Warren Buffett's 2014 Letter to Shareholders

Link to: Warren Buffett's 2014 Letter to Shareholders

Links

Eddie Lampert's letter to shareholders  (LINK)

Five Good Questions for Nick Gogerty about his book, The Nature of Value: How to Invest in the Adaptive Economy (LINK)

Dan Carlin's Common Sense podcast from last week, discussing Russia and Ukraine (audio) (LINK)

Book of the day: At Home: A Short History of Private Life - by Bill Bryson

And as a reminder, Warren Buffett’s 2014 annual letter to shareholders will be released at approximately 8:00 a.m. eastern time tomorrow, with comments from both Buffett and Munger regarding Berkshire's first 50 years.

Charlie Munger on buying "moats"

"We buy barriers. Building them is tough… Our great brands aren’t anything we’ve created. We’ve bought them. If you’re buying something at a huge discount to its replacement value and it is hard to replace, you have a big advantage. One competitor is enough to ruin a business running on small margins." -Charlie Munger 

[H/T 25iq]

Links

Value Investing Community Loses a Legend: Irving Kahn (1905 – 2015) (LINK)

Webinar: Portfolio Construction, Concentration and Diversification for Value Investors - By Tobias Carlisle (LINK) ["If you are a professional and have confidence, then I would advocate lots of concentration. For everyone else, if it’s not your game, participate in total diversification... If it’s your game, diversification doesn’t make sense. It’s crazy to put money into your 20th choice rather than your 1st choice... Charlie and I operated mostly with 5 positions. If I were running 50, 100, 200 million, I would have 80% in 5 positions, with 25% for the largest. In 1964 I found a position I was willing to go heavier into, up to 40%. I told investors they could pull their money out. None did. The position was American Express after the Salad Oil Scandal. In 1951 I put the bulk of my net worth into GEICO. Later in 1998, LTCM was in trouble. With the spread between the on-the-run versus off-the-run 30 year Treasury bonds, I would have been willing to put 75% of my portfolio into it. There were various times I would have gone up to 75%, even in the past few years. If it’s your game and you really know your business, you can load up." -Warren Buffett]

Related recent post: A quick diversification thought...

Baupost Details Risk Management, Hedging In Q4 Letter (LINK)

Money creation in the modern economy (LINK)

This article explains how the majority of money in the modern economy is created by commercial banks making loans. Money creation in practice differs from some popular misconceptions — banks do not act simply as intermediaries, lending out deposits that savers place with them, and nor do they ‘multiply up’ central bank money to create new loans and deposits. The amount of money created in the economy ultimately depends on the monetary policy of the central bank. In normal times, this is carried out by setting interest rates. The central bank can also affect the amount of money directly through purchasing assets or ‘quantitative easing’.

The Brooklyn Investor: PM Investor Day 2015 (LINK)

Paul Graham: What Microsoft Is this the Altair Basic of? (LINK)

One of the most valuable exercises you can try if you want to understand startups is to look at the most successful companies and explain why they were not as lame as they seemed when they first launched. Because they practically all seemed lame at first. Not just small, lame. Not just the first step up a big mountain. More like the first step into a swamp.

A Basic interpreter for the Altair? How could that ever grow into a giant company? People sleeping on airbeds in strangers' apartments? A web site for college students to stalk one another? A wimpy little single-board computer for hobbyists that used a TV as a monitor? A new search engine, when there were already about 10, and they were all trying to de-emphasize search? These ideas didn't just seem small. They seemed wrong. They were the kind of ideas you could not merely ignore, but ridicule.

Often the founders themselves didn't know why their ideas were promising. They were attracted to these ideas by instinct, because they were living in the future and they sensed that something was missing. But they could not have put into words exactly how their ugly ducklings were going to grow into big, beautiful swans.

Book of the day (H/T Graham & Doddsville): Storage and Stability

Stay with simple propositions...

Excerpt from Warren Buffett's 2004 letter:

Last year MidAmerican wrote off a major investment in a zinc recovery project that was initiated in 1998 and became operational in 2002. Large quantities of zinc are present in the brine produced by our California geothermal operations, and we believed we could profitably extract the metal. For many months, it appeared that commercially-viable recoveries were imminent. But in mining, just as in oil exploration, prospects have a way of “teasing” their developers, and every time one problem was solved, another popped up. In September, we threw in the towel.

