Think Warren Buffett Hits Home Runs Every Time? His Portfolio Tells a Different Story -- and It Can Teach You a Valuable Lesson.

Wall Street follows every move Warren Buffett, the CEO of Berkshire Hathaway (NYSE: BRK.A)(NYSE: BRK.B), makes. There's a good reason for that, given the fact that the stock has trounced the S&P 500 index (SNPINDEX: ^GSPC) over the long term. But there's some nuance here when it comes to investment advice that you need to understand before you think you have to hit home runs every time you pick a stock.

What does Berkshire Hathaway do?

Berkshire Hathaway is a very complex company. Technically, it is a conglomerate, which means that it owns a lot of different companies. Usually, conglomerates own a few businesses in similar industries. Berkshire Hathaway has 189 subsidiaries and they vary across a wide spectrum of industries, from generating electricity to making paint.

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The company that Warren Buffett runs also owns a collection of publicly traded stocks. But here's the key -- the CEO basically invests in controlled businesses the same way that he invests in publicly traded stocks. He is buying good companies when he thinks they are attractively priced. Then he hires good managers, or simply keeps the good managers already at the company, and lets them grow their businesses. He only gets involved if there's a problem.

So it is quite reasonable to think of Berkshire Hathaway as something similar to a mutual fund with Warren Buffett at the helm. When you buy Berkshire you are hiring Buffett to manage your money for you. Buffett, however, has told investors that they shouldn't expect too much.

What does Buffett own?

Here's the interesting thing -- in Berkshire Hathaway's 2024 annual report, Buffett provided a synopsis of the companies he's bought over the years. He describes the portfolio as containing "a few rare gems, many good-but-far-from-fabulous businesses and some laggards that have been disappointments." These are the self-professed results of the man that Wall Street has dubbed the Oracle of Omaha.

To be fair, with 189 subsidiaries owned by Berkshire Hathaway, the description above shouldn't be at all surprising. It would be shocking if all 189 investments turned out to be home runs. That's just not how investing works. Which is the real takeaway for us mere mortals. If your portfolio contains some great picks, a bunch of OK picks, and a couple of real lousy ones, well, you are doing just as well as Buffett.

There are two keys to which Buffett attributes his success in this self review. First, Buffett has invested for the long term, allowing him to benefit from the growth of the businesses he owns. You can do that, too. The longer the better, which means start as early as possible. Second, try to avoid, or at least limit the damage, from big mistakes. This might seem like an obvious statement, but it really isn't.

Investing has been described as a loser's game. Which is a reference to tennis, in which non-professional tennis players can reliably win by just executing better than their opponent. If you can limit your mistakes, your opponent will eventually mess up and, effectively, let you win because they have made a mistake. The investment corollary is you will perform less well as an investor if you keep making (usually the same) mistakes.

There are any number of behavioral finance books that can lay out the common pitfalls, but I personally reread The Little Book of Behavioral Investing every single year. It is quick and easy to read and covers all of the high points I need to remind myself of how fallible I am.

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Avoiding mistakes is basically why Buffett recommends that most investors punt and simply buy an S&P 500 index fund. That allows investors to focus on saving money, which will likely have the biggest impact on their long-term wealth, anyway. But if you do choose to buy individual stocks, don't overreach or set too high of expectations for yourself.

All it takes is a few great investments, a collection of middling choices, and a small number of bad investments to build wealth over time. Focus as much attention, if not more, on staying away from bad companies.

Quality matters, so dump losers quickly

There's a fine line when it comes to avoiding bad companies. In this case, companies are different from stocks. Sometimes Wall Street misprices good companies because they are going through temporary problems. That can be a great time to buy a stock. But there are also times when a company is just as bad as the market price suggests, perhaps because of too much leverage, a weak or weakening business model, or a management team that isn't up to the task of running the business.

Stick with high-quality companies as best you can. And if you find a company's business isn't what you thought it was, then sell it as soon as you realize that you have made a mistake. This way, the gains from your big winners won't get dragged down by the losers. And you'll increase the chance that your portfolio will look like Buffett's.

A few gems, some middling investments, and as small a number as possible of bad ones should help increase your wealth significantly.

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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Berkshire Hathaway. The Motley Fool has a disclosure policy.