The highlight of the Berkshire Hathaway Shareholders Meeting is the five-hour question-and-answer session with Warren Buffet and Charlie Munger. What follows are various notes I scribbled in my lab book throughout the weekend. I have been disappointed with most newspaper summaries of the meeting, but the Wall Street Journal did a decent job. I apologize in advance for the fact that this is more of a brain-dump than a polished piece of reporting.
This year, a panel of journalists asked half the questions, selecting from a pool submitted by readers. They generally made the questions sound more intelligent and germane, and I hope they repeat this format. Some people tried to ask tricky questions catching Buffet in a contradiction or a mistake; he generally had excellent answers for these questions. Usually these answers took the form of “I disagree with you for this reason: [demonstrates renowned insight]” or “That’s great thinking, I remember doing the same thing when I first started out fifty years ago, when he had to look up those numbers in large books that we sent away for in the mail.”
Generally, Buffet would take several minutes to answer a question in some depth, providing context to his remarks. Then Munger would chime in with a sentence or two that got right to the heart of the matter. The first time this happened, it elicited a nervous titter from the audience. Muffet was even franker than Buffet, if such a thing is possible. Occasionally, Munger would add that he had “nothing more to add” to Buffet’s remarks, which apparently is his catch phrase.
Without futher ado, the Wit and Wisdom etc:
1. Buffet showed a single slide showing how Berkshire had sold several hundred thousand dollars worth of T-Bills for $90 above par. This is probably the only time during our lifetimes when we will see negative yields on T-Bills.
2. Berkshire deals mainly in derivative contracts that involve little risk of having to post collateral and no counter-party risk. This makes them safer than many derivatives that have destroyed other companies. The financial rewards of these contracts outweigh the accounting penalties (from mark-to-market requirements), as long as the contracts are clearly explained to shareholders.
3. An early trip to Las Vegas, where people drive thousands of miles to dress up well and do something very dumb over and over again, taught Buffet that there was a world of opportunity out there.
4. In its response to the financial crisis, the government is acting under extreme pressure and we shouldn’t expect perfection. Buffet thought they were doing a good job overall.
5. Buffet recommended this year’s letter to shareholders from Jamie Diamond (JP Morgan Chase).
6. The essence of investing is to put out cash now to get cash back later.
7. If you have to use a computer to tweak the discount rate or calculate an elaborate model, don’t make that investment. False precision will usually lead you astray. Good investments are obvious enough that they will shout at you.
8. Business school professors have a lot of classroom time to fill, to their detriment. In Buffet’s school there would be only two classes: How to Value a Business, and How to Think About Markets.
9. You can get into a lot of trouble if your IQ is too high. Buffet remarked several times that a “normal” IQ of 120 was high enough.
10. Buffet thought that the conflict of interest inherent in the rating agencies compensation (ie. that they get paid by bond issuers rather than by bond buyers) was not very important. The bigger mistake that the agencies made was to believe that house prices would always go up. This was a huge mistake, but everybody made it.
11. Buffet and Munger don’t tell the companies Berkshire owns what to do; in fact, they usually couldn’t.
12. Newspapers aren’t well positioned, but they are earning a little bit. Berkshire policy is to not sell businesses. Munger remarked that monopoly newspapers did a lot of good, forcing governments to be more honest than they would be otherwise, and their demise is a tragedy. What replaces them will probably not be as good.
13. The stimulus will lead to inflation. Therefore invest in your skills and in your business. The US dollar will buy less in 5-10 years, but so will other currencies, so it’s hard to hedge the US dollar against other currencies or predict relative performance.
14. At one point, stamps cost 2 cents and burgers 5 cents.
15. High end retailing has been hit hard by the recession.
16. Geico insurance has been doing well because they are the low cost provider and people want to save money during a recession. Geico built up that advantage over a long time.
17. They gave some quarterly numbers because the meeting happened to occur before the earnings reporting deadline. (I was going to twitter these, but expensive international roaming charges from Fido would have eaten up any profits from insider trading.)
18. Regarding BYD, Munger remarked that “This is not some unproved, speculative [technology] — this is a damn miracle!”
19. BYD was Munger’s big investment this year; Irish Banks were Buffet’s (and they were a disaster, apparently).
20. This may be a historical period where the Chinese become dominant.
21. Charlie Munger got passionate (well, he was slightly more audible) about renewable energy. Once we have cheap energy, we can solve a lot of other problems. He talked at length about Iowa wind power. (My own experience was that Iowa was not as windy as David Foster Wallace described it in his autobiographical tennis essays.)
22. What did Buffet think about Moody’s downgrading Berkshire’s credit rating? Well, it was irritating, but it did not have a material impact. There is little difference in the cost of borrowing between AAA and AA, and business schools often argue that it isn’t worth it (something about decreased earnings yield?). Berkshire is still #1 among the insurers, and it’s difficult to measure their attitude of always paying back debt holders. Munger remarked that this does demonstrate Moody’s independence. In the end, he thought that Moody would come around, because Moody is smart. (Buffet remarked that this was a common line from Munger: “Eventually you’ll see it my way, because you’re smart and I’m right.”)
23. When Berkshire sells a put, the immediate accounting result is that Berkshire and the other party trade assets and liabilities. But eventually, since Berkshire doesn’t have to post collateral, the other party is required to buy credit default swaps which cost about 5% of the deal price. This drives up the price of Berkshire CDSes, making Berkshire look like a worse risk. Buffet said something about being willing to renegotiate these deals at a profit (but I’m not sure how, since presumably Berkshire remains unwilling to post collateral).
