Aswath Damodaran explains why investors copying Warren Buffett’s strategies don’t match the billionaire’s success

As global markets attempt to recover from March’s steep selloff, veteran valuation expert Aswath Damodaran says it’s natural for investors to feel unsettled and make choices they may later regret. He stresses the importance of developing one’s own investment philosophy rather than blindly copying successful investors.

In his latest blog post, Damodaran said times like this help investors build a core set of beliefs about markets and an investment philosophy reflecting those beliefs. “You may not be able to mend the damage to your portfolio, but it will help you find balance again and make sense of the noise around you,” he said.

Active investing is one of the most difficult games to win at

Damodaran, Professor of Finance at the Stern School of Business at New York University, said his experience teaching a class on investing in the late 1990s led him to draw certain conclusions. Firstly, he found that there are very few active investors who win consistently over time.


“Active investing is one of the most difficult games to win at, and one reason is that you match the average investor, effortlessly and almost costlessly, by investing in index funds. Active investing has the unenviable task of trying to be better than average, and by enough to cover the costs (research, data, personnel, transactions) associated with being active,” he said.

Difficult to separate luck from skill

Secondly, he observed that it is extremely difficult to separate luck from skill. Despite what investing books or classes may suggest, outcomes are often shaped by forces outside an investor’s control. As a result, determining how much of one’s returns comes from genuine skill versus sheer luck is far harder than most believe.

He also noted that successful investors follow vastly different paths. To illustrate, he pointed to three legendary investors — Warren Buffett, Jim Simons and George Soros — each of whom built success on fundamentally different market views and investment philosophies.

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Imitating successful investors doesn't pay off

Finally, Damodaran said that imitating successful investors does not provide much payoff. “The practices of successful investors have been probed and investigated by other investors and journalists, and some of them have dozens of books that claim to tell you the secret of their success,” he wrote.

He explained this with the example of Warren Buffett. The billionaire’s success is etched in history, with investors closely following the multitude of books that track his investing life, along with his annual letters to Berkshire shareholders, which laid out his investing perspective in detail. “That said, the investors who tried to follow in his footsteps, often imitating every aspect of his approach, have, for the most part, not been able to match his success,” Damodaran noted.

The valuation expert said that based on these findings, he concluded that there can be no one dominant investment philosophy that is the best for all investors, and there is a right investment philosophy for each individual that reflects that individual's views and beliefs about markets and characteristics as a person.

“First, an investment philosophy is much richer and more complete than an investment strategy, with the latter often coming out of the former. Thus, applying a screen to find stocks that trade at low multiples of earnings (low PE ratios or low multiple of EBITDA) is an investment strategy, but the investment philosophy that gives rise to that strategy is one that is built on markets under pricing companies with low growth or boring businesses, perhaps because investors are dazzled by growth and drawn to the excitement of newer businesses. Second, an investment philosophy is not an investment slogan. "Buy low, sell high" is an investment slogan, and a meaningless one at that, since that is the end game of almost every investment philosophy,” he wrote.

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Damodaran listed out why it is important to have an investment philosophy. “If you don't have an investment philosophy, it is almost a given that you will find yourself drawn to whatever strategies worked best in the recent past. Your portfolio will suffer from whiplash as you chase last year's winners, whether that be the Mag Seven or technology stocks or smallcap stocks, and while your turnover and transaction costs rise, you will have little to show in terms of returns,” he said.

Additionally, he feels that without an investment philosophy, the investors will be an easy mark for investment scams, drawn in with promises of upside with little or no downside. “If you do find an investment strategy that works at delivering returns, it is worth remembering that the clock is ticking, and that imitation and market corrections will cause that strategy to stop working, sooner rather than later,” he further said.

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of The Economic Times)