Our failure here illustrates the importance of a guideline – stay with simple propositions – that we usually apply in investments as well as operations. If only one variable is key to a decision, and the variable has a 90% chance of going your way, the chance for a successful outcome is obviously 90%. But if ten independent variables need to break favorably for a successful result, and each has a 90% probability of success, the likelihood of having a winner is only 35%. In our zinc venture, we solved most of the problems. But one proved intractable, and that was one too many. Since a chain is no stronger than its weakest link, it makes sense to look for – if you’ll excuse an oxymoron – mono-linked chains.

It also reminded me of this excerpt, and similar lesson, from his 2008 letter:

I told you in an earlier part of this report that last year I made a major mistake of commission (and maybe more; this one sticks out). Without urging from Charlie or anyone else, I bought a large amount of ConocoPhillips stock when oil and gas prices were near their peak. I in no way anticipated the dramatic fall in energy prices that occurred in the last half of the year. I still believe the odds are good that oil sells far higher in the future than the current $40-$50 price. But so far I have been dead wrong. Even if prices should rise, moreover, the terrible timing of my purchase has cost Berkshire several billion dollars.

Links

Donald R. Keough, Who Led Coca-Cola Through New Coke Debacle, Dies at 88 (LINK)

In his 2008 Times interview, Mr. Keough spoke about a lesson he learned from working in the stockyards of Sioux City, Iowa. 

“When I was 15 or 16 years old, I got a job buying bulls to ship to processing plants back East,” he said. “I worked for a man named Doyle Harmon, and my first day on the job, he chastised me for paying too much. He said, ‘Concentrate on the bull, not on the language of selling.’ I’ve made most of the mistakes in my career by not concentrating on the bull.”

Warren Buffett's German To-Do List [H/T Peter] (LINK)

Joel Greenblatt on CNBC (video) [H/T ValueWalk] (LINK)

Patient Capital Management Q4 2014 Investor Letter (LINK)

Andrew Smithers: The sustainable growth of the US (LINK)

I hadn't realized it until now, but besides supporting this blog by shopping through our Amazon link (HERE), you can now also support the blog by signing up for a free trial with Audible using THIS link (there's also a banner on the right site of our homepage that links to it). The trial includes two free audiobooks. I've found that if you get a good narration of the book, listening can be an even better experience than reading a particular book.

Links

Buffett Tells Deputies to Supervise Newest Berkshire Businesses [H/T Will] (LINK)

Aswath Damodaran: DCF Myth 1: If you have a D(discount rate) and a CF (cash flow), you have a DCF! (LINK)

Overconfidence man - by  Tim Harford (LINK)

NPR Planet Money: The story of Roger Babson (LINK)

TED Talk - Rob Knight: How our microbes make us who we are (LINK)

A quick diversification thought...

An old post worth reviewing: Warren Buffett on Diversification - 1966 

I was reminded of Buffett's thoughts as I was once again thinking about optimal portfolio size for the "know something" investor. If you can consistently find ideas where you make 50% more when you are right than you lose when you are wrong, then even if you are right only 50% of the time, the Kelly Formula would say that you should be making 16.67% position sizes, or a total portfolio of 6 positions. 

While I think those odds and payouts are pretty conservative for the investor that really puts in the work and has a developed a good process, even being more conservative and betting 1/2 Kelly would yield an optimal portfolio of just 12 positions. Considering most of us are looking for traits that give us better than 50/50 odds of being right, and potential upside vs. downside ratios much higher than the above example, I think a portfolio composed of 6-12 core positions also adds some protection for the difficulty, or impossibility, of estimating odds and precise payouts. 

Of course, the odds and payouts change as prices change, and certain things may be being bought or sold over time, which could lead to one having a few more positions. But if you are fully invested in things that meet the general purchase criteria for most value investors, and if you are willing to put in the significant effort required to deeply understand each investment, then a portfolio of 6-12 core holdings seems about right to me. 

And I think the most common danger area with having this kind of concentration--among the things that one has some control over--is being wrong about the downside risk in each investment, and so that analysis is probably especially important. As Alice Schroeder wrote about Buffett: "He will pass on huge upside opportunities if he can't get downside protection..." Or as Howard Marks often says, if you avoid the losers the winners will take care of themselves.

Baupost Sifted Through Energy Carnage as Bargains Rare

If anyone happens to have the full Baupost year-end letter and could pass it along, I'd be extremely grateful.

Link to article: Baupost Sifted Through Energy Carnage as Bargains Rare

Seth Klarman said his $28.5 billion Baupost Group identified opportunities last year in energy after oil prices plunged, as other prospects for finding bargains dried up. 

