Yet the more money that gets locked into long term buying and holding of index funds, the less there is left to support the trading of stocks in the open stock market. The movement of large institutional investors into private equity and venture capital investing also aggravates this liquidity drain.
Our year started nicely with our accounts making new highs in January on the basis of recent tax cuts and a strong economic news back ground. From there things deuterated, in spite of the fact that corporate earnings have remained strong. The reason for this is not hard to understand.
For Wall Street and a large segment of academia, The bible On investment management is a discipline called “Modern Portfolio Theory”or MPT for short. It is a set of rules first developed by academia in the 1960's and 1970's, and is based on the premise that broad diversification across many assets classes reduces portfolio risk, this school of thought defines risk by measuring volatility. With risk defined in this manner, Modern Portfolio Theory recommends that an investor approaching retirement should hold a portfolio heavily weighted to fixed income with equity investments widely diversified.
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.
With much chatter over the last six months anticipating an ambiguous or unfavorable Delaware Supreme Court ruling, CBI’s share price plummeted more than 60%. After years of contention, the hotly debated, anxiously awaited decision regarding the $2 billion Westinghouse lawsuit, the Court appears to hand CBI victory in dramatic fashion ... The market responded emphatically, as well, with CBI’s share price jumping 50% in two days.
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, while pulling $264 billion out of actively managed funds focusing on US companies.
Successful investing is about the long term. In the market, patience trumps genius. The best investment philosophy understands the cyclical nature of our economy, using these cycles rather than getting used by them.
The Global Plastics Summit was produced by IHS and presented in Chicago at the Radisson Blue from September 27 to September 30, 2016. After declining for the last thirty years, the domestic petrochemical industry is experiencing new life thanks to the shale revolution. This turn-around is in its early innings - low gas prices and long-term recovery of crude oil will put this country in a very strong competitive position relative to Asia and Europe in many basic chemicals.
The real value of a company today is measured by its potential for further cash flows, and the task of the value investor is to make as intelligent an estimate as possible of those future cash flows. Index Investing is not always a bad idea, but while following the crowd can yield positive short term results, it will almost always lead to poor long term results.
The Stock Market This Week 04 Apr 2020 Yet the more money that gets locked into long term buying and holding of index funds, the less there is left to support the trading of stocks in the open stock market. The movement of large institutional investors into private equity and venture capital investing also aggravates […]
With the news being uniformly bad in this morning’s WSJ I see nothing to be gained by piling on. Yes the market is overvalued, but what is there to say that it will not get wildly more overvalued before it corrects like it did in 2000. So I will try to find a more positive perspective. Since I first got involved with the stock market (as a registered representative at Merrill Lynch in 1967) the market has experienced approximately twenty, 10%-20% corrections similar to what we experienced in 2015. This included three bear markets that could be classified as generational 50% corrections, and one (1987) approached 40%.
“Dream Big” is a history of the 3G partners from their days a Garantia Bank in the 1970’s up though the Imbev’s purchase of Anheuser-Busch in 2008. The story is carefully researched and provides a detailed history of the partnership, its formation, and a history of the individual partners in the time that lead up to formation of 3G Capital.
This rather obscure term is meant to describe the psychological result of too carefully following your investments. The investor’s goal should be to buy low and sell high. Myopic loss aversion causes us to do the opposite. While close attention to your investments might seem like a good idea, for many investors it can generate negative side effects. If your goal is successful long term investment, constant checking your results by way of an irrationally volatile stock market can cause the inexperienced investor to sell at the wrong time, or to buy the current media frenzy.
At first glance, the CBI’s nuclear energy business appears to have generated more problems than it is worth. The problems associated with the construction of the four Westinghouse reactors in the US (two at the Summer Nuclear Station in Jenkinsville S. C, and two at the Vogtle Power Station in Georgia) seem to temporarily have overwhelmed any potential for long term growth in the nuclear energy business.
At the 2015 Annual Meeting on June 30, the St. Joe Company management announced that its long term master plan for Bay and Walton Counties was approved recently by Bay and Walton Counties and the State of Florida. The plan provides for up to 170,000 homes on 110,000 acres of St. Joe Company’s property in those counties.
The fracking revolution has brought America a windfall of cheap and abundant natural gas. While plastics can be made in other countries where crude oil is available, the production cost when using oil (naphtha) is significantly higher than when starting with natural gas (ethane), even with the decline in oil prices.
