Buffett’s Shareholder Letter

Several years ago, already mesmerized by the Buffett legend, I read multiple books about Buffett and his strategy. Among those was Buffett – The Making of an American Capitalist by Roger Lowenstein, and The Essays of Warren Buffett, Lessons for Corporate America which is a compilation of Buffett’s Berkshire Hathaway shareholder letters, organized by the topics they cover the most completely. From an entertainment standpoint, Lowenstein’s book is one of my favorites I have ever read. It’s the ultimate ‘journey to riches’ business mogul masterpiece (it would make a heck of a movie). From a ‘business book’ standpoint, Essays is just as helpful. Of course, as I’ve mentioned before, you can read all the letters for free here. Here’s a copy of the 2008 letter.

Every major news company with any business slant either already has or will do a piece about this letter. Business week has a piece already, as does Bloomberg and the NY Times. I’m sure they will be wrought with insights into the letter that I’m lacking. With that in mind, I’ll briefly highlight some of things in the letter that stood out to me.

America’s Best Days Lie Ahead

One thing that stuck me is the optimistic tone of the letter. With the economy in shambles, the talking heads telling us the sky is falling, and bad economic news following bad economic news, it’s hard to be hopeful in America right now. Buffett points out that things have been much worse before, and America has persevered. I hope he’s right. In any case, it’s nice to hear someone still believes in this country’s ability to compete with the rest of the world.

No one can predict the market

“Neither Charlie Munger, my partner in running Berkshire, nor I can predict the winning years [of the stock market] in advance. (In our usual opinionated view, we don’t think anyone else can either.) We’re certain, for example that the economy will be in shambles throughout 2009 – and for that matter – probably well beyond – but that conclusion does not tell us whether the stock market will rise or fall.”

Buffett makes this point year after year in his letters, and it’s an important one to take to heart. No one, not even professional investors, not even Warren Buffett, perhaps the greatest investor of all time, can consistently predict the directions of the markets. The thing about Buffett’s approach, and value investing in general, is that it doesn’t matter whether you know the short term direction of the market. What matters is whether you have the ability to pick sound, fairly valued (or better yet, undervalued) investments and stick to your planned strategy for the long term. This is true in any market in any era.

Buffett Admits His Mistakes

Every time I hear Buffett speak, or read something he’s written, I come away impressed with his humility. He’s the kind of person you’d like to be. He’s nice, humble and funny. In every letter, he points out the mistakes he’s made. This year, for example, he points out numerous investment mistakes. He’s doing something right. In a year that the market (S&P 500) lost 37%, Berkshire lost just 9.6%, beating the market by 27.4%. His historical investment record is unmatched. But he, like anyone else, makes mistakes (like buying ConnocoPhillips at the peak of oil). He makes plenty of mistakes, but he’s a big enough man to admit it when he does. I admire him for that. You hear too many CEOs explaining why they were actually right about something when they obviously were not. You won’t hear Buffett doing that.

Wind Energy

Buffett also seemed to be proud of how much wind energy is being produced and used by MidAmerican Energy Holdings. Cool guy. Once again showing that he cares about the world in more ways than one.

“When we purchased PacifiCorp in 2006, we moved aggressively to expand wind generation. Wind capacity was then 33 megawatts. It’s now 794, with more coming. (Arriving at PacifiCorp, we found wind of a different sort: the company had 98 committees that met frequently. Now they have 28. Meanwhile, we generate and deliver considerably more electricity, doing so with 2% fewer employees.)”

He makes money and keeps it green at the same time. You hate to hear anyone boasting about cutting the fat in times like these, but from an investor’s standpoint, that’s exactly what you want, all the time. You want companies to cut costs, go lean, and make as much money for you as they possibly can. That’s the approach Buffett takes. The cool thing about using wind energy is its sustainability.

Credit, Derivatives and Gov’t Guarantees

Buffett also gives lots of interesting insights into the credit market. He explains why Clayton Home’s default rate is so much lower than the overall market, despite the fact that they lent to borrowers that would properly be classified as subprime. Their trick was lending to people who could afford to make their payments, regardless of whether the market moved upward or they were able to refinance. This is a strategy that makes sense.

He also chimes in on the bailout, and the gov’t guaranteeing certain debt and not others. Berkshire is one of only 7 companies with a AAA credit rating, yet it’s cost of borrowing is higher than that of companies that have much poorer balance sheets.

Buffett doesn’t trust derivatives, although he does own a small book of them that he feels he got on sale and that he can understand. He warns us to beware trusting the “geeks’ and their formulas. He says that no one can understand a complex, large book of derivatives, and to beware of the companies holding them. According to Buffett, no amount of transparency will help – because the instruments are just too complex.

My take

Buffett, at his core, is a teacher. He likes being on the stage. He likes being in front of people, giving advice. He likes being one of the most important voices in the world. I don’t think this is vain or wrong. These letters are his contribution to the world. These letters will be studied long after Buffett is gone, by generations of business students and investors. He’s an investing icon that covers multiple generations. As I’ve stated before here on the blog, my wife and I are going to the meeting for the first time this year. We’re shareholders, but you don’t have to be to go to the meeting. I think you can buy a ticket for a few dollars on ebay. Buffett floods ebay with tickets because at one time people would try to sell their tickets on ebay. Good luck getting a hotel room at this point if you don’t already have one. Anyway, check out the letter and feel free to let me know your thoughts by email or in the comments. Thanks for reading.