Three lessons from Warren Buffett

From what I can tell, there were no drugs, no free love, and just a little rock-n-roll. But the “Woodstock for Capitalists,” as the Berkshire Hathaway annual meeting is known, offered its own ways to expand the mind. This past weekend, I was joined by 35,000 of my fellow shareholders — a record crowd — in Omaha, Nebraska, to soak up the wisdom of Berkshire's chairman, Warren Buffett, and co-chairman, Charlie Munger. They didn't disappoint. Despite their ages (Buffett is 78 and Munger is 85) and recent performance (Berkshire's stock was down 31.8% in 2008), the two multi-billionaires had plenty to say, which means there was plenty to learn.

I attended the six-hour meeting on Saturday and the two-hour press conference on Sunday, so it would be difficult to boil it all down to just three lessons. But I'll give it a try anyhow. (Keep in mind, however, that no recording devices are permitted in these events, so when I quote Buffett or Munger, it's a close approximation of what they said, based on how fast I could type as they talked. And that goes for any other “transcript” of the Berkshire meeting you read.)

Lesson One: Everyone Suffered Last Year

Did your portfolio plummet in 2008? Don't feel bad. Most everyone's did, including those managed by some of the greatest investors in the world. Berkshire Hathaway posted its steepest decline in book value ever. And the people in line to succeed Buffett and Munger (when they eventually join the Great Holding Company in the Sky) reportedly didn't do so hot, either. Not that we know who the potential heirs to the thrones are; Buffett has people in mind, but he's not naming names.

But a shareholder did ask how they performed in 2008. Here's the response:

Buffett: All four are still on the list. We have three internal candidates for CEO, and four for the investment managers position; we could have one take that job, or all four. They did no better than match the S&P last year, down 37%. They didn't cover themselves in glory, but I didn't either, so I'm tolerant of that.

Munger: Practically every investment manager in America that I regard as intelligent and so on, they all got creamed last year.

Buffett: The four have a better-than-average record over the long term. There were a lot of things that didn't work [last year].

Munger: I don't think we'd want an investment manager who would want to go to cash based on macro factors. We think it's impossible.

Buffett: In fact, we'd leave out someone who thought he could do that.

I don't know about you, but it gives me some solace to know that we were all in the same boat last year. If 2008 was kryptonite to the super-investors, then I shouldn't feel so bad about the 25% to 38% drop in the model portfolios of my Rule Your Retirement service.

Lesson Two: Investing Isn't Rocket Science

If you know Buffet's and Munger's biographies, you know they're wicked smart. In college, Buffett would read a chapter from a book and then recite it word-for-word from memory to impress his fraternity brothers. But you may also know that Berkshire's chairmen don't attribute their success to big brains. At this year's annual meeting, they once again returned to this theme.

Buffett: You don't have to know how to value all businesses. You have to stay within your circle of competence, and pick companies that sell for less than what they're worth. Some don't lend themselves to valuations, so you should ignore them…If you are in the investment business and have an IQ of 150, sell 30 points to someone else. You do have to have an emotional stability and an inner peace about your decisions. It is a game where you are bombarded by minute-by-minute opinions. It's not a complicated game. It's simple, but it's not easy. You have to have an emotional stability.

Munger: There's so much that's false and nutty in modern banking and academia. If you just reduce the nonsense, that's all you can reasonably hope for. If you think you have an IQ of 160 but it's 150, you're a disaster. It's much better to have a 130 IQ and think it's 120.

In fact, Buffett and Munger often argue that high intelligence can be a hindrance, especially when that brainpower generates complicated mathematical models that purport to predict the future. In his recent annual letter, Buffett phrased it as “Beware of geeks bearing formulas.” Here's what they said at the annual meeting:

Buffett: False precision leads to Long-Term Capital Management [a hedge fund associated with two Nobel Prize winners in economics that almost brought down the global financial system in 1998]. It only happens to people with high IQs. Those of you with an IQ of 120 are safe.

Munger: Some of the worst business decisions I've ever seen are the consequence of complex calculations and projections. They do that in business schools because, well, they have to do something.

I won't tell you what my IQ is. It's higher than 120, and I suspect that's true of most GRS readers as well. But there's no way I could match the intellectual firepower of Buffett and Munger. It's heartening to know they don't think I have to in order to be a successful investor.

Lesson Three: Find Good Businesses, Hold On, and Buy More

At every Berkshire annual meeting, there are shareholders who ask questions with an agenda in mind. This year, a fellow gratuitously promoted his hedge fund (Buffett eventually said, “We'll bill you for that commercial later”), and then asked this question: “If you owned 10 stocks, and five doubled, would you sell and buy the others?” To which they replied:

Buffett: We would buy the half-dozen stocks that we like best. Our cost basis, except in rare cases, doesn't have anything to do with [the decision]. We don't worry whether it was up or down. We worry about what it's worth compared to what it's selling for.