“Baupost wasted no time in redirecting additional investment team members into the energy area to sift through the carnage,” Klarman, 57, wrote in a year-end letter to investors, which was obtained by Bloomberg News.

[H/T Santangel's Review]

Links

An old (July 1999) article on Warren Buffett worth reviewing: The Warren Buffett You Don't Know [H/T Linc] (LINK)

ValueWalk with another excerpt from Arlington Value's annual letter (LINK)

Bust A Move: Tap Dancing to Work (LINK)

This Freakonomics Radio Podcast from a week-and-a-half ago was pretty interesting: Is There a Better Way to Fight Terrorism? (LINK)

Barry Ritholtz talks to Cliff Asness (LINK)

Thanks to Ed for passing today's book of the day along, in response to the Best Business Biographies post: James J. Hill & The Opening of the Northwest

Charlie Munger on mistakes of omission

"The most extreme mistakes in Berkshire’s history have been mistakes of omission. We saw it, but didn’t act on it. They’re huge mistakes — we’ve lost billions. And we keep doing it. We’re getting better at it. We never get over it. There are two types of mistakes: 1) doing nothing; what Warren calls "sucking my thumb" and 2) buying with an eyedropper things we should be buying a lot of." -Charlie Munger 

[H/T 25iq]

Links

East Coast Q4 2014 Letter: All Is Well Since All Grows Better (LINK)

Allan Mecham’s Arlington Value Capital 2014 Annual Letter (LINK)

Cantab Capital Partners: Cursed by Randomness [H/T @george_cooper__) (LINK)

Fireside Chat with Eric Schmidt and Sal Khan of Khan Academy (video) [H/T ValueWalk] (LINK)

The Time Everyone “Corrected” the World’s Smartest Woman (LINK) [I first came across this story and the Monty Hall Problem in the excellent book, The Drunkard's Walk: How Randomness Rules Our Lives.]

The Brain's Way of Healing: stories of remarkable recoveries and discoveries (LINK)

In his new book The Brain’s Way of Healing, Norman Doidge shows the astonishing advances of neuroplasticity being used to improve, and even cure, many prevalent brain problems previously thought to be incurable or irreversible. Doidge describes a series of remarkable recoveries using natural, non-invasive techniques: cases where sounds played into the ear successfully treat autism, learning disorders and attention deficit in children; gentle electrical stimulators tingling on the tongue are used to reverse symptoms of multiple sclerosis and Parkinson’s. Finally, he reveals simple methods proven to reduce the risk of dementia by 60%. Using moving human stories to present cutting-edge science, Doidge illustrates the principles that everyone can apply to improve their brain’s performance and health.

Montaigne quote

"Fortune does us neither good not hurt; she only presents us the matter, and the seed, which our soul, more powerfully than she, turns and applies as she best pleases; being the sole cause and sovereign mistress of her own happy or unhappy condition." -Michel de Montaigne (The Complete Essays of Montaigne)

Five Good Questions for Michael Shearn

Link to video

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Related book: The Investment Checklist

Best Business Biographies

I'm trying to put a list together of the best business biographies, many of which may also be founder biographies that serve as a great background to the business they started. A friend and I were having a conversation yesterday and the more I think about it, the more I realize that some of the ones I've read have been the best introductions to certain businesses and industries. So if you have any recommendations, feel free to pass them along: valueinvestingworld@gmail.com

I've started to compile a number of them that I've either read or that have been recommended to me, HERE. I'll continue to update the list as suggestions come in as well.

Investing and speculation...

From Brandes on Value:

Benjamin Graham addressed the differences between investing and speculation on the very first page of his book The Intelligent Investor: “An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.” 

This still rings true today. Yet, with my contemporary perspective, I add two more criteria that define speculation:   

• Any contemplated holding period shorter than a normal business cycle (typically three to five years)  

• Any purchase based solely on anticipated market movements

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Related previous posts:

Graham and Dodd on the ‘Relation of the Future to Investment and Speculation’

Warren Buffett on investment, speculation, and gambling

James Grant quote

Talks at Google: Aswath Damodaran, "Valuation: Four Lessons to Take Away"

Link to video

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Related books:

The Little Book of Valuation: How to Value a Company, Pick a Stock and Profit

Investment Valuation: Tools and Techniques for Determining the Value of Any Asset

Related link: Valuation: An Online Class


[H/T ValueWalk]

Oliver Sacks on Learning He Has Terminal Cancer

Link to: My Own Life

A MONTH ago, I felt that I was in good health, even robust health. At 81, I still swim a mile a day. But my luck has run out — a few weeks ago I learned that I have multiple metastases in the liver. Nine years ago it was discovered that I had a rare tumor of the eye, an ocular melanoma. Although the radiation and lasering to remove the tumor ultimately left me blind in that eye, only in very rare cases do such tumors metastasize. I am among the unlucky 2 percent. 