"Many people some years back thought they were behaving in the most conservative manner by purchasing medium or long-term municipal or government bonds. This policy has produced substantial market depreciation in many cases, and has most certainly failed to maintain or increase real buying power." Imagine that we can travel into the future, ten or more years from now. With the benefit of hindsight, will we then look back and say that the above quote was appropriate for June, 2015?
Walking the floor of the 2014 CAMEX at the Orlando convention center, a new trade show put on by the Composite Industry, the visitor gets the impression that sometime before the end of this century everything will be made out of plastics. There were planes, automobiles, light weigh propane tanks, and cowboy hats. In most of these cases the composites in the exhibits are lighter, stronger and prettier than the traditional materials.
Oil prices are going down because; 1. World-wide Demand for oil is below a year ago. China is using less oil. For the first time in ten years China has imported less oil this year than they did last year. Europe is using less oil because weak economy and heavy regulation. US is using less oil because more efficient vehicles and alternative energy sources. 2. Supply is up. The US, Saudi Arabia, Iraq, and Libya are producing more oil this year that did last year. Saudi Arabia may intentionally increasing production in the face of declining oil prices to force marginal producers to stop expanding production.
Fluor is the largest construction and engineering company in the United States. It has offices in 25 countries with major operations in Canada, Middle East and Australia. Many people believe that the shale oil revolution will be the engine for the revival of manufacturing in the United States.
Some Interesting Quotes from Daily Journal Annual Meeting 2014.
On September 10th I, investment manager, was in Los Angles, along with 250 other groupies who came from all over the country to listen for two hours to a 90 year old answer questions from the audience and expound on his philosophy of the stock market and just about everything else. The 90 year old was, of course, Charlie Munger and the occasion was the 2014 annual meeting of the Daily Journal Corporation a small legal publisher and Software Company where Charlie is part owner and Chairman of the Board.
Albemarle is a developer, manufacturer and marketer of specialty chemicals. The company serves customer needs across a range of end markets, including the petroleum refining, consumer electronics, plastics packaging, construction, automotive, lubricants, pharmaceuticals, crop protection, food-safety and custom chemistry services markets. At the Company’s Investor day on April 15 in Houston, the CEO gave some background on the company’s ten year record of investor returns, an outline of the company’s current structure, and some projections on what to expect in 2014.
Triumph started out as an MRO company in 1994, but since then has expanded to a much broader footprint in Aerospace through acquisitions, the biggest of which was the 2010 purchase Vought Aircraft for $1.1 billion which more than doubled the company’s revenues. This purchase brought Triumph into the manufacture of large aero structures for commercial, military and business jet aircraft, a business that includes fuselage sections, wings, empennages, nacelles and helicopter cabins.
As I am wandering the aisles of the enormous trade show at the Singapore Airshow, I, investment manager, stop by the Florida Pavilion, just for a touch of something familiar. I, investment manager, start a conversation with a man in the booth of Future Metals, a company with headquarters in Tamarac, Florida.
Leucadia National Corporation and Jefferies Group, Inc. announced last month that the companies have approved an all stock merger agreement under which Jefferies’ shareholders will receive 0.81 of a share of Leucadia common stock for each share of Jefferies common stock they hold. The merger is expected to close during the first quarter of 2013.
Clearly, there is a strong relationship between free markets and the number of banking crises. But, if we admit this relationship, then are we not faced with the conclusion that the price of reducing these crises would be much slower growth in GDP per capita and living standards?
The St. Joe Company Inc. has a long history in Florida. It was started by Alfred Irenee Dupont and his bother-in-law Ed Ball in the early 1930’s to benefit from the havoc created by the great depression. Together they purchased many distressed assets, including an interest in Florida National Bank, a number of corrugated cardboard box plants, a sugar company, a controlling interest in the Florida East Coast Railway Company, and an enormous amount of land. In a single purchase in 1933 he purchased 240,000 acres in northwest Florida, several phone companies, two railroads, a port terminal, a sawmill, and almost the entire gulf town of Port St. Joe.
