Buffett's motivations questioned?

Last month, as a reader service, I published one of the most important financial statements made in recent years, but it wasn’t made by the Treasury, the Feds, or even the Banks (!)  …

… it was made by Warren Buffett – to give the average US investor confidence by sharing his personal financial strategies for today’s ‘crisis’ market.

Naturally, there were cynics: isn’t it amazing that people who usually have nothing (like one particular financial journalist) like nothing better than to criticize those who have everything (like one particular multi-billionaire investor)?

It’s the same counter-intuitive, yet all-too-human, failing that sees us buy when the market is high and panic/sell when it is low. Sad … but, true.

Here are some comments by Marketwatch.com, where “David Weidner penned an article about Warren Buffett” that Motley Fool thinks is “equal parts sad and stupid”; Motley Fool says:

Weidner responded to Buffett’s article by making the following points/accusations:

  • That because Buffett can get better terms than you, his advice does not apply to you.
  • That Buffett wrote the Times article to talk up shares because his recent investments in General Electric (NYSE: GE) and Goldman Sachs (NYSE: GS) preferred shares were underwater, and he needed to “stir up some buying” to get their prices back up.
  • That the stocks Buffett’s buying for his personal account are irrelevant, since he made his fame with his gains at Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B).
  • I am not going to report here all the reasons why this is short-sighted bunkum, when Motley Fool have already done such a good job for me 🙂

    How to build a conglomerate …

    I wrote a post a while ago, in response to a reader question, that questioned the sanity of an entrepreur following my path and owning multiple concurrent businesses.

    I said: bad idea!

    However, Diane points to a number of conglomerates (a collection of related or unrelated businesses under common corporate control) that make money because they diversify into multiple businesses and sectors:

    Most conglomerates are good examples of diversified businesses (GE comes to mind). One could also buy complementary businesses. Your risk level is affected the same way as it would be with diversifying any investment.

    Your example of multiplying the management teams (and thereby increasing risk to each business) is interesting, Adrian. This is precisely one a buyer of companies is looking for (like your friend Brad) – inefficient management with an underlying fairly decent business. You buy and consolidate, combining the common management (HR, Acctg, IT) that runs across each company, combine anything else you can “leverage” (logistic chains, purchasing power, for examples), and save money, thereby reducing costs and making it even more attractive to investors (depending on which kind you want).

    And, it’s true: a conglomerate can diversify a company’s risks, just like diversifying a stock portfolio … the problem is – just like any other diversification strategy – you equally ‘wash out’ your successes with your failures.

    My issue is that this may work as a ‘risk mitigation strategy for large companies, but it’s too risky for smaller (e.g. sole, or family) operators.

    Large conglomerates build up over time, usually using one successful business to fund the rest. The key is having good management in each … the risk (for a small player, like you and I) is trying to BE that management.

    A great example is Warren Buffett: he started Berkshire Hathaway by buying a controlling interest in a mediocre textile company and raised cash simply by stopping the dividend stream to the shareholders …

    … he used that cash to buy an insurance company, and used policyholder cash from the insurance company to buy more companies.

    The interesting thing is that he does NOT look for companies with poor management; rather he buys GOOD companies with GREAT management and keeps them in place, doing what they do best: creating more cash for his next company purchase … and, so on goes Warren’s $40 Billion – $60 Billion (his personal net worth in Berkshire Hathaway) ‘cash machine’ that owns more than 75 companies!

    The problem is that Warren only got to this point because he couldn’t find one company that ‘did the trick’ … he would, however, put 60% to 80% of his entire net worth in just one investment/business, if he could find it!

    To cap off the week …

    I can’t think of a better way to cap off a week’s commentary on the current financial meltdown than to 100% plagiarize this letter to the New York Times – it’s by none other than Warren Buffett …

    … so, read carefully as to what a conservative guy who has almost 100% of his PERSONAL assets in nice, safe government bonds is doing right now.

    [AJC: I was going to highlight the critical sections for you, but it’s ALL critical, so if you just want to give it your usual 27 second scan, that’s your problem 😉 ]

    October 17, 2008

    Buy American. I Am.

