11 ways to invest your ISA like Warren Buffett

Faith Glasgow explores Warren Buffett's investing secrets and what they can teach us about growing our investment wealth.

If you’re new to buying individual equities, it can be a daunting prospect. On the London Stock Exchange alone, there are almost 2,500 listings; worldwide, around 43,200 companies are listed on public markets.

Large businesses or small, resilient or vulnerable, well or poorly run, expensive or well-priced: how can you identify the winners?

• Invest with ii: Open an ISA | ISA Investment Ideas | Transfer a Stocks & Shares ISA

In the face of such choice, you need guidelines from a master; and where better to start than by studying the investment principles of one of the most successful investors of all time – the Sage of Omaha, Warren Buffett?

Buffett, now aged 92, has been the chair and the largest shareholder of investment company Berkshire Hathaway (NYSE:BRK.B) for more than 50 years, and is estimated to be worth more than $100 billion (November 2022), making him the sixth richest person in the world.

But his methods are not rocket science. In a nutshell, he invests by seeking out high-quality companies with great track records such as Coca-Cola (LSE:CCH), Goldman Sachs (NYSE:GS), Apple (NASDAQ:AAPL) and Diageo (LSE:DGE), buying them at less than their intrinsic value, and then holding the stocks for a long time.

So, what practical tips can would-be equity investors glean from his methods?

1) Value investing provides a ‘margin of safety’

Value investors such as Buffett hunt out stocks that they believe the market is under-appreciating. The difference between the market price of the stock and its ‘intrinsic value’ (worked out through quantitative and qualitative research in the company) provides a ‘margin of safety’ against errors of judgement or calculation in assessing the real value of the business.

In other words, if you only buy a company when the shares trade at a discount to their intrinsic value, the margin of safety means you’re much less likely to suffer significant losses.

As Buffett memorably put it: “Rule number one is never lose money. Rule number two is never forget rule number one.”

• The great investment strategies: value investing
• The great investment strategies: the greatest value investor ever

2) Focus on what you know

One of the key elements in Warren Buffett’s approach is to invest only in industries, companies and business models he understands. That doesn’t necessarily mean inside knowledge of an industry, but it does call for thorough, systematic research.

If you can’t get a clear grasp of how a company makes money, or the factors and themes driving prospects for that industry, he advises looking elsewhere.

• Visit our YouTube channel to view our experts’ tips for 2023

3) Look for quality

Within the universe of businesses he understands, Buffett as a value investor is exceedingly picky about the companies he buys into. He is not interested in cheap companies per se, but instead seeks out attractively priced, high-quality companies with strong values, robust finances, high returns on invested capital, and great management teams capable of maintaining current standards.

A Buffettism worth remembering is that “it’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price”.

• This is what the ideal share for 2023 looks like

4) Identify those with a ‘competitive moat’

Another important aspect of the quality driver is the competitive or industry moat - the aspect of a business that sets it apart from its competitors and makes it difficult for them to catch up or mimic what it does. This might be intellectual property such as a unique process, technology or product, or a great brand, or financial strength.

A business with a wide competitive moat cannot afford to be complacent, but it has a head start in maintaining pole position in its market. But these companies are scarce, and finding them involves focused research.

5) Avoid excessive diversification

Great companies with sustainable advantages trading at an attractive price are few and far between, which means those who follow Warren Buffett’s approach tend to be conviction investors running relatively concentrated portfolios of their best ideas.

As Buffett puts it: “Opportunities come infrequently. When it rains gold, put out the bucket, not the thimble.” 

Concentrated portfolios also make it easier to keep close tabs on each holding, and avoid the risk of dilution of returns through the addition of less impressive or positively mediocre stocks.

6) Don’t follow the crowd

As an investor, it’s all too easy to follow the crowd, selling holdings when markets fall and staying away until sentiment has improved and then tagging along once other investors have started buying again.

Similarly, there is real danger in buying stocks because they’re popular. They may be great companies, but they won’t be undervalued if everyone wants a piece of the action.

• Share Sleuth: sticking to my knitting after worst yearly performance

Contrarian thinking requires you to go against the grain, in both bullish and bearish environments. Buffett famously advised investors to “be fearful when others are greedy, and greedy when others are fearful”. Thus, if you’re on the hunt for great companies at low prices, market volatility is likely to present valuable opportunities to invest.

In his annual letter to shareholders of February 2022, following the booming markets of 2021, Buffett wrote that “today, we find little that excites us”. That all changed with 2022’s bear market mayhem, during which time he deployed cash to buy 19 stocks in the first three quarters of the year, according to official reports.

7) Invest for the long term

Buffett followers hold the undervalued stocks they buy for the long term, in the expectation that over the years the market will recognise the disparity between the share price and the intrinsic quality and prospects of those companies.

That means they must ignore short-term market and corporate ‘noise’ that might otherwise give them sleepless nights or push them to sell.

By holding for the long term there is also the opportunity to benefit from the power of compounding, as earnings and dividends are reinvested and themselves generate returns.

• 14 UK shares to own in 2023

Buffett can and does sell stocks on a regular basis, but his long-term mindset when he invests is exemplified in another quote: “Our favourite holding period is forever.”

8) Sell when you need to

Buffett’s long-term perspective does not preclude disposing of stocks. He sold out of three in the third quarter of 2022 alone.

But the point is that he buys a stock because he believes in the fundamentals of the company, and holds it for as long as he continues to believe in those fundamentals. He’ll sell only if something occurs to make the company intrinsically less attractive, or if the competitive landscape changes.

• 10 top themes for investors to consider in 2023

It’s also important to recognise that everyone - even billionaire Buffett – makes mistakes. When it happens, cut your losses; don’t compound it by continuing to throw good money after bad. As the Sage of Omaha put it: “The most important thing to do if you find yourself in a hole is to stop digging.”

9) Do your research

There is no magic or ‘get rich quick’ formula involved in successful investing. Much of Buffett’s success is built on hard graft: researching stocks, reading about wider economic and industry trends, and building his investment knowledge.

10) Use index-tracking funds as an alternative

Buffett is a pre-eminent picker of outstanding businesses, but the fact is that most investors fail to beat the market, often because of behavioural biases such as the inclination to try and time investments, or jump on popular bandwagons.

For those without the long-term timescale or commitment to research, he advocates the use of low-cost passive funds that track a broad market index such as the FTSE All-Share or the S&P 500.

11) Seek out active managers who follow Buffett’s philosophy

If you prefer the idea of a British expert running a Buffett-like portfolio on your behalf, the two best-known UK fund managers in his mould are Nick Train of Finsbury Growth & Income (LSE:FGT) trust  and the Lindsell Trains funds, and Terry Smith of Fundsmith.

• Nick Train: the best is still to come for these five shares
• Terry Smith sells two tech stocks after big losses
• Three big fund alternatives to Fundsmith

Alternatively, Keith Ashworth-Lord runs the CFP SDL UK Buffettology fund of around 30 UK holdings. But remember Buffett’s own advice and do your research to make sure these funds and their holdings really are what you’re looking for.