If I’m reading the most recent annual report for Berkshire Hathaway correctly, the company has $56 billion in publicly traded equities out of total assets of $297 billion. And the annual report says later that 60% of those securities are in five investees. People tend to talk about Berkshire Hathaway as if stock picking was the majority of its portfolio, but investing in the stock market is just a relatively small part of their investments. Berkshire Hathaway owns numerous whole businesses (see page 98 of the report - Geiko, Dairy Queen, Benjamin Moore Paints, Fruit of the Loom, etc.) and so the “efficient market hypothesis” doesn’t really apply because they buy them outright in private deals.
A lot of people misunderstand the EMH. The EMH doesn’t mean that no one can beat the market. It just means that on average you won’t, unless you’re smarter or better informed than the average investor.
This may seem like a pointless truism but it’s significant because many people don’t appreciate it. For example, a lot of people think you can look at the balance sheet of a company and decide on that basis to invest in it and beat the market that way. But this generally violates the EMH, since the market as a whole has already wised up to the concept of balance sheets, and all your analysis is likely reflected in the price.
But that doesn’t mean that you can’t make money by doing that approach. It’s possible at a given time that the market will collectively undervalue a particular aspect, and you - smarter than them all - will be right. But being right when the market as a whole is hard to pull off. For every guy who thinks the market doesn’t appreciate the importance of balance sheets, to use the above example, there’s another guy who thinks the market overestimates the importance of balance sheets, and from an outsider’s perspective there’s no objective way to say who is right.
And then there’s luck. There’s always people who are lucky or unlucky. Investing in lottery tickets is a losing game, and you can’t prove it’s not from the fact that it worked out very well for some people.
In sum, there are two ways to beat the market under the EMH.
- Be smarter than the average bear
- Be lucky
As for Buffet, pick your choice.
I would also argue a ‘celebrity effect’ is at play here as well. The same way that Lady Gaga or other popular celebrity can make a clothing line or product gain market share by associating their name to it, I would argue Warren Buffett can do that by buying a stock.
That is, Warren Buffett thinks a stock is undervalued so he buys it. Other see what Berkshire Hathaway is doing, so they do the same thing. Suddenly the laws of supply and demand are such that demand increases and supply drops, raising prices. In some ways, it might be argued that Warren Buffett’s fame adds to the value of a stock he buys in and of itself. You tend to see some of that when larger funds like Fidelity chose to buy or sell a given stock as well.