First Quarter Letter: Globalism, 1982 to 2000 Bull Market, Global Middle-Class Growth, Focus on the present.
Third Quarter Letter: Volatility Underlying a Calm Market, Middle Class Growth 2015-2030, Brookings Institution’s Estimates, LKQ Corporation.
The trend to passive investing (investing in an index funds or ETFs based on an index such as the S&P 500) has accelerated in the last to few years to the point where we have to wonder how much longer this trend can go on. Last year, American investors plowed a record $504.8 billion into passive funds.
The best investment philosophy understands the cyclical nature of our economy, using these economic cycles rather than getting used by them.
Interesting and Intriguing Quotes from Daily Journal Annual Meeting 2014 from Charlie Munger.
Yet, Jeremy Grantham says that commodities have entered a “new normal” and if he is correct, any successful investment program will need an effective way to hedge the rise in commodity prices. With Fortescue Metals, it seems that Leucadia does indeed own a successful commodity hedge.
There are two elements that govern the stock market price of any common stock or other security at any given time. One is mathematical (earnings, revenues, assets and liabilities) the other is emotional (greed, fear, etc.). The relative importance of either of these components varies. The emotional component of security prices is always present, but seldom as strongly felt as it is currently.
In view of the fact that the recent rally is not based only on earnings improvement, and that the hurricane season has not generally been a strong period for the stock, it is likely this rally will be temporary. We reduced our overweight position in Berkshire Hathaway for two reasons. First, the recent correction in the overall stock market has left us with a lot of good quality stocks that are currently selling at attractive prices, and second, the prospect of a bad hurricane season, and/or a lot of petroleum sloshing around in the Gulf of Mexico may provide us with an attractive re-entry price for Berkshire Hathaway.
As long as there are markets, there will be bubbles; and all bubbles end with a crash. Economics is the study of human behavior and markets are a product of that behavior. So, Markets are not efficient and often not very rational. In October of 2007, the Dow and the S&P were making all time highs at a point when disaster was inevitable.
Newly arrived in Omaha, 73 years late, but just in time for Christmas a shiny, but not exactly new Billion Dollar Train Set.
Regulation of credit default swap should be easy; after all they are just a form of insurance. Insurance companies have been highly and more or less successfully regulated for more than a century.
The "Shadow Banking System" includes hedge funds, private equity, and structured investment vehicles and depending on whose definition you accept investment banks.
The miracle of Capitalism is that it works at all. Its main virtue, we have been told, is that it is better than the alternatives. To the extent that it does work it is because of its ability to adapt and change, whereas competing ideologies are so dependent on dogma that they become fossilized shortly after conception. Important as this ability to chance is, it does not come easy. Capitalism is no pushover; it is more like a very stubborn mule, so for progress to continue the occasional application of a very large 2x4 is necessary.
It will not come as a shock that 2008 was not a good year in investment. Unfortunately the fact that we have been predicting this sort of market for a few years does not seem to eliminate the pain from watching asset values decline. While it was easy to see the accident about to happen we were still surprised by its magnitude. For the year our average long term account was down about 23% – 25% and the average short term account down somewhat less. This compares to a 37% decline in the S&P 500 Average, a 40% decline in the NASDAQ Composite, a 45% decline in international markets and a 55% decline in emerging market equities.
Western Refining Inc is an independent crude oil refiner and marketer of refined products. It also operates service stations and convenience stores. The Western Refining owns and operates four refineries with a total crude oil capacity of approximately 234,000 barrels per day.
This year’s Berkshire Hathaway Chairman’s Letter is enclosed. Berkshire Hathaway’s 2006 earnings were spectacular. My estimate (which I considered overly optimistic) for the fourth quarter, was for net of $3.2 billion, but the earnings actually came in at $3.6 billion.
