Warren Buffett's eye for quality stocks like Apple and Coca-Cola is key to his success, elite investor Jeremy Grantham says
Warren Buffett's taste for quality has been key to his investing success, Jeremy Grantham says.
Buffett has made a fortune on stocks like Apple and Coca-Cola, which Grantham touted as exceptional.
Grantham disagreed with Buffett over the virtues of stock buybacks earlier this year.
Warren Buffett's eye for high-quality stocks like Apple and Coca-Cola has been a major driver of his incredible success, Jeremy Grantham says.
The famed investor and Berkshire Hathaway CEO shifted in the 1960s from "cigar butt" investing, or looking for dirt-cheap companies with a final puff of value to extract, to a focus on buying "wonderful businesses at a fair price."
"It's a very big component of his excess return, of his free lunch if you will," Grantham recently told "The Compound & Friends" podcast. The bubble historian and long-term investment strategist at GMO was discussing a dividend discount model he helped develop around 45 years ago, and noting it could factor in the quality of a company like Microsoft into a valuation of its stock.
"He had this revelation before we started this game," Grantham said about Buffett. "He predates us."
The British investor pointed to a company's pricing power, global reach, brand appeal, dominance over its competitors, and big profit margins as some of the "quality" criteria that can justify a higher valuation. Some of Buffett's best-performing stocks fit that mold, including Apple, Coca-Cola, and American Express.
Indeed, Grantham appeared to use Coca-Cola as a benchmark of quality during the interview.
"They aren't necessarily higher quality than Coca-Cola, but combined with growth they're pretty damn high quality," he said about the Big Tech stocks that have led the market higher this year.
Grantham also underscored how challenging it's been for Apple to earn large profit margins for iPhones, MacBooks, and other physical products that are expensive to produce and transport.
"Apple, it was even pretty capital intensive," he said. "It's a kind of metal basher isn't it, on which they had to superimpose style and luxury and functionality."
"They just had to be one step ahead of the competition in the combination of style and functionality," he continued. "This is really desperately difficult and incredibly unusual."
Buffett shelled out $1.3 billion to establish Berkshire's stake in Coca-Cola by 1994. He hasn't touched the position since, and it's now worth about $24 billion.
The investor and his team paid roughly $30 billion for their Apple position between 2016 and 2018. The holding has more than quadrupled in value since then to around $170 billion today, and now accounts for close to 50% of the entire worth of Berkshire's stock portfolio.
Grantham's latest comments echo Buffett's shareholder letter this year, in which he attributed the bulk of Berkshire's success over the past six decades to "a dozen truly good decisions" like investing in Coke and American Express.
The GMO cofounder may be aligned with Buffett on the value of quality, but he's disagreed with the Berkshire chief in the past. For example, he told the "We Study Billionaires" podcast earlier this year that stock buybacks pull money away from wages and reinvestment opportunities, and should be illegal as they're often conducted based on inside information. They also fuel speculation and drive stock prices higher by repurchasing shares from a company's least enthusiastic shareholders, he noted.
In contrast, Buffett has hailed thoughtful buybacks as a valuable way to allocate capital and reward loyal shareholders. Grantham joked that if companies were forced to pay dividends instead of buying back shares, "Warren will have to pay some taxes."
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