Friday, March 03, 2006

Master classes -Buffett & Munger

Every year a handful of Australian investors make the trek to Omaha, Nebraska, to hear Warren Buffett and Charles Munger at the Berkshire Hathaway annual meeting.

Mark Nelson of Caledonia Investments has made the trip for the past 11 years. Why does he bother? "That's easy," he says. "We need to go. Put simply, this is the annual refresher course in common sense investing that we all need."

Tape recorders weren't allowed into the Berkshire or Munger's Wesco Financial meetings so Mark Nelson and his colleague Robert Luciano had to scribble fast.

Here are some of Buffett's and Munger's edited thoughts.

Shareholder: I was wondering how it was that you got interested in investing, and what advice you might give to a young person interested in investing?
Buffett: I got interested when I was about seven years old . . . when I was about 19, I read The Intelligent Investor by Benjamin Graham. My advice is to start young, and read everything you can. If you do that you'll always do well. There are no secrets in this industry that are only available to the priesthood. There are no temples, or secret tablets; it's all public information. You don't need a massive intellect but you do need the right temperament, and then constantly look for opportunities that fit your framework. If you enjoy the game then you'll do well.

Shareholder: My question concerns rising raw material prices and import costs.

Buffett: We love companies that haven't fully recognised their pricing power; where it's still untapped. You can measure a business over time by the agony they go through in raising prices. You're not in a great business if you have to have intense management debates and a prayer session before you raise prices.

Shareholder: What are your investment strategies if we do go into a prolonged bear market?

Buffett: If the market gets cheaper then we'll be able to buy a lot more. I'm always looking to buy stocks, just as I buy groceries every week. And obviously I prefer lower grocery prices. We're not good at predicting markets, and we spend little or no time talking or thinking about it. If you can buy very good companies at a good price, then it's crazy to not buy any stock, just because it might get a bit cheaper next year after a catastrophe. We pay very little attention to macro factors.

Shareholder: Corporate boards have been in the news recently due to both action and inaction. What responsibilities do directors now have? What do you look for?"

Munger: We're completely out of step with modern practices which try to get one director from each diverse discipline, and they all tend to need the money. We don't do that.

Buffett: It's a tough job to be a director, especially when you have to deal with mediocrity. It's very difficult for a director who needs $100,000 per year, and wants to get on new boards, to try and push for meaningful changes in a company. But independence is a state of mind, and you need to challenge the ideas of executives if they don't make sense.

You can't be truly independent though if 50 per cent of your income comes from board fees. You don't want to upset the applecart.

All Berkshire directors have a significant amount of wealth tied up in Berkshire. Their income from board fees is inconsequential to them. They are all very smart and hand picked. However, those who wish to use checklist approaches may not view the Berkshire board as favourable.

Shareholder: Berkshire hasn't really invested in technology stocks before. With Bill Gates on board as a director, will that change?

Buffett: No. Charlie and I still want to understand the companies we invest in. We need to believe that we know what the economics will look like in 20 years' time. The fact that some other person has a wider circle of competence doesn't really matter. Mind you, I'll listen to what he says. I still wish I'd bought Microsoft when I first met him.

Shareholder: What other approved criteria do you have apart from financial criteria, when you are analysing your businesses?

Buffett: The financial returns being achieved in a way that we want them to be achieved is still the key for us. If a business becomes permanently flawed, then we will sell it. If it has been merely disappointing but still has potential, we will continue to hold it. We don't like to participate in what I call gin-rummy investing, where you keep discarding your least attractive investment of the moment in favour of something else.

Shareholder: What about benchmark risk?

Munger: If you're an investment manager and you're going to get fired if you don't beat your benchmark, then you'll do some strange things to make sure that doesn't happen. We are in a benchmarking world right now. You often get investors who are really closet indexers, in which case you're being played for a sucker. These guys have 85 per cent of their assets linked to the index, and they charge big fees.

Shareholder: Do you have a book recommendation for us this year?

Munger (earlier in the meeting): You really should read Fiasco, a book about the Morgan Stanley bond traders by Frank Partnoy. It'll make your stomach turn. The other book, Conspiracy of Fools, by Kurt Eichenwald, about the collapse of Enron, is also excellent. The most sickening aspect of it all is the description of the investment banks' behaviour. I always think that every now and then it's good to rub your nose in the worst aspects of human civilisation; it certainly improves your judgement going forward.

Shareholder: With Wal-Mart-type businesses now growing so large, is that a danger to our economic way of life?

Munger: I think that the country is way better off by having Wal-Mart. It's a fabulous enterprise that adds a lot of value to the customer. I also think that McDonald's is one of the great educational institutions in the world. Working there teaches young people to come to work on time, how to earn a wage, and then they go on to another, better job. I think it often does more good work, for a lot more people, than Harvard.

Shareholder: You've said previously that 15 or so great investments have made the difference for Berkshire. What have been some of their common characteristics?

Munger: Well, they all worked. But they have been very different. It does emphasise just how few great investments you really need in a lifetime. Patience and aggressive opportunism are part of our game. People who have to make an acquisition every month, will eventually crater.

Excerpt from "DeepWealth"


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