The Four Filters of Warren Buffett and Charlie Munger (Review)

As investors we are well advised to study the styles of those that are successful at our craft in the hopes that we may emulate them.  Two of the most studied characters of recent memory are Warren Buffett and Charlie Munger.  With their unparalleled returns the two have achieved almost pop culture celebrity status.

Bud Labitan in his book The Four Filters Invention of Warren Buffett and Charlie Munger attempts to boil down Buffett and Munger’s school of investment into what he calls the “4 filters”. In detailing these filters Labitan draws on an impressive collection of speeches, shareholder letters, books, and other communication material from both Buffett and Munger.  As a reader of this same material I was impressed at the themes Labitan draws out of the work that I had so casually overlooked (Though I seem not to have been too far off).

I will devote separate articles to discussing each of the filters in detail from my own perspective as I feel there is a considerable amount to be said of each.  For the sake of the book though I will provide a short overview of each of the filters Labitan believes make up Buffett and Munger’s investment criteria.

Filter 1 Understandable First Class Business

To be sure that a company will continue to make money it is essential to understand the source of its current funds and have an appreciation of how it will make money in the future. If an investor can’t understand how money is being made, then the company is to be avoided.  First class companies are not overly complex and have a history of consistent returns without wide deviations.

Filter 2 Sustainable Competitive Advantage

There are two types of advantages that a company can have over a rival: a cost advantage, or differentiation advantage.  Buffett and Munger always seek out companies with these  advantages as it guarantees that the business won’t loose its market position to a low cost competitor or a competitor with a much better market position.

Filter 3 Able and Trustworthy Managers

When you invest in a company you are making a bet on the future of the business. The fate of any business is entirely in the hands of its senior managers so you are, by proxy, making a bet on the current managers. Finding those that are trustworthy and understand the shareholder’s needs is critical in selecting a company to invest in.

Filter4 Bargain Price

Once a company has passed the first three filters it has earned the designation of a high quality company with a good future. Finding it at a bargain price means you have to assure that you don’t overpay for this quality. Mr. Market may be playing tricks with your selected business; by not overpaying you assure that you are taking full advantage of the investment opportunity.

Conclusions

The Four Filters Invention, is a great quick read- well worth picking up. It will enable you to better understand the investment decisions that Buffett and Munger make and perhaps provide you with tools to help you make better decisions in your own portfolios.

Other Articles In The Series:

1. Buffett and Understandable Businesses
2. Buffett and sustainable and competitive Advantage
3. Buffett and Able and Trustworthy Managers