Munger: He's tactfully suggesting that you adopt a different way of thinking.

Buffett said later, “When we buy a business, it's for keeps.” That's how they think of the investments they own, and how they want investors in Berkshire Hathaway to think, too. It's best expressed in the first principle of the Berkshire Hathaway Owner's Manual (how many companies have an owner's manual?): “Although our form is corporate, our attitude is partnership.”

Charlie and I hope that you do not think of yourself as merely owning a piece of paper whose price wiggles around daily and that is a candidate for sale when some economic or political event makes you nervous. We hope you instead visualize yourself as a part-owner of a business that you expect to stay with indefinitely, much as you might if you owned a farm or apartment house in partnership with members of your family. For our part, we do not view Berkshire shareholders as faceless members of an ever-shifting crowd, but rather as co-venturers who have entrusted their funds to us for what may well turn out to be the remainder of their lives.

These guys clearly advocate buy-and-hold investing, even after a horrid year like 2008. They will and do sell, but not often, and only when the fundamentals change or they need to raise cash for better opportunities. It's certainly not based on what happens in the market. As Munger said at the press conference, “Judging how things are going by [what] the stock price [does] in a year is the wrong way to do it.” It's tough to argue with two of the richest guys in the world.

If you're not inclined to pick individual stocks, then just own a diverse group of businesses in a low-cost way, starting with an index fund (something I do with a good part of my money, and what Buffett recommends for the majority of investors). In this case, you're benefitting from the long-term growth the world's corporations (and they will grow over the long term — eventually). Holding on to a varied group of these types of investments, and buying more when they're down, sure beats chasing only what did well over the past decade.

The Bottom Line

On the plane back to D.C. from Omaha, I didn't leave completely reassured about the near-term. Buffett and Munger are skeptical about a lot that transpires on Wall Street and on Capitol Hill. But that doesn't mean they're selling their stocks and waiting for the perfect time to buy. In fact, they put $20 billion of cash to work over the past year. We'll give the concluding words to Buffett:

Buffett: I'm going to be buying investments for the rest of my life, and I like paying half of X more than paying X. It just makes sense that when things are on sale, you should be happy to buy…Any chance we have to do something that makes sense, we do it. If it makes even more sense the next day…there's nothing you can do about it. Picking values is easy. Picking bottoms is impossible.

This is the first of what I hope will be many articles from Robert Brokamp and The Motley Fool. If you have topics that you'd like to see Robert write about, please let us know. We'll do our best to get to them!

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the weakonomist
the weakonomist
11 years ago

As usual Buffett is a breath of fresh air in the dank and polluted market of investment advice. Welcome to the blog Robert, I’m looking forward to more investment related topics.

Baker @ ManVsDebt
Baker @ ManVsDebt
11 years ago

“If you are in the investment business and have an IQ of 150, sell 30 points to someone else.”

Wow, what an awesome way to say that. I absolutely love Warren Buffet! Of course, who doesn’t. It’s awesome to have a little different perspective added once in a while. It’s great to hear articles like this will be a bi-weekly addition!

ABCs of Investing
ABCs of Investing
11 years ago

I must be the only person in the world who isn’t enamored with Buffett – sure he’s a good investor but he hasn’t done anything extroardinary in a long time. Plus he isn’t playing on a level playing field – he gets access to a lot of info that most investors don’t get plus he can tell the management how to run the company.

I hope it doesn’t happen but it’s not impossible that Buffett is the next Bill Miller.

Ken
Ken
11 years ago

Glad to have you aboard, Robert. Looking forward to what you bring to GRS.

Steve
Steve
11 years ago

He didn’t exactly call the bottom when he made investments in Wells Fargo and Goldman Sachs but those are two good companies that should perform well for him.

Spaceknarf
Spaceknarf
11 years ago

Regarding your request for topics for Robert to write about, here’s my suggestion:

Many websites and people (including GRS) advocate using asset allocation to protect yourself against fluctuations of the prices of your assets. A month ago I read an article (unfortunately not in English) about shorting your assets to protect against falling prices.

I would like to hear J.D.’s or Robert’s opinion on this.

