The Best Investment Advice—A Bird in the Hand Is Worth Two in the Bush
Warren Buffet and the first investment proverb written in 500 BC
My dad often reminds me that “a bird in the hand is worth two in the bush,” but I never fully understood the importance of this proverb until recently. Since early 2022 I’ve been watching a Warren Buffet YouTube video each day and in one of his annual investor meetings he brought up this proverb. It was only after watching this YouTube video that I started to understand the importance of this proverb in investment decisions. Let’s unpack the proverb and understand why its very important in the world of investing.
Firstly, to Warren Buffet there is no distinction between growth and value investing. Every investment decision has to do with current value and future value—growth is just part of the value investing equation. To put it simply, in investing you need to decide on how much value you will get in the future and how much current value you have. In 500 BC this was explained by the proverb “a bird in the hand is worth two in the bush.” During that period this was the most basic investment equation known to mankind and it described survival.
Today it’s just as simple as keeping a bird in your hand instead of risking it for two birds in the bush. However, Warren Buffet says you must answer a few basic questions before investing, they are:
How many birds are in the bush?
When are you going to get the birds in the bush?
What are the interest rates today?
Let’s understand each of these questions.
How Many Birds Are in the Bush
Before investing you need to understand that you are going to give up your hard earned cash (the bird in your hand) for a chance of more cash in the future (the birds in the bush). This is an investment decision that you need to make every time you invest money. You need to evaluate how much future cash is in the bush. You may think there are two times your cash in the bush or three times your cash in the bush.
You must use your best judgement by considering things like the dividend, the current book value, future cashflow, price appreciation, the economy, interest rates etc. Here is a simple example, if a stock has a book value of $20 and its currently trading at $5, how many birds are in the bush? You may conclude that buying that stock is worth 4 birds in the bush because 20 divided by 5 is 4 birds. However, this will only happen if and only if other investors realize the value of the investment too.
When Are You Going to Get the Birds in the Bush?
The next question you must answer is when are you going to get the birds in the bush. In other words, you need to evaluate when do you expect to get the future cash. For example, if you buy a stock trading at $5 and it pays a dividend each quarter of $0.1 then every quarter you will get 2% in future cashflow, that’s 6% per year. Obviously, this is a very simple example and the price of the stock may fluctuate, but it’s the idea that matters. The idea is that each quarter you will get the dividend which is the bird in the bush provided that there are no dividend cuts. And for true long term investors, the dividend is the only thing you will ever get since you will never sell.
For stocks that don’t pay a dividend it’s even harder to predict when you are going to get paid. For example, if a cyclical non-dividend paying stock is trading at $5 and you expect that the stock will trade at $7 in 5 years, it’s probably better to keep the bird in your hand because “a bird in your hand is worth two in the bush.” Especially given that you may get the bird in the bush in 5 years for $7.
Here is another example, suppose you paid $10 for a non-dividend paying stock 1 year ago and its now worth $12, therefore you made 20% in 1 year. It is probably better to sell the stock and keep the bird in your hand. Why? Because “a bird in your hand is worth two in the bush.” In other words, it’s better to lock in those 20% gains than risk losing them. In fact, the average stock market returns is about 10% per year, so it’s probably unlikely that you will make more than 20% and its better to lock it in. Especially given that the stock won’t be paying dividends during a down draft.
What Are the Interest Rates Today?
Another way to evaluate the bird in your hand is by looking at your current cash and the interest rate today. For example, if your bank account pays a 4% interest rate and a stock you are considering pays a 2% dividend yield than price appreciation aside its not worth trading your cash for that stock.
Now consider an interest rate of 2% and a stock that pays a 6% dividend yield which has not cut the dividend in 25 years. You might conclude that the stock is worth the bird in your hand because it pays 3 times as much as the cash in your hand.
Summary
In summary, it’s generally better to hold onto something than risk losing it. However, in every investment decision you take a risk, if you understand the risk and reward you will make better investment decisions. Furthermore, if the reward doesn’t make sense, don’t invest or consider selling!