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March 25 - May 13, 2025
The ability to do what you want feels like more than just happiness—it feels like joy. It feels like pure freedom.
“Financial freedom” could mean having just enough in the bank to add flexibility to our lives—to stay at a low-paying job we love and be able to easily support loved ones, to work part-time, to have reliable childcare, to quit a salaried job and start a nonprofit, to move to a safer neighborhood, to travel, to simply have a financial cushion in the bank for the apocalypse. To live the life each of us was born to live, whatever that might be. Then there is the ultimate goal: to be truly financially comfortable at the time that we want to fully retire or, even better, to be able to forget the
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“Inflation has a historical average of 3 percent per year, so you do have to get an average of about 3 percent return per year just to offset inflation.”
Stock markets, however, typically rise with inflation because company revenue and earnings typically rise commensurately.* In sum, inflation hurts savings but helps stocks.
“Twenty-six percent happens to be the exact compounded annual rate of return if you double your money in three years. That’s the goal—double your money every three years.
Buffett says if you’re not going to learn to invest properly, then buying a low-fee index that tracks the market like the S&P 500 is the next best choice—acknowledging that you’ll get a market return of maybe 7 percent on average. Basically, you’re betting on America going up over time. That’s probably a good bet because America has a durable competitive advantage over other nations.
“Basically, there are four pretty straightforward mathematical components to achieving financial freedom: 1. Minimum annual spending 2. Years remaining to invest 3. Money to invest 4. Required rate of return on the investments
EMH perfectly explains why: any attempt to outsmart the market by picking “good” companies would be futile because every good and every bad company is already priced to where it’s a 50 percent probability that the stock price will go up and a 50 percent probability that the stock price will go down.
Buffett concluded that there has to be inefficiency in the market for all these investors, all independently investing with the same method, to be able to exploit gaps between price and value. “When the price of a stock,” he declared, “can be influenced by a ‘herd’ on Wall Street with prices set at the margin by the most emotional person, or the greediest person, or the most depressed person, it is hard to argue that the market always prices rationally. In fact, market prices are frequently nonsensical.”
Alan Greenspan, who in 1997 said, “The stock market has become irrationally exuberant.” He said that the supposedly rational and efficient market was manic; that the market was acting on emotional whims, not reason. Shiller proved that Greenspan was right and the market regularly behaved irrationally. This was the first major shot fired into the EMH paradigm
What all this means is that value investing works. It really does. Find a business you really like. Wait for the inevitable economic recession to reduce earnings of public companies to start a cycle of fear in the market and the mass selling—also known as a stock market crash—that will bring prices below their values. As most fund managers sell when other fund managers sell, there will be fewer and fewer buyers and the prices go down. Wait for your favorite business to go on sale. Buy. Now sit back and wait for the economic cycle to increase earnings and for the inevitable greed to kick in as
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“If the Wilshire GDP ratio is around 60 percent, then, overall, the market is priced under its real value. If the ratio is over 100 percent, as it was in 1999, 2007, and now, it’s an indication that the market is overpriced.”
But if it stays overpriced like this, there will still be opportunities to invest in specific companies in specific industries. You just keep researching, keep reading, keep looking. That way, you’ll be ready when an industry-wide or market-wide Event happens.
Dad calls them the Big Four Numbers: Big Four Numbers Number Which Financial Statement? Definition 1. Net Income (also called Net Profit or Net Earnings) Income Statement Profit after all costs of making that profit have been deducted 2. Book Value (also called Equity) + Dividends (if any) Book Value: Balance Sheet Dividends: Cash Flow Statement Value of the business if it were closed down and all its assets were sold (assets minus liabilities), before any dividends were paid out 3. Sales Income Statement Amount earned from selling (revenue) 4. Operating Cash Cash Flow Statement Actual cash
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“I’d like to see each of the Big Four Numbers growing at 10 percent or better each year,” Dad said. Those are called the Big Four Growth Rates.
Management Numbers: (1) Return on Equity, (2) Return on Invested Capital, and (3) Debt
Return on equity is: net income (found on the income statement) divided by equity (found on the balance sheet).
RETURN ON INVESTED CAPITAL (ROIC) = NET INCOME / (EQUITY + DEBT)
“Look for a company with an ROE and ROIC at 15 percent or better, each year, for the last ten years or so.
Three Methods of Pricing/Valuation 1. Ten Cap price (based on Owner Earnings) 2. Payback Time price (based on free cash flow) 3. Margin of Safety valuation (based on earnings)
He simply multiplied the annual Owner Earnings of the farm, $28,000, by ten: $280,000. If he got the farm for that price, the $28,000 of Owner Earnings meant he would get a 10 percent return on his investment in the first year. That’s a good, solid return, and he was likely to get a much higher one in the future as Owner Earnings grew with higher crop prices and better production. So he offered $280,000 for the farm. And he bought the farm—not figuratively, literally.”
The Margin of Safety is a price below the company’s value that will protect us from most mistakes.
“Okay, that said, if you have lots of money and you want to have an income from your portfolio to spend—as opposed to reinvesting the income—then investing in companies with dividends is one way to go. Get the quarterly dividends, live off that, and hopefully your stocks will also go up. If they don’t, eh, you still have the dividends.”
“Yeah, for the rest of us, dividends are money that can get taxed and then has to be put right back to work in another investment. For investors trying to get to financial freedom, dividends are a bit of a problem.”
