Warren Buffett has a famous quote that goes like this:
Rule No.1: Never lose money
Rule No. 2: Never forget Rule No.1
What does Warren Buffett really mean by the above quote? Does he mean that we must not lose money at all in our investments? I suppose so. However, will there be times where we will lose money since investments are not guaranteed? Absolutely! Warren Buffett has certainly lost money during his long tenure as a money manager. Does it mean that Warren Buffett is not practicing what he preaches since he has lost money on his investments? No, that is not how we should look at it. I believe when Warren Buffett said the quote above, there was a deeper meaning to it.
The deeper meaning behind “Never lose money” is actually to have the mindset that we should thoroughly analyse a business before buying. It’s the psychology that counts and not the action of not losing money. Behind every ticker symbol is a business. We must understand what the business does, how it makes money, does it have a clean balance sheet, does it have good cash flow and so on. Researching thoroughly gives us the confidence to buy into the business. Rushing into purchasing a business without doing proper due diligence can mean breaking Rule No. 1. Buying a stock just because it is hitting new highs can mean breaking Rule No. 1. Buying a stock due to a recommendation from your close friend can certainly mean breaking Rule No. 1. The bottom line is that we have to approach investing from a business perspective.
We must also remember that when we lose money in our investment (that is guaranteed!), we should not sweep it under the carpet. We have to analyse what went wrong to ensure that we will not do the same mistakes again the future. If we do not analyse our mistakes, we will not know how to improve upon them and our portfolio returns will not improve. Albert Einstein once said that insanity is doing the same thing over and over again and expecting different results. Insanity is making the same mistakes again and again and expecting our portfolio returns to be better.
In conclusion, I believe Warren Buffett’s famous quote has a deeper meaning to it. We need to have the proper mindset to ensure we “do not lose money”.