Thursday, March 12, 2009

Notes From Buffett Meeting 2/6/2009

Note: Students from Emory and 5 other business schools were invited to come visit Mr. Buffett for a Q&A session. These notes were reproduced to the best of my ability as I heard and as I could recall them from a collection of mine and other students' notes. There is no guarantee that this was exactly what was said, but the intent was to preserve the spirit of the message. Enjoy.

Buffett:
Did you hear they called off the Wall Street Christmas Pageant this year? They had trouble finding three wise men…and a virgin. There are many opportunities right now. The markets are very inefficient at times, and this is one of those times.

Kansas:
Berkshire has invested in several insurance companies, would you go into the health insurance business?

Buffett:
No. Health insurance is so ingrained into national policy that it is a tough business. It’s pretty adversarial. I’m not really that excited about it from a business perspective. I don’t want to write policies with high loan loss ratios. That being said, I would buy the stock of an undervalued healthcare insurer.

Insurance is an interesting business. You know, we underwrote a two year life insurance policy on Mike Tyson. I wanted an exclusion against women shooting him, but they wouldn’t let me.

South Dakota:
You’ve recently invested in Goldman Sachs and GE. Is the financial sector a good buy right now?

Buffett:
No sector is a good buy unless you understand the business. However, I do believe that there is good value and great opportunity now in the financial sector because it is extremely unpopular. Sector’s themselves don’t make good buys, companies that are undervalued make good buys. You know how to value a business, you project the future cash flows discounted to present and buy with a margin of safety. The earnings prospects need to be greater than the current value. Anything that is unpopular is always great to look at. If I was getting out of school right now, I would take a look.

Creighton:
How much and how does risk factor into your investment decisions? Would you invest in emerging markets?

Buffett:
In general, emerging markets are not great for me because I need to put a lot of money to work. Risk does not equal beta. Risk comes around because you don’t understand things, not because of beta. There are normally 10 filters or so that I go through when I hear an idea. The first is can I understand the business and understand the downside not just today but five to ten years from now. There have been very few times that I’ve lost 1% of my net worth. I might be risk averse but I am not action adverse. Mrs. B saved $500 over the course of 16 years to start and build Nebraska Furniture Mart. Tom Watson Sr of IBM said, “I’m smart in spots and I stay in those spots.” I just stay within my circle of confidence. When I bought Nebraska Furniture Mart in 1983, Mrs. B took cash and not Berkshire stock. Why? She didn’t understand the value of stock. She understood cash and that is what she took. I need only need to be right a few times and can let thousands of ideas go by.

Ted Williams, who wrote the “Science of Hitting,” broke the strike zone into 92 ball shaped sections. He knew, if hit in his sweet spot, he’d hit 430, a little further out, and he’d hit 350. You have to know your sweet spot. The beautiful thing about investing is that it’s a “No called strike game” where unlike baseball the only strikes in investing are when you swing. I don’t have to swing.

When I do invest, I don’t care if the stock price goes from $10 to $2 but I do care about if the value went from $10 to $2. Avoid debt. I decided early on that I never wanted to owe more than 25% of my net worth, and I haven’t… exept for in the very beginning. I like to play from a position of strength. I always try to have the odds in my favor. When I go to Vegas, I don’t go around putting $5 dollars on the blackjack tables. If someone wants to come to my room and put $5 on my bed, well that’s fine. I like those odds better.

Emory:
How do you think about value?

Buffett:
The formula for value was handed down from 600 BC by a guy named Aesop. A bird in the hand is worth two in the bush. Investing is about laying out a bird now to get two or more out of the bush. The keys are to only look at the bushes you like and identify how long it will take to get them out. When interest rates are 20%, you need to get it out right now. When rates are 1%, you have 10 years. Think about what the asset will produce. Look at the asset, not the beta. I don’t really care about volatility. Stock price is not that important to me, it just gives you the opportunity to buy at a great price. I don’t care if they close the NYSE for 5 years. I care more about the business than I do about events. I care about if there’s price flexibility and whether the company can gain more market share. I care about people drinking more Coke.

I bought a farm from the FDIC 20 years ago for $600 per acre. Now I don’t know anything about farming but my son does. I asked him, how much it cost to buy corn, plow the field, harvest, how much an acre will yield, what price to expect. I haven’t gotten a quote on that farm in 20 years.

