The title of this post may seem paradoxical. But it is not. There is a qualifier to the statement. The title should actually be “if you want to earn the amazing returns that Warren Buffett earned in the 1950′s you can’t invest like Buffett does today.” The reason is simple: he is a victim of his own success. He simply has too much capital to deploy to have very many great investing opportunities.

Buffett has famously said that he could make 50% returns per year on investments, but with one catch. He would have to have less than a million dollars to invest. I have written around this topic before. The advantage that small investors have over large investors and mutual funds is more opportunity. Our investing universe is much larger than  Buffett has  today. We can invest in microcaps and other less liquid stocks that wouldn’t move the needle for one of Berkshire Hathaway’s subsidiaries even if they could invest in sufficient quantities.

Before any one jumps in to defend Warren, as though the man needs a defense, I will state that because you have a larger investing universe does not mean you will have outsized returns, just that you have more opportunity to realize them.

Many of the advantages of a small investor are overlapping or intertwined. It is not always clear why a certain investment criteria yields better results over time. For example do small caps stocks perform better because of the liquidity premium or because they are not covered as widely by analysts. Both seem to have evidence supporting them.

Information disparity- Plenty of analysts cover  most large and mid cap stocks. For you to compete in the large cap investing universe you have to assume that either your analysis is better that professional analysts or that you see something they don’t see.  Both are possible, but probably not enough to get extraordinary returns.

Liquidity premium- Many investors avoid stock because they have low volume. But that is not always a problem, and in the case of a small investor, an advantage. For example, if you discover a stock that is $2.00 per share but only trades 1000 shares a day on average. If you need to buy 100,000 shares for it to effect your portfolio, there is a problem. It could take you a while to accumulate a position in the company without effecting the stock price in a way that undermines your investment. But for a small investor, a $1000 investment may be a significant portion of your portfolio so you you are not as effected by the low volume.  The limited liquidity then becomes an advantage since there will likely be a liquidity premium for owning a low volume stock.

Small Cap advantage- Studies have shown that investing in small caps over time can yield larger returns than large caps.

One Response to “Getting Warren Buffett sized returns by avoiding investing like Buffett”

1. Cheri Intermill
   September 26th, 2011 @ 9:14 pm

   Great Blog Buddy. Thanks for this

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