Kahneman calls the human brain "a machine for jumping to conclusions". The problem is that intuitive thinking, except with few significant exceptions, tends to be wrong. The thing that makes "System 1" popular is that tends to present quick, easy answers to difficult questions, and makes us sound smart even though our answer may not be correct. System 1 is particularly useful when the question is difficult.
Each economic cycle begins with the positive results. The market participants respond to these positive rewards by trying to repeat the behavior that created the reward. Like the chicken in the science experiment, we kept pushing the same button until there is no longer a reward. This eventually encourages the formation of speculative bubbles, and the bubble keeps expanding until it explodes.
While it is apparent that the long cycles identified in last month’s letter certainly bring into question the efficiency and rationality of publicly traded asset prices, since there is no long term relationship between those cycles and corporate profits. Financial markets may not be efficient at measuring long term value, but they are very good at measuring the current investor psychosis.
As investment manager, I have written before about secular (long cycle) bear and bull markets in stock prices. These long market cycles are not caused by celestial phenomenon, Kondratieff Waves, or other mysteries, but are the result of cumulative impact of emotion on investor behavior, the decay of investor memory, and the power of mass hysteria.
For the nasty month of August, the S&P 500 average was down 5.7%, and the NASDAQ was down 6.4%. Losch Management Company biggest position Berkshire Hathaway, managed to reverse its trend for the first half and beat the S&P by 4.1% (-1.6% compared to -5.7%). Let’s hope this is an omen and portends a better 2nd half for our portfolios. Losch Investment Management Company Best position for nasty August was St. Joe Company, which managed a gain of 4.4%.
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.
Attached is a table of Berkshire Hathaway’s look-through earnings for 2010. The total was $1,680 per “A” share for 2010 that is up from $1,130 in 2009, or about 49%. Net after tax for 2010 was $7,928 per share so if we add in the look-through portion it would add to $9,607 and a PE of 11.8 as June 6.
From his recent comments and action, it appears the Berkowitz is more interested in the potential for development around the new Panama City Airport than in the resort property (This may in part explain the recent changes to the board of directors). In addition Berkowitz has indicated that he will use St. Joe Company as a vehicle for purchasing assets that can not be purchased directly by Fairhomne Fund. I take this to mean such things as income producing real estate other leveraged income producing assets and perhaps even derivatives.
Most investors take comfort from calm, steadily rising markets; roiling markets can drive investor panic. But these conventional reactions are inverted. When all feels calm and prices surge, the markets may feel safe; but, in fact, they are dangerous because few investors are focusing on risk. When one feels in the pit of one's stomach the fear that a companies plunging market prices, risk-taking becomes considerably less risky, because risk is often priced into an asset's lower market valuation. Investment success requires standing apart from the frenzy – the short-term, relative performance game played by most investors. Seth Klarman.
Latin America. Going forward, it is our view that selective stock picking will have an increasingly important role for managers who want to allocate in Latin America. In other words, we do not believe the region’s stock market indexes will perform as well in the next ten years as they did in the last ten.
While all of the above numbers have question marks attached, some things would appear obvious. 2010 will be a strong year for Berkshire Hathaway, and it could be a record year. Previously, the best year was 2007, with $13.2 billion net. Berkshire Hathaway has a good chance of a 60% gain over last year’s earnings.
For the year 2010 the average annual return for Losch Investment Management Company taxable accounts was a little less than 22%. An average of the non-taxable accounts was up 30%. These results compare to the S&P was up 16%, and the average hedge fund that was up 10% according to the "Wall Street Journal". The Journal also pointed out that the average managed mutual fund was up by 19% in 2010. Which makes us wonder why “Sophisticated Investors” are so eager to pay the obscene fees charged by hedge funds?
Here is an interesting chart that compares the value of the US market 2010 to that of emerging markets as measured by PE ratios. It shows that the US market has been getting cheaper since 2002, and that the emerging markets now have about the same PE as our market. There are some who will say that this is justified because of the emerging market countries’ greater growth potential. This argument ignores the higher relative risk inherent in emerging markets and the current hyping of their equities by the financial media, both of which are symptomatic of bubble behavior.
The biggest question mark in this estimate is probably in the area of investment gains. In the second quarter, investment gains were $383 million. In the first quarter, Berkshire Hathaway’s gains amounted to $1.318 billion, so I, as investment manager, guess my estimate should read $4.2 to $4.3 billion plus or minus a billion. In any event, the comparison to the last quarter and last year will look pretty good — plus 120% from this year’s second quarter or plus 27% from last year’s third quarter for Berkshire Hathaway.