I feel grateful that I have been granted nine years of good health and productivity since the original diagnosis, but now I am face to face with dying. The cancer occupies a third of my liver, and though its advance may be slowed, this particular sort of cancer cannot be halted. 

It is up to me now to choose how to live out the months that remain to me. I have to live in the richest, deepest, most productive way I can. In this I am encouraged by the words of one of my favorite philosophers, David Hume, who, upon learning that he was mortally ill at age 65, wrote a short autobiography in a single day in April of 1776. He titled it “My Own Life.”

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Sacks' autobiography, On the Move, will be published this spring.

Greg Clark, Tyler Cowen, Brad DeLong, "A Farewell to Alms" Discussion

The book discussed in the video below, A Farewell to Alms: A Brief Economic History of the World , was mentioned by Andrew Haldane in his recent speech, which I thought was very interesting.


Link to video

Links

Howard Marks of Oaktree on the Criteria for Long-Term Success in Investing (video) (LINK)

Berkshire Hathaway 13F: Buys Deere; Sells Exxon (LINK)

Jack Bogle's success principles to live by [H/T Matt] (LINK)

Credit Suisse Global Investment Returns Yearbook 2015 [H/T Meb Faber] (LINK)

Andrew Haldane: Growing, fast and slow (LINK)

Andrew Smithers: Fall in US capital efficiency is linked to research spending (LINK)

I may get out of US stocks: Nobel-winner Shiller (LINK) [The 3rd edition of Irrational Exuberance was also released a few weeks ago.]

Nobel Prize-winning economist Robert Shiller told CNBC on Wednesday he's thinking about shifting his personal money away from U.S. stocks. 

The Yale University professor said on "Squawk Box" he has about half his portfolio in stocks. "I'm thinking about getting out of the United States somewhat. Europe is so much cheaper." 

Citing moves he's already made, Shiller said, "What I have done is I've invested in Italy indexes, Spain index."

I posted some great quotes from Peter Bernstein on Twitter (HERE) from his 2004 conversation with Jason Zweig.

Some book recommendations from James Altucher's interview with Maria Popova: 

On Looking: Eleven Walks with Expert Eyes

A Field Guide to Getting Lost 

The Art of Asking: How I Learned to Stop Worrying and Let People Help 

Still Writing: The Perils and Pleasures of a Creative Life

Georgia O'Keeffe: Art and Letters

Charlie Munger quote

Found via Seeking Wisdom:

"If you've got two suitors who are really eager to have you and one is way the hell better than the other, you do not have to spend much time with the other. And that's the way we filter out buying opportunities." -Charles Munger

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Related previous post: Charlie Munger on Opportunity Costs

Links

Sam Altman: The Software Revolution (LINK)

Related link:  Sam Altman's class lectures on How to Start a Startup

Hussman Weekly Market Comment: Extreme Overvaluation and the Inventory Problem (LINK)

Last week’s advance had the earmarks of a short-squeeze, featuring a low-volume advance to marginal new highs on a number of indices including the S&P 500, on hopes that a Greek bailout and a firming in oil prices will put a floor under global economic deterioration. On factors that affect our estimate of the market return/risk profile, credit spreads remain broadly wider than they were a few months ago, and our primary measures of market internals remain unfavorable. Meanwhile, equity valuations – on the most historically reliable measures we identify – are now fully 117% above their pre-bubble norms, on average. As of Friday, our estimate of prospective 10-year S&P 500 annual nominal total returns has declined to just 1.4%, suggesting that even the dismal 2% yield-to-maturity on 10-year bonds is likely to outperform equities in the decade ahead.

Evolving Investment Checklists [H/T Abnormal Returns] (LINK)

A portfolio manager has been successful for a number of years, but still scans his checklist multiple times per day. A glance at the checklist reveals a number of to-do’s: information sources to scan, researchers to read and contact, peers to consult, time to “brainwrite” and synthesize all those views, and rules, rules, rules: rules for expressing ideas as trades to maximize reward-to-risk; rules for checking correlations among planned positions to optimize portfolio diversification; rules for sizing positions; rules for taking profits–and on and on.

