When most people think of Warren Buffett and his savant-like investing ability, they’re reminded of his near perfectly timed buys of Coca-Cola and Gillette… blue-chips, primarily – or at least they became so after Buffett backed them.
Warren Buffett Made His First Million Buying ‘Cigar Butts’
What’s lesser known about Warren Buffett and his investing career is that in the early days he sought out to buy what were known as ‘cigar butts.’ These were obscure companies that were undervalued, and when you “looked at the total value of the shares, they were somehow worth less than the assets of the company,” according to a BBC documentary. The term cigar butts came from the fact that you could pick up these companies for next to nothing, but there was still a little bit of value left in them. So investors and fund managers, such as Buffett, would buy them, cut costs and in some instances sell off their assets. This strategy was instrumental in Buffett making his first million, although it left a sour taste in his mouth as he didn’t enjoy making such unpopular decisions.
The point is, Warren Buffett began his legendary investing career buying what we would call small caps in today’s world – somewhat speculative, often beaten down, stocks. He’d find them by reading what was known in the sixties as the ‘Moody’s Manual’ – which would organize these obscure companies in a phonebook-like manner. It was a service all of us take for granted today as we have the internet at our fingertips.
Small Caps Gave Warren Buffett His Start
When you look at many of today’s wealthiest people, they often got their springboard cash by either starting a new company and taking it public, or buying into small companies, often startups, at cheap valuations. From there, particularly if managing other people’s money, they move into blue chips as word quickly spreads of their ability to earn an impressive return. As successful money managers’ book values increase, they’re almost forced to enter into the blue-chip space due to the scale in market caps and the liquidity in that marketplace.
Although the terms ‘small cap’ or ‘microcap’ are arbitrary in respect to valuation, we here at Pinnacle love this arena as it provides the ability to speculate and work in what we consider to be the most exciting and interesting area of the stock market. Small or micro caps are extensive ranging in industries, and they span the globe. They allow you to invest in ‘the entrepreneur,’ and there are seemingly endless opportunities with companies’ valuations getting hammered overnight, spinoffs, hundreds of IPOs every year, and incredible performers providing four, five, even ten times returns on the back of a big deal.
Around the 23:40 mark of the documentary from BBC on Warren Buffett (above), the host summarizes how Warren Buffett made his first million. Small caps, potentially even micro caps, were fundamental to Buffett getting his start. Enjoy the video…