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.
I, as investment manager, decided to update my version of the Berkshire Hathaway Two Column Valuation table. This is a method of valuation that Buffett has used to find an intrinsic value for Berkshire Hathaway. While this method is helpful, it is not perfect, as it tends to understate Berkshire Hathaway’s value during periods of market weakness (2008 – 2010). Now, the market has rallied off 2009 lows, and Operating earnings have become a larger factor in valuation with the Burlington Northern merger so I thought it would be interesting to take a look at an update of this table. Figures for 2010 are estimated based on including Burlington’s figures for the full year and estimating the other operating companies based on their results for the first half.
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.
Lewis thinks that Goldman Sachs should be broken up and that it’s high risk businesses sold to hedge funds. Lewis thinks that compensation plans for traders need to reflect the risks the traders are taking. He says that high-risk trades belong in a partnership because then the people taking the risk have all of their own skin in the game. Losch Investment Management Company do not know if this is realistic but have to admit it sounds like a good idea. It would be similar to Buffett’s idea that CEOs of busted banks should end up broke. But Lewis’s solution would be more effective because this way all of the big players — not just the CEOs — would end up broke.
At the end of 2009, we became a 50% owner of Berkadia Commercial Mortgage (formerly known as Capmark), the country’s third-largest servicer of commercial mortgages. In addition to servicing a $235 billion portfolio, the company is an important originator of mortgages, having 25 offices spread around the country. Though commercial real estate will face major problems in the next few years, long-term opportunities for Berkadia are significant.
Based on recent earnings reports, USG corporation could be classified a “dead man walking”. In 2008 the USG Corporation reported a loss of $4.67 per share. Then for 2009 they followed with a loss of $7.93 per share, and the casual observer might be justified in their belief that USG corporation had so much fun in bankruptcy that they have decided to try it again. However the negative earnings were mostly the result of non cash restricting charges and a look at the company’s balance sheet gives us a somewhat different picture.
Whitney Tilson estimates that Index funds will purchase $38 billion of Berkshire Hathaway’s stock when it enters the index. This is much larger than Buffett’s estimate of $9 billion, and S&P’s estimate of $12 – $14 billion (see the enclosed article) obviously the stocks entry into average could have a big impact on the stock price. How much of that impact has already been incorporated into the stock’s price is hard to estimate, but in any event February 12th could be an interesting day.
If I, as investment manager, were writing a story about Minsky’s theory, my slant would be a little different. The title of the essay would be “Why Capitalism Works”, for it is my belief that the business cycle, and the hard lessons that trail in the wake of the economy that has gone off a cliff, are what make capitalism work. A crash provides a nice ego haircut for those egos most in need of a trim, and also provides a reliable antidote to the terminal arrogance that is a part of the human condition at the top of the market.
It should be on the must read list of anyone interested in understanding this particular economic collapse and macro economic cycles in general. More than this, the narrative suggests some very interesting parallels to events going on today. This book offers a perspective that is new and many ways quite different than most of what has been written previously.
Berkshire Hathaway’s 3rd Quarter. Newly arrived in Omaha, 73 years late, but just in time for Christmas a shiny, but not exactly new train set. There may be a bit of a problem placing this package under the Christmas tree because it comes complete with 6,500 locomotives 83,000 freight cars and approximately $2.1 billion in net income.
If the quarterly figure for reported earnings does come in around $4.0 billion (compared to $1.0 billion for the third quarter of 2008) it should provide Mr. Market with an incentive to mark up his price. In March of 2000, when Buffett offered to purchase Berkshire Hathaway for $45,000 per A share, the PE would have been 20.6 if calculated on the same basis, with look-through earnings included. If we ignore investment gains in both years, Berkshire Hathaway’s PE would be 15 now and was 23.4 then.
Most investors focus on short term results. They do not have patience that is required to outperform the market in the long term. In the media managers are compared using quarterly, monthly, or even daily returns, this creates pressure on managers to focus on short term performance. As Seth Klarman said in a recent interview; "Managers who do well in the short term are rewarded with more assets," he said. "Those who do not do well in the short term often don't survive to see the long term."