The checklist has been developed over time, and it continues to evolve. When the manager does something right, the success is reverse engineered and turned into a potential principle. If the principle holds true over time, it is translated into a best practice–and then it finds its way onto the checklist.

The best practices checklist is a crystallization of experience, but it is also a crystallization of the manager’s strengths. It is an expression of what he does when he is at his best. What is his edge in financial markets? Superior research plays a role, as does superior portfolio construction and superior money management. Broadly, however, his edge is that he grounds himself in strengths by turning best practices into robust, best processes.

Another example of the co-evolution of predators and prey: Whirling tails of luna moths deflect bat attacks (LINK)

Book of the day: Cicero: A Portrait

Mohnish Pabrai on Guy Spier, Charlie Munger, and having another person to bounce things off of...

From Pabrai's December 2014 talk to Sanjay Bakshi's MDI class (from about 48:13 to 53:53), and slightly edited for clarity:

I had a conversation a few years back with Charlie Munger and he mentioned that he always had someone to talk to about investments. So I said, "Oh you mean like Mr. Buffett." And he said, "Well, it wasn't always Warren. But I've always had someone to talk to." In fact recently he said that -- I think at the Daily Journal Meeting -- even Einstein needed someone to talk to. Each human brain processes the same information differently. And to the extent that you can find someone who's thoughtful and not processing data similar to you, it would be useful to have those conversations. But I think that that is different from having a team. So if you have, say, analysts under you, and they report to you, then the incentives and the dynamics of that exchange are very different from having a peer where there is no vested interest of any kind, and [it's just] two people having conversations about thoughts. So I never appreciated... I think for most of the history of Pabrai Funds I operated making decisions on my own. And I have a good friend, Guy Spier, and usually he and I will talk about things that either he's looking at or I'm looking at, and many times we don't agree. And many times I'll buy things that he won't buy or he'll buy things that I don't buy, and so on. So if you look at our portfolios, they are way different from each other. But I've found it very useful to have those conversations because, actually, Guy runs a fund on his own. Neither of us has any economic interest in the other fund. We don't gain or lose anything by what happens. And I'm confident that he's confident that we are candid in sharing our beliefs and perspectives. And that's useful.

So I think that it is valuable to have that type of a relationship, and it doesn't even need to be an off-the-charts person. I think just having someone else... One of the things that happened just this year actually, in Omaha, I was at this brunch and Charlie Munger was there. And he was sitting there and nobody was next to him. So I decided to help the guy out and give him some company, just so he doesn't get bored, and I took Guy with me. And I said, "Charlie, this is the person I talk to about my investments." And Charlie immediately got very interested. He's kind of checking Guy out. And then Guy says to him, "I don't know why Mohnish cares to talk to me because I really have nothing to add to anything he usually comes up with." So Charlie says, "Well, going through the process of talking to someone else about your ideas requires you to put them together in a certain kind of format and manner that can be articulated to the other person. And that process is useful in seeing some flaws in your argument." So then Guy says to Charlie, "You know, Mohnish could actually just do that with a monkey." And Charlie says, "Yes, but the problem is that Mohnish would know it's a monkey. And so it wouldn't work."

So with Charlie, I saw in that interaction, and I've seen it when I've talked to him, he puts a huge amount of weight on that notion of having another person to bounce things off of. And so I actually don't move on anything now until I've had at least one conversation, and sometimes many conversations [with Guy]. And as I said, we may not agree, but exactly as Charlie said, it forces me to put my thoughts in an organized manner, and hear some perspectives that may be different and such. So it's a huge advantage, but I think you have to set it up where there's no vested interest, there's no axe to grind, and it's a trusted relationship.

Jonathan Ive and the Future of Apple

Link to New Yorker profile: The Shape of Things to Come: How an industrial designer became Apple’s greatest product

Jobs’s taste for merciless criticism was notorious; Ive recalled that, years ago, after seeing colleagues crushed, he protested. Jobs replied, “Why would you be vague?,” arguing that ambiguity was a form of selfishness: “You don’t care about how they feel! You’re being vain, you want them to like you.” Ive was furious, but came to agree. “It’s really demeaning to think that, in this deep desire to be liked, you’ve compromised giving clear, unambiguous feedback,” he said. He lamented that there were “so many anecdotes” about Jobs’s acerbity: “His intention, and motivation, wasn’t to be hurtful.”