"We’re not saying that we do things better, but rather that this is us. We want people with a lifetime commitment to their business. To underscore the values that we have, everything we do is consistent with Berkshire Hathaway’s culture. Everything they see hear, and read from the company should be consistent ... Homes have cultures. Companies have cultures. Countries have Cultures at Berkshire Hathaway's people buy into it and see that it works. This kind of thing doesn’t require mentoring. Managers see consistency in how Charlie and I act." Warren Buffett.
This would mean that per-share earnings growth for the seven year period was equal to 15.2% on an annual basis for the period that includes both the purchase of General Re and 9/11. During the same period, GE has grown its per-share earnings at an annual rate of 9.8%, and Microsoft at 15.8%.
Expansionary monetary policy promotes growth, prosperity, and full employment, but as always there are unintended consequences and when the medicine is applied to an economy too liberally for too long, money becomes so easy that the games begin. Huge sums are available to managements whose main imperative is self enrichment. Equity bubbles expand, companies like Enron appear, flourish, and spread their lust for fast, conspicuous wealth as if it where a communicable disease.
We have been hearing so long about this Warren Buffett premium and the universal assumption has always been that there will be stock decline when he leaves. I, as investment manager, would like to suggest, just for the sake of being argumentative, the possibility of a Warren Buffett discount and propose a scenario where the stock price will increase in his absence.
There is one thing I have learned through 38 years of investing: the market will always do what it has to do to prove the majority wrong. Or as Warren Buffett says, you pay a high price for a cheery consensus. This is not because the market is perverse, but because the market is a zero-sum game and frictional costs mean that there will always be more losers than winners.
Charlie Munger that Uses the Best Models Wins. A transcript of a speech given by Charlie Munger in 1994. It is in my, as investment manager, opinion a masterpiece of simple logic as developed by a very complex intellect. The basic premise is that a person's ability to deal successfully with life is based the investment models that they use to interpret events.
In just the last two years Warren Buffett has realized gains of $8.2 billion in his bond and FOREX trading. Add in another $1.9 billion of unrealized gains in the junk bonds he still holds and maybe $200 to $300 million per year in interest income, and it is apparent that the chairman has enriched shareholders by about $10.5 billion with his trading skills in two years. This definitely does not meet my, as investment manager, definition of "lackluster performance".
Losch Investment Management Company's basic market strategy evolves a large position in Berkshire Hathaway because Berkshire Hathaway is reasonably priced at present levels and with very solid long-term prospects. But more than this, it offers a hedge against a substantial market decline. With its huge cash positions and with Warren Buffett to make the investment decisions, Berkshire Hathaway is one stock that will get more valuable if the market declines.
After a bubble appeared in a trading series there would be a correction and then after the first correction, the bubble would usually reappear. The bubble starts to re-inflate, but this time the participants, burned by their previous experience are more cautious and the values do not become as extreme.
More remarkable still is the fact that this is the latest in a series of large macro bets: the purchase of S&P puts, junk bonds purchases, and fixed-income sales; actions so wonderfully out of character for the world's greatest value investor as to suggest that by some mysterious process Kiewit Plaza had been magically transported to Lower Manhattan and George Soros has taken possession of the Oracle's body.
There is no such thing as a risk free investment all investments carry some risk ... A good investment is one minimizes the risk that the investor faces, and that pays you well for taking the risk. All investments decisions should start with measuring risk.
If 2003 trends quoted in the paragraph above from the Worldfact Book where to continue for the next twenty years, several interesting things would happen: 1) The world GDP would double by 2022. 2) China's GDP would be larger than ours by 2013 and be twice as big as the US by 2025. 3) India's GDP would pass us in 2035.
In October of 2003 Charlie Munger gave a lecture to the economics students at the University of California at Santa Barbara in which he discussed problems with the way that economics is taught in universities. One of the problems he described was based on what he called "Physics Envy". This Charlie says is "the craving for a false precision. The wanting of a formula ..."