Berkshire Hathaway’s Goldman Sachs warrants that were part of the $5 billion in preferred stock deal are in the money (profitable) by $754 per “A” share at the moment, total $1152 per share pretax. That's quite a lot in around 9 months, and as Goldman Sachs is nice the Swiss Re Purchase is sweeter. On March 23, 2009 Berkshire Hathaway acquired a 12% convertible perpetual capital instrument that allows Berkshire Hathaway 120 million shares of Swiss Re (25% of company) at 25 CHF (Swiss Francs). On June 30 Swiss Re closed at 35.90 CHF. This equals a gain of 1.30 billion CHF ($1.2 billion) plus $78 million in interest for the second quarter (A near pornographic return on $2.6 billion investment for 3 months).
It is popular to blame deregulation for our economic collapse. Clearly what deregulation there was came at the worst possible time, and probably helped to make things worse, but deregulation did not cause our bubbles to form. For the bubbles we will have to give a lot of credit to our Federal Reserve, and particularly to Alan Greenspan. It may turn out that our problem was not too little Governmental intrusion it the market place, but too much.
I, as investment manager, think it likely that the reason capitalism works and that socialism does not, is that capitalism with its free markets, is able to correct its mistakes. The problem is that this has not been, and never will be a painless process. Until there is pain there is no will to correct. Or as I have said before, when it comes to economic systems, pain is the mother of wisdom.
The "Shadow Banking System" includes hedge funds, private equity, and structured investment vehicles and depending on whose definition you accept investment banks. The amount of money handled by these entities is huge. I, as investment manager, have seen estimates that run from $10 trillion up to above $50 trillion, in any event their assets are almost certainly larger than the regulated commercial banks. Participants are lightly regulated or not regulated at all; therefore very little reliable information about activity in this sector is available to the individual investor.
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.
Our problems stem from the fact that within the human brain emotion tends to override the rational function. Our brains consist of two different (although interconnected) systems. One is a fast and dirty decision maker (the X-system), the other is more logical but slower (the C-system). While this emotional override response served a useful purpose for our ancestors confronted with a wooly mammoth, it is not nearly as constructive for today’s investor confronted with a market that is rapidly eating his net worth "Effectively from an evolutionary standpoint a rapid response to fear carried a very low cost to a false positive, relative to the potentially fatal cost of a false negative".
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.
The current market has discounted a great deal of disaster. Mr. Market appears convinced that we have gone off the cliff and that a great deflationary chasm lies beneath us. So today the perception of risk by the people listed above is the opposite of what it was in June of 2007, yet chances are they are just as wrong today as they were then, logic and mathematics would suggest that the actual risk inherent in most equity investments today is lower than it was a year and half ago.
Hyman Minsky, an economist popular in the nineteen seventies, held that the capitalistic economy has an inherent tendency to develop instability. This instability eventually erupts into a in severe economic crises. In his words "stability is unstable". He said in the 1970’s that the key mechanism that pushes the economy towards a crisis is the accumulation of debt.
I am sending these orange sheets because of the near panic conditions on Wall Street, and because I, as investment manager, suspect that your money is probably doing better than you expect. Maybe these orange sheets will offer some comfort. It is gratifying to me that we have been able to out-perform the S&P by at least 25% in the last twelve and a half months.
The strongest argument in support the view of Edwards and Montier (authors article "Inflation Not The Problem") is that the generals always fight the last war. Since the last big battle was inflation that is what most people are worried about, and this concern will make central banks slow to respond to the threat of deflation.
In its annual report, the central bank for central banks said the impact of rising food and energy prices on consumers' incomes, combined with heavy household debts and a pullback in bank lending, may lead to a slowdown in global growth that "could prove to be much greater and longer-lasting than would be required to keep inflation under control. Over time, this could potentially even lead to deflation".
I, as investment manager, just finished rereading "When Genius Failed" Roger Lowenstein’s excellent book about the fall of Long Term Capital Management (LTCM). I thought it would be interesting to compare this earlier blow up with the current pyrotechnics in the bond market; and the fall of Bear Sterns. Indeed the parallels are surprising, surprising that is, if you assume, like I do, that large financial institutions should be able to learn from their mistakes.
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.