Even if Jobs had rescued him from vagueness, it was odd for Ive to bring this up now, immediately after I’d learned how to reject a color without causing injury. “I’ve seen Jony deeply frustrated, but I’ve never seen him rant and rave,” Laurene Powell Jobs said, and she added, laughing, that she would not have said the same of her husband. (And it’s hard to imagine Ive using a disabled-parking spot, as Jobs often did, long before he was unwell.) Ive likes to be liked; the story seemed to be a preëmptive defense of Jobs veiled as self-criticism. It was also an indirect response to Walter Isaacson’s 2011 biography of Jobs, which, though not hostile, included examples of unkindness. In a later conversation, Ive said that he’d read only parts of the book, but had seen enough to dislike it, for what he called inaccuracies. “My regard couldn’t be any lower,” he said, with unusual heat.

Scott Adams interview: Decisions, Disappointments & ‘Dilbert’

Link to video

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Related book: How to Fail at Almost Everything and Still Win Big

Links

QOTD: Charlie Munger on Ideology, from his 2007 USC Commencement Speech (LINK)

Safal Niveshak starts a newsletter, Value Investing Almanack, and is giving the first issue away for free (LINK)

Even Berkshire's Boardroom Ties Can't Prevent the Costco-AmEx Divorce (LINK)

Treasure Island: Puerto Rico Bids To Become New Age Tax Haven [H/T Matt] (LINK)

As the U.S. Treasury Department continues to tighten its noose around offshore accounts, a new tax haven has sprung up under its nose in the Caribbean. Welcome to Puerto Rico–island of tropical breezes, and (for new arrivals only) a 0% tax rate on certain dividends, interest and capital gains.

10 Great Lines From Where Are the Customers’ Yachts? (LINK)

Janitor to Multimillionaire? Not In This Market (LINK)

Quant Guru Ray Dalio Talks Up Risk Of Ruin At Bill Ackman's Stock Picking Summit (LINK)

The Brooklyn Investor discusses the Loews 4Q 2014 Conference Call (LINK)

Chris Pavese: Are You Smarter Than a 7th Grader? (LINK)

My wife’s 7th grade class is currently learning about percentage change so the math teacher at Jacob’s Fork Middle School has the students following stocks to demonstrate rates of return. She asked me to come in this week and give a presentation to the kids about investing in the stock market. This was probably the most challenging presentation I’ve ever done. But definitely the most fun!

Our presentation is embedded below. Links to each video are included in the speaker notes (it’s the only way I could figure out how to include both).

Authors at Google: George Friedman discusses Flashpoints (video) [H/T ValueWalk] (LINK)

This Company Eliminated E-mail…and Nothing Bad Happened (LINK)

TED Talk - Michael Dickinson: How a fly flies (LINK)

Bob Simons' Final Broadcast on 60 Minutes: ZMapp and the fight against Ebola (video) (LINK)

"We're emphasizing the knowable by predicting how certain people and companies will swim against the current. We're not predicting the fluctuation in the current." -Charlie Munger

Mohnish Pabrai's December 2014 talk to Sanjay Bakshi's MDI class

Link to video

This Quiet Activist Investor Has Averaged 19 Percent Returns for More Than a Decade

Link to article: This Quiet Activist Investor Has Averaged 19 Percent Returns for More Than a Decade

When Bramson invests, he outlines what he thinks is wrong with a target company in a letter to shareholders but doesn’t berate management in public. In this, he’s the polar opposite of an Ackman or a Carl Icahn. He has never run an hourslong press conference or opined about a target company on television. He only agreed to talk for this story after his outside public relations counsel convinced him that his reluctance to speak to the press was allowing others to cast him in a negative light.

.....

When Bramson invests, he likes to push for changes from within. He seeks at least one seat on the board, preferably as chairman. Once he has that, he says, he will spend a month or two meeting staff, asking questions and listening. Staying quiet is tactically smart in a turnaround, Bramson says. If you spell out your intentions early, you might stir resistance among the employees whose support you need later. “People usually won’t defy you openly, because it’s not a good career move,” he says. “They stand back and watch you go over the cliff.” 

Each target gets Bramson’s full attention, since he puts Sherborne’s money into one company at a time. “If you want to diversify, do it yourself,” he says.

.....