(The article is here: https://www.snsfundcoach.nl/ShowArticle.asp?navID=5404&intArticleId=1554
When translated using Google Translate (Dutch to English) it is understandable I think.)

d^2
d^2
11 years ago

buffett sounds like an old codger telling us not to trust geeks with formulas. i bet he thinks the internet is a series of tubes, too. i think what he should be saying is “if you don’t understand it, and don’t want to put the effort into understanding it, don’t buy into it”. that’s probably what he really means. math and computer modeling add value in many cases. you just have to understand all the assumptions and weaknesses of those models to be able to use them effectively. clearly, this was not the case with much of the financially engineered… Read more »

Linear Girl
Linear Girl
11 years ago

“Picking values is easy. Picking bottoms is impossible.” This is Get Rich Slowly thinking in a nutshell. You may not get the very best deal or make the most money, but you’ll make solid investments and make the most of the information you have. It’s about focusing on what you *can* achieve with the circumstances you’ve got. I expect there will be comments here about how Warren Buffet has all sorts of advantages that GRS readers don’t, which is true, but irrelevant. Buffet’s attitude is the most important aspect of his investment strategy. I have a choice: I can ask… Read more »

Beth @ Smart Family Tips
Beth @ Smart Family Tips
11 years ago

Welcome, Robert. Thank you for the post. I, too, am a Buffett fan. His advice seems consistently rational and free of hype.

Rich
Rich
11 years ago

Great article and look forward to hearing more on investing as well.

@ d^2
I think he is in agreement with you over the geeks with formulas, it’s just that some folks get too comfortable with formula based decision making and it leads to decisions which are not thought out – only relying on the formula for the answer.

Troy
Troy
11 years ago

What I gather from Buffett, now and historically is a simple philosophy. Invest in what you understand and control. Buffet is the poster child for this. He understands what he invests in, and he controls most or all of that investment. In my opinion those are the two most important rules in the universe regarding what to do with your money. 1) Know where it goes, and 2) what it’s doing. If you notice, Buffet doesn’t invest in “the market” He invests in specific companies. Individual Businesses. That he owns. It is not shares, it is pieces of businesses. Munger… Read more »

Mark Wolfinger
Mark Wolfinger
11 years ago

“I don’t know about you, but it gives me some solace to know that we were all in the same boat last year.”

Solace? If you learned to use options, the losses would have been much, much less. And you still make plenty of money when the market rallies.

Hedging is intelligent and conservative.

http://blog.mdwoptions.com/

David
David
11 years ago

I think buying an index fund is a bad idea. Considering the market tanked %40 percent. It is much better to pick your own stocks.

DebtGoal
DebtGoal
11 years ago

The commonality between the advice presented in the article and people who want better financial health is the need to manage expectations.

Ian
Ian
11 years ago

Do we need a financial messiah?

I am just sick of this love fest. He’s shouting common sense from the rooftops. It’s nice, but c’mon. It’s really all just common sense.

Ian

Ross Williamsr
Ross Williamsr
11 years ago

“It’s tough to argue with two of the richest guys in the world.” Unless you consider the possibility that they just got lucky. “I think buying an index fund is a bad idea. Considering the market tanked %40 percent. It is much better to pick your own stocks” Any stocks you picked would likely have tanked 40%, or more, as well. Just think if you picked AIG, Lehman Brothers, Chrysler and GM. Of course you are probably too smart for that. I think the basic message from Buffet is that ego is an investors worst enemy. If you think you… Read more »

Todd @ The Personal Finance Playbook
Todd @ The Personal Finance Playbook
11 years ago

Great post. I was at the meeting as well. The advice never changes, but every time I hear him come through with his logical consistency, it reaffirms the adherence to his approach. Charlie, as usual, was hilarious at the meeting.

Ross Williams
Ross Williams
11 years ago

The fact is Buffet is a great showman with a lot of street cred. But lets not forget the showmanship is why we have “woodstock” comparisons. As someone else pointed out, a lot of what he says is common sense. But that is uncommon in the business media.

David
David
11 years ago

@ Ross if you held the Dow index for 10 years then you would be at the same place where you started.

http://www.google.com/finance?q=INDEXDJX:.DJI

ObliviousInvestor
ObliviousInvestor
11 years ago

Does nobody else see a big conflict between the GRS principles and the principles espoused by the Motley Fool?

AB
AB
11 years ago

heh. Nobody thinks their IQ is average…

and yet… 🙂

Blair
Blair
11 years ago

Robert,

A really good summary of this years Berkshire meeting, I think you really capture the simplicity but the importance of what Warren tells us but we sometime downplay. I really look forward to reading your future contributions.

A couple of subjects that would be great to hear your thought on are:

* Asset Allocation
* Rebalancing to your Asset Allocation

Cheers

Ross Williams
Ross Williams
11 years ago

“if you held the Dow index for 10 years then you would be at the same place where you started.” And if you held GM stock you would be in pretty bad shape. Far worse than where you started. If you bought Lehman, you would have nothing left. The real problem is if you developed a diverse portfolio that included those big losers and missed the big winners that offset those losses in the average. And that is at least as likely as the reverse. I would also point out that as long as Buffet has credibility, he can count… Read more »

Mark
Mark
11 years ago

“If 2008 was kryptonite to the super-investors, then I shouldn’t feel so bad about the 25% to 38% drop in the model portfolios of my Rule Your Retirement service.”