So far in the year to date, Berkshire Hathaway has continued to power our portfolios to a strong level of out-performance. The composite result of our accounts up 2.0% for the year as of February 29th compared the S&P 500 and the Wilshire 5000 which are down 9.38% and 9.20% respectively. For the 12 months ended on February 29 our composite result was up 24.7% while the S&P and the Wilshire were both off about 5.5%. This Relative margin of plus 30% for the 12 months feels good for now, but positive trends do not go on forever so enjoy the good news while it lasts. If the Bear Market continues (which I think likely) sooner or later it takes down even the strongest companies.
In the 2007 investment year Losch Investment Management Company's accounts with over $1 million showed an average gain of 19.92%. Accounts with less than $1 million gained on average 23.15%. There are a few smaller accounts that engage in (gasp) short term trading (mostly in Berkshire Hathaway) and they have beaten the long term buy-hold approach for the last few years.
In addition to the cash they will receive from investment gains in 2007, Berkshire Hathaway will see a big cash infusion from a jump in the float of its insurance businesses because of the Equitas transaction. Add the $6.9 billion from Equitas to an after tax profit in the area of $14 billion, and Berkshire Hathaway’s cash flow in 2007 will be in the black by something like.
In a world of paper currencies were a countries money supply is always a political issue, the politicians always want easy money. Greenspan notes that in his 17 years at the head of the FED he did not receive one phone call from a President or congressman requesting that he raise interest rates. Whereas there was constant pressure from politicians of all shapes and sizes to lower rates.
In the Second Quarter Berkshire Hathaway’s after tax net was $3.1 billion, so the PetroChina sales may well push Third Quarter bottom line to over $4.5 billion. This compares to last years $2.77 billion for the quarter, so the quarter to quarter comparison may exceed plus 60%.
I, as investment manager, presented here are three tables comparing the value of Berkshire Hathaway with some of Warren Buffett’s recent purchases. Also, included for the sake of comparisons are some of the stocks of Berkshire Hathaway’s long term holdings.
The main reason we have such a large position in Berkshire Hathaway is for protection in a down market so at least for the moment our hedge fund is working. One big advantage of using Berkshire Hathaway is that it can also outperform when the market is going up, as it did in 2006.
How curious that so many in the financial community should remain blissfully oblivious to live grenades scattered around the high-yield playing field. Amid all the asset bubbles that we've seen in recent years – emerging markets in 1997, Internet and telecoms stocks in 2000, perhaps emerging markets or commercial real estate again today – the current inflated pricing of high-yield loans will eventually earn quite an imposing tombstone in the graveyard of other great past manias.
Hyman Minsky an economist popular in the 1970s postulated, "stability is unstable" this economic paradox exists, Minsky explained because long periods of stability lure investors, bankers, and businessmen into taking on progressively more risk. While our economic system is good at correcting past mistakes it is even better at inventing new engines of instability.
The dollar, as measured by the FED’s Major Currency Index closed yesterday at 78.99 this is the lowest close in the history of the index, which dates back to 1972. There had been support on the charts around 80 that had lasted for 20 years. In 1991 the index bottomed at 82.52, in 1995 at 79.21 (which was the all time low until yesterday. The most recent test of this level was in 2005 when the index bottomed at 79.27.
Berkshire Hathaway’s Annual Report. Berkshire Hathaway’s 2006 earnings were spectacular. For the year net earnings were $11 billion or $7,144 per share. This was up 29% from last years $5,538 per share. It was up from $4,753 per share in 2004 and $2,795 per share in 2002 for a 4 year annual growth rate of per share earnings of 26.4%.
Steel Dynamics is an eleven year old company that claims to have the most modern steel operation in the United States. Until last year’s acquisition of West Virginia Steel (part of Roanoke Electric) was completely non-union. Beginning with production of flat roll steel in Butler Indiana in 1996 the Steel Dynamics added a fabricating operation at the same site in 2000, a structural and rail division in Columbia City Indiana in 2003, a bar products division in Pittsboro in 2004, and another fabricating plant in Lake City, Florida in 2005. In the six years since 2000 the Steel Dynamics company has increased its earnings from $54 million to today's $397 million which is a somewhat startling rate of increase (for a steel company) in earnings of 39% per year.