In the early 2000s, Bramson almost shut down Sherborne. He was unhappy, he says, that private equity had become more about generating asset management fees than finding investment returns. That’s when he hit on a new approach. He realized that he made more money improving businesses that were doing OK than trying to save companies that were in trouble. “The problem with the doggy ones is that they might actually be dogs,” he says. So Bramson morphed from private-equity investor to activist fund manager.

.....

Bramson has kept his firm small and focused. When picking investments, it’s basically a two-person show: Bramson and Stephen Welker, who joined the firm in 2006. Welker had spent a year, after graduating from Washington and Lee University in Virginia, as an investment-banking analyst at Morgan Stanley. Bramson was looking for someone to mentor. The two are a well-matched pair, often completing each other’s sentences.

About two-thirds of Bramson’s funds come from a publicly traded vehicle listed on London’s Alternative Investment Market. In 2010, after Spirent, Bramson saw a need for permanent capital. Since investors, post-financial crisis, were demanding liquidity, he created a traded entity. Investors can buy or sell at any time, in theory, though the shares trade infrequently. Bramson avoids the risk of sudden redemptions.

The first vehicle, offered in 2010, has been wound down; Bramson raised 207 million pounds ($318 million) with a second vehicle, Sherborne Investors (Guernsey) B, in 2012. In total, Sherborne has about $500 million between the public vehicle and private partnerships, an amount that dictates the size of Bramson’s target companies. Unlike most activists, he rarely uses leverage, saying he learned his lesson in prior decades. With concentrated bets, done one at a time, Bramson has to aim for huge returns on every campaign. He tells investors he seeks to at least double their money on each target. 

[H/T Market Folly]

Charles Brandes quote

From Brandes on Value:

To borrow a few words from Sir John Templeton, a respected pioneer in global money management, “There is too much emphasis now on everything yesterday.”

As I see it, we are no longer as thrifty as we should be, and this is leading to more speculation, more danger, and more risk. Investors are bombarded by data from an escalating number of sources, such as 24-hours-a-day financial news on cable television, the Internet, broadcast and satellite radio, and a good but shrinking number of capable print media. As our appetites for information and our expectations have increased, our ability to wait and anticipate has decreased.

Links

Michael Mauboussin and Dan Callahan: Animating Mr. Market (LINK)

Mark Spitznagel: The Myth of Black Swan Market Events [H/T James] (LINK)

Ackman and Dalio, Two Hedge Fund Titans, Size Each Other Up (LINK)

Bill Ackman interview on Bloomberg (video) (LINK)

Five Good Questions for Wesley Gray  about his book Quantitative Value (LINK)

James Altucher interviews Brad Feld about The Ideal Entrepreneur (LINK)

Related book: Venture Deals

Book of the day (recommended by David Iben): The Colder War

Ben Graham quote

Timeless thoughts from a 1959 speech, much of which probably could be said today as well:

Speculative Excesses in the Current Market

In this connection, I arrive finally at a “law” about human nature that cannot be repealed and it is unlikely to be modified to any great extent. This law says that people without experience or superior abilities may make a lot of money fast in the stock market, but most cannot keep what they make, and most of them will end up as net losers. (This is true even though the long-term trend of stock prices has been definitely upward.) 

This is a particular application of a much wider natural law which may be stated simply as: “There is no such thing as a free lunch,” for those too young to remember, was offered in the good old days to patrons of the corner saloon. 

The stock market has undoubtedly reached a stage where there are many people interested in free lunches. The extraordinary price levels of stock of rather new companies in the electronics and similar fields, the spate of new common-stock offerings of small enterprises at prices twenty five or more times their average earnings and three times their net worth (with immediate price advances upon issuance), the completely unwarranted price discrepancies indicate reckless elements in the present stock market picture which foretell serious trouble ahead, if past experience means anything at all. 

Let me conclude with one of my favorite clichés – the French saying: “The more it changes the more it’s the same thing.” I have always thought this motto applied to the stock market better than anywhere else. Now the really important part of this proverb is the phrase “the more it changes.” The economic world has changed radically and it will change even more. Most people think now that the essential nature of the stock market has been undergoing a corresponding change. But if my cliché is sound – and a cliché’s only excuse, I suppose, is that it is sound – then the stock market will continue to be essentially what it always was in the past – a place where a big bull market is inevitably followed by a big bear market. In other words, a place where today’s free lunches are paid for doubly tomorrow. In the light of experience, I think the present level of the stock market is an extremely dangerous one.

