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Wednesday, March 11, 2015

About that Annual Letter from Warren Buffet for 2015

Many many individual investors think they can "be like Warren". The evidence keeps accumulating that going forward it may be even more difficult if not impossible than it was in the past.

 Berkshire has gradually shifted from being an investment vehicle that owns traded shares to a collection of wholly- or partly-owned businesses, such as Heinz, a food manufacturer. Listed equities now make up only 22% of Berkshire’s assets, down from 72% in 1994. Mr Buffett offers a barnstorming defence of Berkshire as a conglomerate, which he says is sprawling, “and constantly trying to sprawl further.” It buys businesses to hold on to them for ever, avoids getting involved in weak or hard-to-understand companies, gives managers autonomy, ignores the advice of investment bankers and keeps central overheads lower than a limbo stick. Berkshire’s head office employs just 24 people.

One recent example has been his swapping of his shares of Procter and Gamble in exchange for taking direct control of Duracell

Why is this change so important ? Because when you are purchasing businesses you are (legally) doing so based on what would be insider information and illegal in the case of publicly traded companies. The companies that Buffett acquires are under no legal obligation to report their finances to any prospective investor...just those it is interested in looking at to buy/invest in the company. So stock picking skills are irrelevant to 78% of how Berkshire now invests. 

One can speculate on why this is but it would seem that Mr. Buffett is finding it harder and harder for an investor to outperform a broad index of stocks. With the broad access to information and the growth of ETFs it is no longer the day when rolling up your sleeves and kicking the tires one could easily find undiscovered values among publicly traded companies particularly among major blue chip companies. Of course size plays a factor as well Berkshire is so big that it is difficult to build a stock position that would have significant impact on its returns.

Mr. Buffett has also used a bit of sleight of hand in reporting performance:(economist again)

Mr Buffett used to argue that Berkshire’s book value per share, rather than its share price, was a good proxy for its long-term worth. But the group’s book value has stopped outperforming the broader stockmarket—in fact it has underperformed it in five of the past six years So now Mr Buffett has begun to argue that book value is no longer such a good measure, and to give greater prominence to Berkshire’s share price. This sort of goalpost-moving is a habit of lesser conglomerates than Berkshire, and is hardly a promising sign.

With private investments making up the overwhelming part of Berkshires portfolio (and thus not have a verifiable market price) it would seen a strange time to move the goal posts.

Although Berkshire has had phenomenal performance vs the S+P 500 in the past it has underpeformed the index for the last 5 years 11.75% vs 15.12%.

Perhaps there are signs that like his mentor Benjamin Graham towards the end of his career he concluded that outperforming the market was getting harder and least in part due to the easy accessibility of financial information on public companies.

Once again this year Mr. Buffett has written about the virtues of indexing.

He recommended 2 books in his letter this one from John Bogle the pioneer of indexing and sitll itts most influential champion.

and this great classic which an entertaining debunking of Wall Street

Not on the list ..his mentor Ben Graham's classic books The Intelligent Investor or Graham and Dodd's Security Selection geared towards stock picking

Over at the WSJ Bret Arends makes an excellent case on why Buffett and Bogle are wrong not to recommend a global portfolio:

It’s a good question today whether the neutral investor should even have half of a stock portfolio in the U.S. According to the International Monetary Fund, the U.S. accounts for 22% of the world economy when measured in U.S. dollars, and still less when measured in purchasing power terms. The U.S. economy, at $18 trillion, is slightly smaller than that of the European Union. Even when you take account of America’s deeper financial markets and the global nature of its blue-chip companies, it’s hard to get to 50% — let alone 80% or 100%
Today, unlike in 1970, you have an embarrassment of riches when it comes to overseas options. It’s hard to see why an allocation of, say, 1/3 U.S. stocks and 2/3 International stocks is wrong.

But I should note that Arends is not totally correct about Buffett I did find this:

Warren Buffett said in an interview published on 2/25/2015 in the newspaper Handelsblatt that his holding company Berkshire Hathaway is definitely interested in companies in Germany. “Germany is a terrific market, lots of people, lots of buying power, productive, it’s got a legal system we feel very good with, it’s got a regulatory system we feel very good with, it’s got people we feel very good with - and customers,” Buffett said.

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