    THE financial world is a mess, both in the United States and abroad. Its problems, moreover, have been leaking into the general economy, and the leaks are now turning into a gusher. In the near term, unemployment will rise, business activity will falter and headlines will continue to be scary.

    So … I’ve been buying American stocks. This is my personal account I’m talking about, in which I previously owned nothing but United States government bonds. (This description leaves aside my Berkshire Hathaway holdings, which are all committed to philanthropy.) If prices keep looking attractive, my non-Berkshire net worth will soon be 100 percent in United States equities.


    A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful. And most certainly, fear is now widespread, gripping even seasoned investors. To be sure, investors are right to be wary of highly leveraged entities or businesses in weak competitive positions. But fears regarding the long-term prosperity of the nation’s many sound companies make no sense. These businesses will indeed suffer earnings hiccups, as they always have. But most major companies will be setting new profit records 5, 10 and 20 years from now.

    Let me be clear on one point: I can’t predict the short-term movements of the stock market. I haven’t the faintest idea as to whether stocks will be higher or lower a month — or a year — from now. What is likely, however, is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. So if you wait for the robins, spring will be over.

    A little history here: During the Depression, the Dow hit its low, 41, on July 8, 1932. Economic conditions, though, kept deteriorating until Franklin D. Roosevelt took office in March 1933. By that time, the market had already advanced 30 percent. Or think back to the early days of World War II, when things were going badly for the United States in Europe and the Pacific. The market hit bottom in April 1942, well before Allied fortunes turned. Again, in the early 1980s, the time to buy stocks was when inflation raged and the economy was in the tank. In short, bad news is an investor’s best friend. It lets you buy a slice of America’s future at a marked-down price.

    Over the long term, the stock market news will be good. In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the Dow rose from 66 to 11,497.

    You might think it would have been impossible for an investor to lose money during a century marked by such an extraordinary gain. But some investors did. The hapless ones bought stocks only when they felt comfort in doing so and then proceeded to sell when the headlines made them queasy.

    Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

    Equities will almost certainly outperform cash over the next decade, probably by a substantial degree. Those investors who cling now to cash are betting they can efficiently time their move away from it later. In waiting for the comfort of good news, they are ignoring Wayne Gretzky’s advice: “I skate to where the puck is going to be, not to where it has been.”

    I don’t like to opine on the stock market, and again I emphasize that I have no idea what the market will do in the short term. Nevertheless, I’ll follow the lead of a restaurant that opened in an empty bank building and then advertised: “Put your mouth where your money was.” Today my money and my mouth both say equities. [Warren E. Buffett is the chief executive of Berkshire Hathaway, a diversified holding company]

    ’nuff said 🙂

    What are the pro's and con's of value investing?

    I answered a great question at TickerHound posted by the staff (as they do from time to time to stimulate discussion) that I thought I should simply repeat here:

    What are the pro’s and con’s of value investing? Do you think it’s a worthwhile strategy or are you more of a “efficient market” proponent?

    Well, I consider myself a Value Investor in everything that I do … stocks, real-estate, etc. The only exception is in the case of businesses, I’m generally a Growth Investor or a Value Investor.

    Value Investing simply means “buying something worth $2 for $1” … well, not exactly, but you get my point: buying something for less than it is WORTH.

    Now, this is a critical distinction: just because something was selling for $2 last week, and is selling for $1 this week, doesn’t mean that it is a VALUE Stock … it may only be ‘worth’ $0.50 and the market may simply be driving the price down to that … and, beyond!

    In fact, that same stock (really ‘worth’ only $0.50) may BECOME a Value Stock if/when the market overshoots and sends the price down to $0.25.

    The problem with Value Stocks is then one of KNOWING what they are truly worth at any point in time, and only buying when they are selling for a price less than that (preferably, with a large Margin of Safety … which simply means, buying it for MUCH LESS than what you THINK it is worth “just in case” …).

    Now that we have covered the basics, what is the PRO of Value Investing?

    Exactly that … being able to buy something ‘worth’ $2 for only $1. I can’t think of a better, more sure way of making money than that!

    Then, what is the CON of value Investing … after all, there must be some or we’d ALL be doing it?

