Warren Buffett’s investment record is undoubtedly remarkable. Berkshire Hathaway, Buffett’s investment vehicle, is considered an anomaly by some efficient market proponents. Over a period of 35 years—from 1976 through 2011—Buffett significantly outperformed the general stock market, generating returns of 19.0% in excess of the T-bill rate. During the same period, the general stock market produced returns of only 6.1% over the T-bill rate. His record is not without volatility and drawdowns; during the period from June 1998 to February 2000, the overall stock market was up 32% but Berkshire Hathaway lost 44% of its market value.

The authors examine Buffett’s ability to significantly outperform the general stock market as well as all mutual funds over his 30-year investment history to determine the factors that contribute to his investing success and whether building a portfolio that replicates his performance is possible.

Although much has been written about Warren Buffett and his investment philosophy, surprisingly little rigorous empirical analysis has been conducted to explain his extraordinary performance record. The authors seek to understand his performance on an empirical level. Buffett produced a Sharpe ratio of 0.76, almost double that of the overall market. Incredibly, Buffett generated a higher Sharpe ratio and a higher information ratio than all other US-listed stocks with trading histories exceeding 30 years during 1926 through 2011. He achieved a similar record against all actively managed mutual funds that have been in existence for more than 30 years—a truly remarkable record.

The authors examine whether such factor returns can be achieved after funding and transaction costs. Based on Buffett’s performance and the authors’ decomposition of his portfolio, the answer seems to be yes. So, how did he do it? The authors identify several underlying features of his portfolio: All investments are in high-quality stocks that are stable, profitable, and growing, with high payout ratios and low price-to-book ratios. Overall, these companies tend to be less volatile than the general market. “Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down,” Buffett has said. In addition, his access to inexpensive capital and his ability to leverage the self-generated float of Berkshire Hathaway’s insurance businesses help magnify his returns. His investing philosophy is consistent with other successful investors from the Graham and Dodd school who have achieved market-beating returns.

The standard academic factors—including market, size, value, and momentum—do not fully explain Buffett’s performance. The authors thus include two additional factors: the betting-against-beta factor (going long low-beta stocks and short high-beta stocks) and the quality-minus-junk factor (going long high-quality stocks and short low-quality junk stocks), which end up explaining the majority of Buffett’s alpha. By carefully constructing a systematic portfolio that includes these factors, the authors find that their Buffett-style portfolio generates significant alpha and performs comparably to that of Berkshire Hathaway. Buffett has said, “Ben Graham taught me 45 years ago that in investing it is not necessary to do extraordinary things to get extraordinary results.” Buffett’s investment results have broad implications because he and other value investors are at the center of a seemingly never-ending debate about market efficiency.

The authors analyze both the publicly traded securities Berkshire Hathaway holds and the private companies within it. Although both perform well, their results show that the public companies have a higher Sharpe ratio than the private companies, signaling that Buffett’s success is primarily the result of his ability to pick stocks rather than his management of the private companies within Berkshire Hathaway.

Stock and mutual fund data are from the CRSP database. The majority of the balance sheet data are gathered from the Compustat/XpressFeed database; the original 10-Ks and annual shareholder letters are used to fill in any gaps. The authors are unable to obtain Berkshire Hathaway’s stock price and Buffett’s private partnership performance prior to 1976, so the study covers the period from 1976 to 2011. Warren Buffett ran private investment partnerships from 1956 to 1969 and took control of Berkshire Hathaway in 1965. He began using Berkshire Hathaway as his primary investment vehicle after he closed his partnerships in 1969.

Warren Buffett’s success is not luck or chance but the reward for successfully investing in high-quality companies at a reasonable price and remaining highly disciplined over a long period of time. His success, along with that of other successful value investors, provides strong evidence against the efficient market theory. Buffett has said, “Observing correctly that the market was frequently efficient, they went on to conclude incorrectly that it was always efficient. The difference between these propositions is night and day.” Buffett’s ability to remain true to his time-tested investment convictions when other investors changed their investment strategies during market disruptions has served him and his investors well. Value investors can be rewarded for their patience and discipline, which serve as a contrast to Wall Street’s myopic actions.