may experience a short-term setback.

Maybe they invested heavily in a new product that didn't turn out well. Maybe they had a weak order and did not hit their numbers. Or maybe the industry in which the company operates falls out of favor with investors. Whatever the reason, the short-term outlook for the company doesn't look too bright.

Investors that are overly focused on the short term have no choice but to sell the stock and look elsewhere. This puts even more downward pressure on the stock price. This is where someone with a long-term perspective can benefit. If you're able to think long-term and look beyond these short-term concerns, that dip in the stock’s price can represent a great buying opportunity.

This is how Buffett has made some of his greatest investments—he was able to be long-term focused while everyone else was focusing on short-term concerns. If you're able to follow in Buffett's footsteps and apply this long-term perspective when it comes to investing, you will be better off as a result.

So there you have it! Even though 2023 has plenty of challenges for investors, it's especially important to keep Buffett's investment principles in mind. Make sure to subscribe to the channel, because it's my goal to make you a better investor by studying the world's greatest investors. And if you enjoyed this video, make sure to check out this other video here, because I’m sure you'll like it.

It covers what stocks Warren Buffett has been buying lately, and who knows, the video might just give you your next investing idea. Talk to you again soon.