Warren Buffett’s Take on Modern Portfolio Theory

When it comes to investing, the first name that pops into your mind is likely Warren Buffett. Most consider him to be the greatest investor in the world. While he definitely turns many investments into profit, he isn’t a genie with a crystal ball. He’s a shrewd businessman that knows how to work the market to his advantage. So what does Warren Buffet say about Modern Portfolio Theory?

Modern Portfolio Theory or MPT is built on the theory that the markets are efficient. The premise is to build a portfolio that is comprised of various asset classes and different sectors. Then over time, you rebalance the portfolio as necessary. So how closely does his strategy for investing align with Modern Portfolio Theory?

Not much at all really. Buffett is far from a typical investor though. He’s a billionaire for one. When he invests in a company, he often ends up with a seat on the board. Therefore his investments benefit from his managerial skills. How many board seats have your investments landed you? With so many investors in the world, it’s certainly not inconceivable to think that some are going to outperform the market every year. Warren Buffett happens to be one of those that seems to do just that and he does it year after year.

I personally believe MPT is a safer way to manage money for my clients. When looking at a large set of people, MPT provides a simple, proven, academic, risk-reducing approach to portfolio management. However, there are times I will take the single equity approach in my personal portfolio knowing it can bounce like a basketball from volatility. I’m also not comparing my portfolio to a benchmark like the S&P 500 on a quarterly or annual basis. On the contrary, many clients compare the investors’ results to a popular index very frequently during the year. Many professional money managers follow MPT because of the constraints placed by clients.

So while there’s plenty to be learned from Buffett, it’s important to understand he’s in a league of his own. Comparing his returns to those you’ll get with MPT really isn’t even a fair analogy. It’s apples and oranges.

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