Following Warren Buffett’s logical approach could lead to improving long-term returns after a stock market crash, in my opinion.
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Warren Buffett has a long track record of capitalising on stock market downturns. As such, it could be a good idea for investors to follow his advice at a time when the prospect of a second market crash appears to be relatively high.
The ‘Sage of Omaha’s’ long-term approach and focus on high-quality companies may help him in identifying the best investment opportunities while other investors are selling stocks. Over time, this may lead to market-beating returns.
Warren Buffett’s long-term approach
Warren Buffett’s time horizon is exceptionally long. In fact, his favoured holding period is rumoured to be ‘forever’. As such, he is unlikely to become too concerned about a temporary decline in stock prices. Although a market crash may feel as though it could last in perpetuity, the reality is that no market downturn has ever continued without eventually becoming a bull market.
Therefore, adopting a long-term view may help an investor to look beyond short-term chaos in order to purchase the best companies on offer. Certainly, it is extremely difficult to know when a market downturn will come to an end. However, indexes such as the FTSE 100 Index (FTSE: UKX) and S&P 500 Index (SP: .INX) have always recovered from their declines to post new record highs. Investors who purchase undervalued stocks and hold them for the long run therefore stand a good chance of generating impressive returns as the economy recovers.
If Warren Buffett instead took a short-term view of his portfolio, he would not be in a position to take advantage of a market crash. Instead, he would probably react to short-term market movements. This could lead to losses because of the unpredictable nature of stock prices over a short time horizon.
Buying high-quality stocks
Warren Buffett also buys high-quality companies in a market crash. They are more likely to overcome potential economic challenges and weak operating conditions than their peers. This may be because they have a more solid financial position or a clear competitive advantage, for example. Furthermore, they may also be better placed to benefit from a likely long-term recovery. They may have a unique product, a dominant market position or lower costs than their sector rivals that allow their bottom lines to move higher at a faster pace.
Through owning the most attractive businesses within a sector, an investor’s risks may be lowered and their return prospects could be improved. Therefore, it may be worth analysing companies within a specific sector to unearth the most attractive purchases that can deliver the highest returns in the long run.
Warren Buffett has previously engaged in relatively few purchases even during a market downturn. Therefore, it may be prudent to be selective when deciding which companies to purchase. Doing so may lead to a better portfolio performance and a stronger recovery as the economy returns to positive growth in the long run.
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Motley Fool contributor Peter Stephens has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
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