I, as investment manager, have taken his table and added a couple of columns on the left side to cover the period that included the 1996 acquisition of GEICO. The result is a dramatic representation of Warren Buffett's move away from the equity market. The move is very Warren Buffett in that the shift is massive, but it was handled in such a way that unless you are really paying attention you would not notice. This table tells us better than mere words what is going on in Warren Buffett's mind.
The trade deficit exists because of the power of the American consumer, and while it is likely that currency markets will remain volatile, and may even perhaps get violently more so in the near term, the underlying factors that are the cause of this overvaluation of the dollar are not likely to change in our lifetime.
A summary of the composite results for Losch Investment Management Company for the investment year 2003. And a somewhat cloudy look ahead. " ... You can also expect more sell tickets than buy tickets as we position your portfolios for another down market. Exactly when the bear will re-emerge we can only guess. But sooner or later he will reappear."
In 1966 the market entered a secular correction phase that may or may not prove similar to today’s market. The market did not move straight down to its eventual low and recover steadily from that low. From 1966 to 1982 the Dow was stuck in a trading range between 577 and 1000. This may not sound so bad but for those of us that were participating, it was a series of dull, slow, bull markets that always petered out at around one thousand on the Dow. These bull markets were separated by grinding gut-wrenching bear markets.
There are hundreds (maybe thousands) of index funds and they are all basically sector funds. Some of these indexes will return something close to the returns of the S&P 500 during the twentieth Century, some will do better, some will do worse, but if you know which is which, you are a lot smarter than I am.
John Bogle says that during the greatest bull market in history the average equity fund investor has received just 2.7% per year return. In other words after taxes and inflation the average John that had his money in mutual funds for the last eighteen years is probably in the hole. This is indeed something to ponder. At first it does not seem possible, but mindless pursuit of performance gets the crowd to always buy last years winners and we all know how that turns out.
For instance, the Costco's companies total reported earnings for the period was $481.5 million; this is about the same as the net increase in cash as shown on the Balance Sheet ($483.9 million). Total cash on hand at the end of the period was $1.289 billion or about the same as the companies total debt level. Market Comment. The second Quarter has ended on a positive note with the composite of all Losch Investment Management Company's accounts up 12.21% for the first half, vs. a gain of 10.7% for the S&P. For the last three years our composite has shown a positive return of 15.82% per year, compared to a negative 12.50% per year for the S&P.
From a Charlie Munger speech at Harvard Law School. "Although I am very interested in the subject of human misjudgment - and lord knows I've created a good bit of it – I don't think I've created my full statistical share, and I think that one of the reasons was I tried to do something about this terrible ignorance I left the Harvard Law School with. When I saw this patterned irrationality, which was so extreme, and I had no theory or anything to deal with it, but I could see that it was extreme, and I could see that it was patterned, I just started to create my own system of psychology, partly by casual reading, but largely from personal experience, and I used that pattern to help me get through life."
Sitting on the sidelines may be no fun, but it is hardly an accurate description of what has been going on at 1440 Kiewit Plaza for the last year. I, as investment manager, have revised my table of recent acquisition activity to include figures for junk bond purchases and activity in the equity market (see below). If activity is the definition of fun, then Warren Buffett has been having a ball. Reading the first couple of pages of the chairman's letter I get the impression he is tap-dancing like crazy. Certainly 72 years has not dulled his sense of humor.
Warren Buffett's $45,000 offer in 2000 was an important marker for intrinsic value, because we know that his figure must have represented a substantial discount to the intrinsic value of the stock at the time it was made. This is an attempt to adjust that price for the growth of the last three years.
A summary of the composite results for Losch Investment Management Company for the year 2002. Also includes tables for relative performance over five, ten, and fifteen years.
"I would consider a year in which we declined 15% and the Average 30% to be much superior to a year when both we and the Average advanced 20%." – Warren Buffett.
Warren Buffett’s Management style is firmly grounded in things like large margins of safety, and the acceptance of short term pain in exchange of long term gain. For insurance companies this is a very different management imperative that GE’s belief that the road to heaven is paved with smooth and ascending earnings reports.