If I were running a business school I would only have 2 courses. The first would obviously be an investing class about how to value a business. The second would be how to think about the stock market and how to deal with the volatility. The stock market is funny. You have no compulsion to act and a bunch of silly people setting prices all the time, it is great odds. I want the market to be like a manic depressive drunk. Graham’s Ch. 8, in the book Intelligent Investor, on Mr. Market is the most important thing I have ever read. Now think about the NYSE. You have thousands of companies to choose from. For me, that universe has shrunk because I need to put large dollar amounts to work. Attitude is much more important than IQ. You can really get into trouble with a high IQ, i.e. Long-Term Capital. You need to have the right philosophical temperament.

Penn State:
Why did you invest in Harley-Davidson?

Buffett:
I like the 15%. I measured that 15% against other credits and it looked attractive on both a relative basis and an absolute basis. Also, we have to have a certain amount of the portfolio go to debt. Lately, the government has become the guarantor for some companies but not for others and the “haves” and “have-nots” determined by certainty of government assistance rather than the credit quality. These finance companies have a problem getting funded, not with their customers. Any company where you can get your customers to tattoo your name on their body has quite a strong brand. For this investment I had to think what is the probability that they will not pay me back and would I want to own the company if they did not, basically that the equity isn’t worth zero. Risk premiums in the corporate bond market went from real low to real high. Right now, they’re out of whack. The flip side is that governments are overpriced. We have a bubble in governments. T-bills actually had a negative interest rate. I never thought I’d see that. A mattress is a better investment than the US 10 Year. Buying corporates and shorting the 10-year is a great idea and smart guys went broke doing it because even if you’re right, you need to be able to play out your hand. I always think about what I would do if a nuclear bomb went off or if Bernanke ran off with Paris Hilton to South America.

Texas:
Do you feel that the might of America has changed?

Buffett:
You can bet against the dollar, but I would never bet against America. The system in the U.S. has allowed the country to unleash more for the world than any other country. Since 1776, the U.S. had a different system than the rest of the world and that system unleashed the human potential. We were not the smartest nor did we have the best resources. This is the same system we have in place today with people of similar intelligence. I have and would bet against the U.S. currency, stocks, etc. but the United States prevails over time. There are all kinds of rocky roads but we have rule of law, equality of opportunity, and a meritocracy. We have a market system and people apply energies and imagination to come up with things someone would want. Everyone in this room is working far below his/her potential.

Kansas:
We know that you are a big bridge player. Do you think that bridge correlates to investing? Are there any traits or characteristics that might carry over from one to the other?

Buffett:
Bridge is the best game there is. You’re drawing inferences from every bid and play of a card, and every card that is or isn’t played. It teaches you about partnership and other human skills. In bridge, you draw inferences from everything and that carries over well into investing. In bridge, similar to in life, you’ll never get the same hand twice but the past does have a meaning. The past does not make the future definitive but you can draw from those experiences. I think the partnership aspect of bridge is a great lesson for life. If I’m going into battle, I want to partner with the best. I was playing with a world champion and we were playing against my sister and her husband. We lost, so I took the scorepad and I ate it.

South Dakota:
What are your views on derivatives and how do you think they have affected the global market?

Buffett:
In my 2002 letter to shareholders I referred to them as “weapons of mass destruction.” Derivatives are really just a way to create a product with a very long fuse, for example, 100 years, as opposed to stocks which settle in 3 days. That kind of system allows claims to be built up. AIG called me in September and told me they were about to get downgraded which would have required higher posting requirements. Now this is an enterprise that has been built up over decades and was effectively destroyed in 48 hours by these products. With derivatives, you’re exposed to counterparties and thus reliant on others. These claims built up over time to the tune of billions of dollars and when one falls, the whole system falls. Derivatives are not evil by themselves but rather everyone needs to be able to handle them. System wide, they’re rat poison. Berkshire holds many derivatives but we always hold the money at Berkshire.

Creighton:
What do you think about the stimulus package? Would you rather see tax cuts or government spending?

Buffett:
We obviously have a problem, but we’ll come out of this just fine. The idea of a stimulus is to do things that will have an impact quickly and the current proposal won’t do that. When dealing with situations like this, you can’t do just one thing but always need to ask yourself what is the next question. We have utilized monetary policy and guaranteed everything in sight. It’s a standard Keynesian prescription. Tax cuts benefit people differently in the short term. We are basically saying, we’re not going to pay for what we’re doing in terms of government spending and that we’ll just mail you some money but it’s better than doing nothing. In the end, you should buy stock in a business that any idiot could run because someday, one will. You know, our country is similar.

Emory:
How do you think differently today than you did twenty years ago? Where do you expect to see the greatest differences in 2030?

