If you want to know how to invest like the best, a good place to start is with Warren Buffett.
He now ranks fourth on Forbes' Richest Billionaires list, with a new worth of $53.5 billion.
Part of the reason for his success: He was never swept up in the euphoria of Wall Street crowds.
Behind the small-town-boy-turned-mogul story is a keen mathematical mind that has been honed into a highly successful stock-picking machine. Buffett began under the mentorship of the late Benjamin Graham, the father of value investing. Buffett perfected his skill through countless hours of studying annual reports of virtually every American publicly traded company over the last five decades.
Now the Oracle of Omaha's Berkshire Hathaway empire consists of some of the most recognized U.S. brands.
Buffett's "Big Four" investments – American Express Co. (NYSE: AXP), The Coca-Cola Co. (NYSE: KO), International Business Machines Corp. (NYSE: IBM) and Wells Fargo & Co. (NYSE: WFC) – represent the kind of businesses Buffett trusts his money to.
"The four companies possess marvelous businesses and are run by managers who are both talented and shareholder-oriented," Buffett wrote in his 2012 Berkshire Hathaway shareholder letter. "We much prefer owning a non-controlling but substantial portion of a wonderful business to owning 100% of a so-so business."
By taking a closer look at Buffett's career, and his favorite investments, we pinpointed three key factors to Buffett's investment formula that separate him from the common investor.
These factors, employed at key moments in Buffett's decision-making process, reveal a sophisticated formula for stock selection, as well as exploiting opportunities when other investors overreact.
How to Invest Like Buffett: Three Key Strategies
First, for Buffett, the biggest factor for determining an investment is whether a company has a competitive advantage and how durable that competitive advantage is.
Buffett developed the concept of the durable competitive advantage to uncover companies that had key advantages in brand power, earnings stability, evergreen products/services that are in high demand, and a proven track record of recurring sales.
In fact, the majority of Buffett's biggest winning investments have been in companies that possess a durable competitive advantage that acts as a "moat" to block competition, survive recessions, and weather industry setbacks.
The second key factor is that Buffett didn't get rich by "playing the stock market," but by playing the people and institutions who play the stock market.
It is a paradox of human nature that people will ignore their long-term interest due to their short-term mentality, but that is how Buffett maintains a distinct edge over other investors and the market.
Buffett knows that Wall Street and investors are typically short-sighted, and when any negative news comes, an appropriately priced stock rapidly becomes an undervalued stock.
Then Buffett exploits the market's overreactions by scooping up the stock at its bargain price.
Buffett's final key success factor is his incredible patience.
Buffett devotes hours of study to go over annual reports. He will continue to track a company's performance in the hopes that one day it will trade at an attractive valuation, at which point he will quietly buy as big of a position as possible.
Once he owns a stock, he will hold onto it patiently until a catalyst comes along to unlock its value potential.
One of the best examples of this is Buffett's Washington Post purchase.
Buffett invested $10 million in The Washington Post Co. (NYSE: WPO)in 1973, he sat on the position for almost three years while the stock sat a virtual standstill around $5.69 and barely registered a heartbeat. It did decline for a period, down about 25% a year-and-a-half after Buffett's investment.
However, the stock went on to trade as high as $942 a share and log a more than 16,000% return, becoming one of Buffett's greatest investment stories. His original $10 million turned into more than $1 billion.
A 16,000% return? It certainly pays to study how to invest like Buffett.