    Simple: as I said before, it’s all about KNOWING which stock that is currently selling for $1 is actually worth $2 (and, avoiding the ones that are only worth $0.50!!). And, that takes some knowledge and skill. Warren Buffett has that knowledge and skill … so do many others, to a greater or lesser extent.

    One other CON – one that is, ironically enough, addressed by another TickerHound question: “Is technical analysis still applicable in a “news driven” market like the one we’re in now?”:

    If a stock that you KNOW is worth $2 is currently selling for $1, is it an automatic BUY?

    Well NO … you see, you KNOW it is worth $2, but the rest of the market may not!

    Or, it may have BEEN worth $2 but there is something happening (maybe a pending lawsuit around a key patent, or the loss of a major contract, or … ) that YOU don’t know about because it hasn’t hit the “news” (or TickerHound) yet, but those ‘in the know’ are selling off the stock by the truckload.

    So, that’s where technical analysis is not just applicable in a “news driven” market like the one we’re in now, but absolutely CRITICAL for buying Value Stocks …

    … it will tell you WHEN to buy (or sell off) that stock holding, based upon what the “insiders” are doing.

    If you want to learn more about Value Investing, and using Technical Analysis to know when to get in/out of a Value position, I recommend picking up a copy of Phil Town’s excellent primer: Rule 1 Investing

    … and, Good Luck!

    Should you buy Berkshire Hathaway instead of an Index Fund?

    After yesterday’s post which was aimed squarely at my readers who want to get rich – I hope all of you 😉 – I thought that I should write a follow-up piece aimed at the window-shoppers who are stopping to look at my Get Rich(er) Quick(er) wealth creation ‘catalog’ but have no intention of ‘buying’ …

    This question arose as a result of a recent article on Get Rich Slowly  which references the same Warren Buffett quote that that I posted yesterday:

    What advice would you give to someone who is not a professional investor? Where should they put their money?
    Well, if they’re not going to be an active investor — and very few should try to do that — then they should just stay with index funds. Any low-cost index fund. And they should buy it over time. They’re not going to be able to pick the right price and the right time. What they want to do is avoid the wrong price and wrong stock. You just make sure you own a piece of American business, and you don’t buy all at one time.

    Get Rich Slowly then went on to say something very interesting:

    Buffett has said this time and time again, which is why I’m baffled when people use Buffett as a reason to not diversify. I am not Warren Buffett. Neither are you. Unless you have Buffett’s combination of patience and intense research, you’re better off putting your money in an index fund. (As one reader recently noted, if you can afford to buy a share of Buffett’s company, Berkshire Hathaway, you’re getting the best of both worlds: a diversified portfolio picked by Warren Buffett!)

    … which I also commented on yesterday, but it’s the “one reader” comment at the end, that grabbed me.

    If Warren Buffett is indeed the World’s Greatest Investor (he is, without a doubt!), and you want to diversify as he recommends, why not forget about the “low cost index fund” option altogether, and jump straight to the top i.e. into Berkshire Hathaway (the company that Warren controls)?


    Because, Warren didn’t recommend it … he’s too ethical to recommend it … in fact, he even says openly that an investor with $1,000,000 can achieve far better returns than he can nowadays, because Berkshire is just too darn big to move quickly and must invest in such large sums that the number of opportunities out there are much smaller for them than for us ‘little guys’.

    Of course, the occasional ‘big opportunity’ opens up for Berkshire Hathaway, because of their $60 Billion ‘war chest’ … in the meantime, that $60 Bill. just sits in the bank barely beating inflation.

    Even if Warren were still at his ‘smaller, more nimble’ peak, he still would NOT recommend that you do as “one reader” suggests because:

    1. You would be buying just ONE stock … admittedly one that has performed well in the PAST and MAY (or may not) perform well in the future, and

    2. You would be buying into only a partially-diversified conglomerate … a ‘piece of Warren’ rather than a ‘piece of [the whole of] America’.

    So, if you are on the path to saving rather than investing, do what Warren Buffet himself suggests: stick to low-cost index funds …

    … only buy any individual stock – including Berkshire Hathaway – if you are in the business of investing and really know what you are doing.