Buffett:
The fundamental things about investing that I learned when I was younger haven’t changed. I am lucky to have picked up a book at 19, The Intelligent Investor, that gave structure to investing and investment decisions. Over time, I learned different ways to apply it. I have learned what it is outside my circle of confidence. I bought See’s in 1972 and I think understanding the value of brand helped drive the decision to buy Coca-Cola in 1988. Through experience, I have gotten smarter on predicting and evaluating human behavior. My wife put me together in terms of human behavior. I really enjoy doing what I do and I get to do what I want. I enjoy talking to groups like these. Irv and Ron Blumkin are some of my best friends and I continue to add friends by buying businesses. I don’t want a boat or 12 houses. I’m almost fully depreciated, down to my residual value. Age doesn’t affect my ability to my job though, as opposed to Arnold Palmer, he can’t play his game.

Penn State:
What advice would you give the average person in the U.S.?

Buffett:
It’s hard to give advice to someone who might lose their job. My Dad went to work on August 13, 1931 to find out the bank where he worked and held all our money had closed. He had no job and no money and two kids. You want to be as prepared as you can and you just don’t want to have debt. Medical problems cause a lot of the grief and lots of credit card debt. Credit cards are poison. If you make a dollar, only spend 95 cents, not $1.05. You should be ahead of the game all the time rather than behind as it is harder to work your way out of a hole. You want to play the game from strength, and you have to think ahead. People don’t always want to hear advice when things are going well. People risked everything they had and needed for something they didn’t have or need. Charlie once said, “The problem isn’t getting rich, it’s staying sane.

Texas:
What are the biggest challenges that this country faces?

Buffett:
The biggest problem is probably weapons of mass destruction. We have always had people who were ill-fitted to society and wished harm on others. In 1945 we unlocked the atom, and that changed everything. The human animal hasn’t changed, you still have the same percentage that are maladjusted. The problem is knowledge, materials, and deliverability. What you could do with the wrong kind of infectious disease is incredible. You can transmit things much faster today. Governments, individuals and organizations can’t control security. It’s what I would spend all of my money on if I could fix it. Everyone here in this room won what I call the ovarian lottery. You were born at the right time and we were all very, very lucky. We are in the luckiest 1% of humanity.

Kansas:
What are some of the mistakes that Secretary Paulson made during the sub-prime crisis?

Buffett:
Hank is a great guy and great friend. He’s extremely smart about markets but not so smart about politics. I sympathize with Hank. Hank Paulson was not the supreme commander. He had to work through at least 535 people with different incentives. The whole situation has developed faster and at an extreme pace, more than anyone thought. The first TARP program got voted down, which changed the dynamic. All variables affect other variables. Congress did not appreciate how severe the problem was. I call it an “Economic Pearl Harbor” in September. FDR essentially had a blank check and that what people think is important and believing it makes it so. He restored confidence in the banking system. Paulson’s job may have been almost impossible given the circumstances. He was used to operating in a sphere that did not require consensus (Goldman Sachs). People that take that on [public service jobs] are laying themselves open to be unfairly attacked, criticized and scrutinized. In hindsight, letting Lehman fail was probably not the right thing but it was difficult to tell at the time. It created trust problems as money market funds fell apart soon thereafter. When people start to worry about the money in money markets, it’s a problem. People want to be led at this point, but fall back into old habits very easily. When you think that Citi or Lehman is just a house of cards… I mean who would have even believed you. It’s like Noah before the flood, building his ark. Can you imagine the reaction he got?

South Dakota:
What do you think about the U.S. trade deficit?

Buffett:
I talked to Barack back in August, and said: “I have good news and bad news. The good news is that the economy will be terrible, so you’ll definitely get elected. The bad news is that the economy will be even worse at inauguration.” He asked, “Do you think it’s too late to throw the election?” The trade situation is there and it causes problem and could exacerbate the situation. However, all issues go on the back burner until we solve the big problem.

We create sovereign wealth funds, buying more goods and services than everyone else in the world. The decline in the oil price has helped the trade deficit but nothing will get better until everyone feels better. Every day, we buy $2 billion of goods and service more than we produce and export. We give the exporting nations USD. The trade deficit creates claims on the United States. Sometimes we’re a little hypocritical. For example, three years ago, the Chinese wanted to buy Unocal (a small oil company in California) and Congress wanted to condemn China for wanting to buy the oil company with the money we gave them (through U.S. imports). That’s a little disingenuous. The trade deficit creates a situation because we give people claim checks, then we get upset when they want to use them. The Japanese bought Rockefeller Center in the 80’s. Did we think they were going to move it? It’s not useful to fan those flames in a nuclear world, and that’s what’s wrong with “Buy America.” The trade deficit will come up big time when we get past the current problems.