24. One of Berkshire’s competitive advantages is that they can respond to and execute a huge deal in mere hours, because they have lots of cash and good managers. For instance, they offered to buy Constellation within 24 hours of being approached.
25. There was a question about Bank of America and Meryl Lynch. Buffet laughingly passed this on to Munger, and Munger diplomatically said that, while criticism of the original contract was legitimate, once that contract was signed he thought the Treasury and Band of America behaved honourably. There was some discussion of what Berkshire would do in a similar situation, where it might be asked by the government to withhold information from shareholders, but I didn’t really hear a clear answer.
26. Berkshire returns will not be 20% in the future. They hope it’s a few percent better than the S&P 500, as measured by the increase in book value as a (decent) proxy for intrinsic value. Munger added that Berkshire will make larger contributions to civilization (presumably through things like renewable energy).
27. China can’t get out of buying US dollars if they want to maintain a trade surplus with the US. The question is, do they keep holding treasuries? China has a good economic policy and it’s hard to compete with them. Any losses on treasuries are minor by comparison. US and China are “joined at the hip.”
28. Berkshire certainly does post mortems on acquisitions, but doesn’t make them public, out of consideration for the acquired companies.
29. Buffet referred to 9/11 as “the World Trade Center problems” (possibly he was referring to the insurance payout).
30. Now, GenRe is the good, solid company they thought it was when they bought it 15 years ago.
30. Somebody asked in a roundabout way that since Berkshire was so big and lacklustre, maybe he should just mimic Berkshire’s stock picks himself. Buffet said that sounded like a great idea, and that’s how he got his start. Classic answer judo.
31. When asked about compensation contracts, Buffet remarked that Berkshire doesn’t want relationships with its managers based on contracts; they want continued passion about the business.
32. When asked about spinning off business to increase market value, Buffet stated that Berkshire likes keeping good businesses; who cares about a 1.5x return from a spin-off. They promise the businesses they acquire that they are buying for keeps. Besides, they have the advantage of tax-free capital reallocation between businesses, which shareholders themselves can’t do. Munger added that if regulation was really hurting them, they might split up Berkshire. But usually investment bankers recommended spinoffs because they generate large fees.
33. Regarding a question about the student loan business, both Buffet and Munger stated they didn’t know the answer. Buffet then added that he had avoided investing in Sally Mae because he didn’t understand that business, which turned out well for Berkshire.
34. There was a question that was nominally about how to run good businesses during a bad economy, but the questioner started talking about fiat money and the gold standard. Buffet answered by talking about progress and the ability of capitalism to unleash human potential. Munger observed that once we have plentiful renewable energy, we can solve a lot of other problems.
35. Buffet remarked that Swiss Re is pretty good at reinsurance.
36. On the topic of compensation in a capital intensive business, Buffet and Munger made several points:
a. In reality, the CEO usually determines his own compensation through his choice of compensation committee.
b. Compensation should be determined by the board of directors as a whole, not by a compensation committee.
c. It’s easy enough to figure out a rational system, but CEOs prefer irrational systems because they are more profitable.
d. If you pay directors, you get reciprocity, and that means the directors are not independent. You need directors to have other income or be wealthy, and to own stock. That will make them independent of management.
37. Question: What is the worst-case scenario for Berkshire’s insurance business?
Munger: a disaster.
Buffet: inflation makes insurance so expensive that the government nationalizes it (not unprecedented: look at social security as a nationalized annuity).
38. On foreign exchange exposure: hedging is possible, but not recommended. Berkshire looks at individual opportunities, rather than having a top-down country allocation.
39. A question from anonymous Berkshire employees: Will there be layoffs due to lower profits? Answer: as some businesses contract, there will be layoffs, although Berkshire generally tries to avoid them. Also, Berkshire needs to react to business change.
40. How can shareholders affect compensation? By embarrassing the top five paid managers, cooperating with big investors and the media. Taxing excess wages, as Clinton did, backfired spectacularly and led to convoluted (and higher) compensation packages. Munger observed that investors are also highly paid, that the government aren’t good managers of these things, and that sometimes the cure is worse than the disease.
41. When asked about having to forcibly retire managers, Buffet said he rarely had to, that he hated to do so, and that he wasn’t good at doing it in time.
42. Buffet reiterated that as a buyer of stocks, he likes it when stocks are cheap. Munger mentioned that 1973-4 was his “only time at the pie counter” but he had no money at that time. Advice: don’t try to pick bottoms, rather, evaluate value.
43. Buffet has stated in the past that investing in capital intensive businesses is risky because there is a tendency to understate depreciation and thus overstate earnings. If that is the case, should we discount Berkshire’s utility holdings? No, because they are tightly regulated. But in general, avoid capital intensive businesses. Munger made an oblique comment about moats filling up and gave Buffet a pointed stare. (I guess you had to be there.)
44. For a final question, somebody near the front obsequiously asked how we could stimulate the economy? I thought this was a set-up so that Buffet could tell us to go shopping in the pavillion next door. But instead Buffet suggested that “household formation” would increase housing demand. The questioner (who turned out to be Alex, Buffet’s great nephew), turned to his partner (Amy, or possibly Mimi) and asked her to marry him, to general applause. (She said yes, but was drowned out by said applause and had to repeat herself several times.)