The question is how would you feel of a 25% to 38% drop during a normal year? And why should you feel any differently for 2008? Because it doesn’t hurt that much and you still get to keep your faith in the market?

Neil
Neil
11 years ago

Sorry if this comment is a bit dated but….

Surely the best (worst?) example of financial geekery was the rating of mortgage-backed debt. Extremely clever people worked out a formula that could turn something worthless (or at very least risky) into AAA gold.

At no point did the financial gurus involved think it would be a good idea to do a survey of say 1000 mortgage holders to see what there calculations were based on. Incredible!

Mike R
Mike R
11 years ago

Please tell me you will be wary of the motley fool. These guys are some of the biggest “buy a hot stock now” hucksters I have ever read. Their website is one big ad made to get you to sign up for their junk stock tips. You reviewed “the intelligent investor” recently and this great book points out huge flaws and losses to anyone that followed “the fool’s” advice during dot com times. They espouse that they are for the little guy and then just stick it to you with a rediculous ad or formula. I love your site but,… Read more »

kitty
kitty
11 years ago

@ d^2 “it’s when you get geeks with formulas repackaging the stuff and assigning it a higher credit rating than it actually supports that you get into trouble. ” Not to mention when the same geeks create so-called “insurance” products that only have a reference relationship with what you are insuring and no capital requirements for the insurer allowing anybody to drive the value of “insured” stuff down by simply buying a lot of “insurance” for it. Credit Default Swaps are like 10 people being able to buy insurance on somebody else’s house – then you can short somebody’s house… Read more »

Kevin M
Kevin M
11 years ago

@ comment #3: Has ANYONE done anything extraordinary lately?

Like an earlier comment stated, Buffett is a showman, but I think his principles of investing are more realistic for “real people” than the likes of Jim Cramer or others in the media. Ultimately it’s up to the individual to figure out what’s best for his/her situation…there is no magic formula.

I also find it curious the blog author mentions a hedge fund guy pimping his wares to Buffet & Munger, but he does the same thing with the Motley Fool offerings.

Ross Williams
Ross Williams
11 years ago

@Neil and Kitty I am at loss to figure out how the bond rating agencies lost anything in this deal. They made a lot of money and they have not lost any business as a result of the meltdown. In fact, the Feds are still using their ratings as part of the bailout. And the folks that created CDO’s and CDS’s walked away with a lot of money. The key to the entire investment process was transferring risk, much of it ultimately assumed by the taxpayers, and keeping the profits. As for mark to market – the reality is there… Read more »

Masked Financer
Masked Financer
11 years ago

Warren Buffett is a great investor to learn from but he is also a great at PR. And not everything he says or does is right. Lesson 1 – Everyone suffered last year This is not true. Lot’s of the best hedge fund managers had great years last year, including Soros, Simons, Leuthold. They achieved good returns by investing well and managing risk well. Buffett didn’t do so well because his risk management was poor. He bet big on Conoco and the Irish banks and rode them all the way to the bottom. Just because the 4 guys he picked… Read more »

George Manlangit
George Manlangit
11 years ago

“Picking value is easy. Picking bottoms is impossible”
I know it’s easier said than done but it helps novice investors to work their investment strategies from this context.

Dave Shafer
Dave Shafer
11 years ago

Nicely written article. I wonder why it is that people choose not to hire Warren Buffett to manage their wealth? All it costs is a simple $8 or so transaction fee [buy BRK]. All those folks who critique WB, need to have a public record to back up their words. I often laugh with fellow BRK investors that it would be great if those folks who point out why WB is washed up or how he made mistakes would have to put by their names their returns over their investing life. Imagine this “ABCs of Investing [4% return over 15… Read more »

Jonha @ Happiness
Jonha @ Happiness
10 years ago

This is, by far, the best article I’ve ever read about Warren Buffet. I love firsthand experiences and I really like how you discussed each points of the minutes of the meeting.

NR
NR
10 years ago

Warren Buffet is great, no doubt. Buffet is great at doing what suits him best – and THAT is the lesson for the “average” investor: Do what you do best! Buffet is known for investing in household names such as Coke, Amex, Wrigley, Sees Candy etc, however, the majority of BRK’s fortune is driven by a machine of derivatives, forex/currency exposure and insurance businesses such as Geico et al – where Buffet is a master at re-investing insurance premiums paid in by customers. He calls it the perfect business! You need an extremely high ivestment IQ to invest and profit… Read more »

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