Creighton:
Why do you live the way that you do?

Buffett:
Do you mean, why am I frugal? You can’t buy health and you can’t buy love. I’m a member of every golf club that I want to be a member of. I’m the highest handicap member of Augusta National. I’d rather play golf here with people I like than at the fanciest golf course in the world. I can do anything that I want, and I do. I buy everything I want to have. I’m not interested in cars and my goal is not to make people envious. Don’t confuse the cost of living with the standard of living. Bella Eidenberg was a Polish Jew who was at Auschwitz and some of her family didn’t make it. Twenty years ago she said she was slow to make friends, and that the real question in her mind was always, “Would they hide me?” If you have a lot of people that would hide you, you’ve had a very successful life. That can’t be bought. I know people that have billions of dollars and their children would say, “he’s in the attic.”

I estimate that I live on $100,000 per year, except for my plane which costs me about $1 to $1.5 million. I like the plane, it improves my life. My computer and my airplane changed my life in a big way and I’m not sure, if I had to choose, which one I’d give up. Anything beyond $50 Million doesn’t improve my life. If I took out $3 billion of Berkshire stock, I could have paid 30,000 people $100,000 per year to paint my portrait every day. I could have paid 50,000 people $60,000 per year to dress in loin cloths and haul rocks to create the Buffett tomb. That’s not me. I believe in giving my kids enough so they can do anything, but not so much that they can do nothing.

Penn State:
What do you think of the good bank, bad bank idea?

Buffett:
It is tough to do but if it were done well, it could do a lot. Call the bad bank an “Aggregator Bank.” There is a lot to be said in cleaning out past problems. There are 7,000 banks in the U.S. with such varying degrees of conditions so it is tough to provide a sweeping overhaul. The biggest thing they’re wrestling with is pricing what goes into the aggregator bank. These are smart, well-intentioned people working enormously hard on this.

Emory:
You take great pride in keeping your schedule wide open. Do you believe that corporate America is overscheduled and overstretched?

Buffett:
[Showed his blank schedule book]. Bill Gates is overscheduled. I am extremely lucky and I can say no to anything because there isn’t an entity that can use economic pressure to make me do something. A lot of CEOs get into a lot of the rituals that are part of the job. I would rather deliver papers than be the CEO of GE. They have too much stuff to do that is a big pain. Don’t get me wrong, CEOs have it pretty good. I’d imagine that every CEO in the Fortune 500 would be willing to take the job for half of the money. The 76 or so CEOs that run companies at Berkshire don’t have to deal with bankers or lawyers. At Berkshire, we’ve never had a meeting for all of them anywhere. There are no presentations and no committees. They can be more productive, and it makes it attractive when they can do what they like to do best.

Kansas:
What are three traits of successful managers?

Buffett:
Passion is the number one thing that I look for in a manager. IQ is not really that important. They need to be able to work well with others and the ability to get people to do what you want them to do. I’d say intelligence, energy, integrity. If you don’t have the last one, the first two will kill you. All you have is a crook who works hard. If a person doesn’t have integrity, you want them dumb and lazy.

If you could put 10% of your future earnings on one of your classmates, you would pick the one that’s most effective at working with people. These are qualities that are elective. If you could pick one to sell short, it would be the person that no one wants to work with. You can elect to be the kind of person you want to be. Look at those qualities of the two people you’ve selected (one long and one short). They’re all qualities that you possess. It’s like marriage. If you want a marriage that’s going to last, look for someone with low expectations. Don’t keep score. Keeping score doesn’t build organizations, homes, etc. I have never had one fight with Charlie. When I took over Solomon I had to pick the best person to run it. I interviewed 12 people for 15 minutes each and I asked myself, “Who would I go into a foxhole with?” I never look at grades or where you went to school. When I picked Deryck Maughan, he never asked me about pay or options or indemnity. He went to work.

Chains of habit are too light to be felt until they’re too heavy to be broken. In terms of picking people how do you lead your life in a way that I’d pick you?

4 comments:

Joshua Wallis said...

Thanks for posting the notes. It was one of Buffett's better talks!

Jeremy said...

Awesome. Loved the bit about how Bridge is such a useful simulacrum for business and investing. Couldn't agree more.

Cat Van said...

How can I add to your Recommended Links section?

Penny Stocks said...

Great Post