About bubbles, the money supply, shorting Treasury Bonds, and the direction of the economy for the rest of 2002. "So is flight to fixed income a rational refection of the economic conditions we can expect in the near future, or is it just Mr. Market scared to death by what he sees in the rear view mirror."
This is my, as investment manager, attempt to rearrange the numbers published in Berkshire Hathaway’s Annual Reports for the last ten years. The numbers are the same but hopefully they are presented here in a fashion that provides some new insight into value of the Berkshire Hathaway.
The "Greenspan Put" kept the rain falling, and the water kept rising. All the ducks thought they were getting smarter and smarter. The gap between what the ducks thought and reality became so wide that it fostered acts of superhuman stupidity. One example is all that is necessary to understand the enormity of this gap. Bernie Ebbers borrowed $400 million to buy stock in his company. That's 400 with six zero's ... for an equity position that is probably worth about $45.00 in today's market. What the hell was running though his duck brain? Clearly the water in the pond was going to keep going up forever. Sadly I fear this duck will soon receive the world's largest margin call from a bankruptcy court.
Owner Earnings, Cash Flow and Berkshire Hathaway - "I have no clear idea how to value the float when computing intrinsic value, but I am fairly confident of two things: 1. money is going to keep pouring into Omaha, and 2. I am not sure that any future attempt to value Berkshire based solely on reported earnings will be satisfactory for me."
The market organism also changes constantly because the emotional status of the participants changes. People react to events in ways that are both rational and emotional. So a change in the market price may be caused by new information about the stock or it may just as easily be caused by the level of fear or greed prevalent among the participants.
"What if" questions for the FED. What if there had been a recession in 1994? What if there had been no drop interest rates in October 1998? "The whole idea that we can hire some politicians to turn a knob here and change a little policy there, and presto, no more human grief, is not just naive it is dangerous, but that is what we are dealing with here. The notion that economic cycles are bad because they cause pain, and that we can fix this by adjusting a few monetary levers, has always been a foolish notion."
It has been eleven months now, since the Federal Reserve Board started to pull back on the stick, but the economy still has not been able to get off the ground. Every recession since the end of World War II has ended as soon as the FED stated to ease. Is it going to be different this time?
In other words Costco can show the same profit on 10.4% markup as Dillard's can on a mark up of 32.3%. For a watch that manufactures sells for $100. Dillard's would have to sell it for $132.30 to make the same profit that Costco would make by selling the same piece for $110.40 (this percentage is actually based on a markdown not a markup so the real prices would be higher, but you get the idea.) Wal-Mart is bringing 1.5% more down to the bottom line so they would price the watch at $124.5 ($123 + $1.50). Low margins and fast turn over can help to create a respectable moat for a retail powerhouse.
The 450,000 Square Feet Furniture Store - this is No ordinary store. If you have never been inside the Nebraska Furniture Market it is easy to underestimate its significance. It is not that one furniture store will have much impact on a company the size of Berkshire Hathaway, but a visit to the Omaha store speaks volumes about Warren Buffett's business philosophy, and particularly it helps the visitor understand how he has built a huge moat around this furniture business. If I were teaching a class in a business school about moat construction for a retail business I would start the class out with a trip to Omaha or about the Nebraska Furniture Market and what it tells about the management philosophy at Berkshire Hathaway. What does the "Principle of Intermediate Fragmentation" have to do with selling home furnishings?
The bear may be loose but the fun has only begun. "The good news is that there are many old economy stocks that are attractively priced. When you look at your December statements you will begin to see some new names there. This does not necessarily mean that I, as investment manager, think the market as a whole has bottomed. It means that I, as investment manager, am finding good companies at attractive prices, and that I am afraid that they may not get much cheaper even if the rest of the market turns back down."
Discusses the effect of stock options on the behavior of corporate managers, and how this behavior may differ from managers who actually own a substantial position in the stock of the company. This can be hazardous to the financial health of shareholders.