For 2006 investment year Losch Investment Management Company's average account was up 16.9%, this was almost exactly 3% better than the Wilshire 5000 index, an acceptable but not great investment result. Considering that Losch Investment Management Company spent the year with a very low risk profile (massively overweight Berkshire Hathaway, and 20% to 30% in cash most of the time) 16.9% looks even better.
In spite of our skepticism in relation to the overall market, we have recently been able to find a few interesting stocks. These are companies with strong earnings, and very solid balance sheets. These are stocks that will benefit from weakness in the dollar, either because they are basic materials stocks, or because they are companies that manufacture things in the United States. They are small companies with market capitalization that runs from $100 million (Core Molding) to $3.5 billion (Mechel OAO and Minas Buenaventura SA).
Also helping to push Berkshire Hathaway’s stock north was the recent announcement of a $15 billion deal with Equitas a trust formed by Lloyds of London to handle their asbestos and environment liabilities. This is a huge deal that will provide $9 billion in new insurance float when the deal closes, and maybe as much as $7 billion more over the life of the contract. This float comes from asbestos claims that will eventually have to be paid.
Using this guess (let me, as investment manager, emphasize the word guess) we arrive at a pre tax operating profit of $4.111 billion for the insurance and the non-insurance operating companies. Estimating a tax rate of 36% would deduct $1.5 billion and leave us with an after-tax operating profit of 2.6 billion of the third quarter compared to $2.05 billion in the Second quarter, $1.8 billion in the first quarter of 2006 and $100 million in the third quarter of last year.
This I suspect is part of what we will call Buffett's hurricane synergy, the idea that if Berkshire Hathaway can buy enough companies in the building materials, construction, and a manufactured housing industries. Then, when its the insurance companies are paying insurance claims for catastrophic damage due to hurricanes and earthquakes, Berkshire Hathaway as a company will just be transferring money from one pocket to another.
Warren Buffett says that lumpy earnings do not brother him, and it’s a good thing because Berkshire Hathaway’s earnings are lumpier than a sack full of cats. While this is not a problem for Warren Buffett it clearly is a problem for Mr. Market. This poor soul, obviously to busy to read Berkshire Hathaway’s financial statements, has no clue, earnings are up or earnings are down but what does it mean? With all those lumps?
"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.
Total pretax Berkshire Hathaway's operating income has grown from $329 million in 1987 to $7.5 Billion in 2005. The growth for the 19 year period works out to annual rate of 19% which is not bad for a company the size of Berkshire Hathaway, but what is more interesting to me is that the rate for the last ten years is 24%. Better yet the growth rate for the last 5 years is also 24%.
I, as investment manager, think it likely that first quarter earnings at Berkshire Hathaway will surprise many. I, as investment manager, have tried to estimate Berkshire Hathaway's quarterly results in the past and have not been particularly successful.
Since money is just another commodity, the more you increase the supply (the amount of currency circulation), the more you drive the price (value) down. This makes sense and how can you argue with the guy that wrote the book on monetary policy, and who won the Nobel Prize for his effort. Yet this rule of Dr. Friedman's now seems to have been suspended, if not repealed.
2005 investment year was a pretty dull year for Losch Investment Management Company's accounts and the market as a whole. With the composite of Losch Investment Management Company's accounts up 2.18% for the year, we fell in between the Dow which was down 0.61% in 2005 and the S&P which was up 3.0%. The good news is that we were able to accomplish this while we maintained a very low level of risk.
In the world today does it really matter what the name is on the paper? Yuan, Yen, Euro, Won, or Dollars, they are all exchangeable and transferable to anywhere in the world overnight. There is lots of evidence that the world is awash in cash, yet no one is worried about a serious inflation.
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.
Because the cruise companies are foreign corporations, and because most of the business of cruising is done offshore, substantially all of Carnivals income is exempt from US corporate Tax. Most of the Companies shipboard employees are foreign nationals and are not US residents so they are not subject to US Income tax on wages and the company is not required to contribute Social Security and Medicare taxes on their behalf. While most of the recreation industries are intensely seasonal (Las Vegas is hot in the summer and cold in the winter, Orlando has very hot, very long summers). The cruise business can mitigate this seasonality to some extent by moving its best ships to take advantage of seasonal rate premiums. Their ships can sail Alaska in the summer and the Bahia or Caribbean in the winter. They can sail Scandinavia in the summer and the Mediterranean in the spring and fall.
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.