What Is Return On Equity – Warren Buffett’s Favorite Number

This lesson focuses on Return on Equity (ROE), a crucial metric for stock investors. Warren Buffett places great emphasis on ROE and it is a quick way to determine if a company is worth investing in. The value of stocks is similar to bonds, as outlined by Warren Buffett in an article he wrote in 1977 for Fortune magazine. In the article, he discusses his views on how inflation affects bonds and equities, and how he values stocks and bonds similarly. In order to understand ROE, it’s important to understand how Buffett values stocks and bonds. Bonds have a fixed coupon payment and the value of a bond is all the money you will receive from it over the course of ownership, discounted to present day value. With stocks, instead of receiving biannual coupon payments, you receive quarterly dividends and the value of a stock is based off the growth of its book value. With a bond, you receive a par value back once the term limit expires, while with stocks, it is indefinite and based on the growth of the book value. This lesson provides a snapshot of ROE and while it is an important number to understand, it does not replace understanding the intrinsic value calculator which provides a deeper understanding of a company’s value. Overall, this lesson provides insight into the value of stocks and bonds, and highlights the importance of understanding ROE as a stock investor.