[H/T James]

Links

Kyle Bass on Real Vision TV (video) (LINK)

GMO White Paper: Is Skill Dead? (LINK) [Jeremy Grantham quote to start the paper: "90% of what passes for brilliance or incompetence in investing is the ebb and flow of investment style."]

In this white paper, Neil Constable and Matt Kadnar answer the question "Is skill dead?" as it pertains to active vs. passive investing within the context of poor performance for active managers in 2014.

Inside Zulily  [H/T Matt] (LINK)

Rise & Shine: The Morning Rituals of our Great Creative Minds, via the author of Daily Rituals: How Artists Work (LINK)

It definitely matters when and how you start the day—but that doesn’t mean that there’s one “right” way to do so. 

In my research, I found great creative minds who woke up at 4:00 a.m. and who slept until noon (or later); who went immediately to work and who spent hours waiting for the proper mood to arrive. 

What all these people have in common is that they devised a schedule and a set of habits that suited their temperaments and life circumstances—and that, in most cases, they organized their days (and, by extension, their lives) around creating the best conditions for their creative work.

Why You Should Have a Morning Routine (LINK)

Related previous post: Fundamentals...

Bill Ackman on hiring...

An interesting answer from his interview with Graham & Doddsville:

G&D: You mentioned some of the larger private equity firms as being places where you look for talent. Do you have a preference for people who have looked at businesses on the private side? 

BA: This year we've made two investments – Allergan at beginning of the year and Zoetis at the end of year. That's a very different pace of investment when compared with your typical long-only hedge fund or mutual fund firm. We have to find people who are comfortable spending a lot of time researching and analyzing, looking for the one thing out of many that's going to be interesting.

At many hedge funds, people are idea junkies. It's the idea of the week. That's why private equity tends to be a better background for us. A private equity investor might spend a whole year working on a deal and if they are not the high bidder, they don't get it. Whereas here, you might spend a lot of time working on something, but if we want to make the investment, we can. We have to pay the market price, but we don't have to be the high bidder per se. 

For a person with a private equity background, it's a very easy transition. We've never really hired anyone from a hedge fund. Effectively, our approach is private equity without buying control. 

Links

PBS FRONTLINE program with Atul Gawande, based on his book Being Mortal (LINK)

TED Talk - Ricardo Semler: Radical wisdom for a company, a school, a life (LINK)

Related previous post: Ricardo Semler Lecture: Leading by Omission

Related books: Maverick, The Seven-day Weekend

Exclusive: Tesla CEO threatens firings after dismal China sales (LINK) [As Bill Bishop said: "As brilliant as Musk obviously is, he made the classic foreign CEO launching in China mistake: loudly overpromising about their nascent business."]

Bruce Berkowitz: Fairholme Capital Conference Call [H/T ValueWalk] (LINK)

James Grant Talks Deflation, Greece, Stocks, And Weather (video) (LINK)

Aswath Damodaran: How low can you go? Doing the Petrobras Limbo! (LINK)

Seth Godin: The truth about sunk costs (LINK)

Part of what it means to be a creative artist is to dive willingly into work that might not work. And the other part, the part that's just as important, is to openly admit when you've gone the wrong direction, and eagerly walk away, even (especially) when it's personal.  

Yes, we have to have faith in our ability. Faith lets us do our best work. But successful artists sally forth knowing that abandoning our darlings is part of the deal.

Kahneman: Clients Driven by Losses, Not Gains [H/T CIO] (LINK)

1978 interviews with Friedrich von Hayek (LINK)

Links

Howard Marks: $400 Million Invested In Energy-Related Securities In Q4 (LINK) [The full transcript of the call is available HERE.]

Amazon Prime Is One of the Most Bizarre Good Business Ideas Ever (LINK)

The Pro Dumpster Diver Who's Making Thousands Off America's Biggest Retailers (LINK)

Why megaships suddenly dominate the ocean shipping industry (LINK)

Tim Harford: Why the high street is overdosing on caffeine (LINK)

Rob Arnott: Peasants Will Be Out With Pitchforks if We Don't Start Sharing the Wealth [H/T ValueWalk] (LINK)

TED Talk - Jaap de Roode: How butterflies self-medicate (LINK)

Thoreau on Hard Work, the Myth of Productivity, and the True Measure of Meaningful Labor (LINK)

Related book: The Journal of Henry David Thoreau, 1837-1861

Links

Jeremy Grantham Divines Oil Industry's Future (LINK) [Excerpt from his letter.]

The simplest argument for the oil price decline is for once correct. A wave of new U.S. fracking oil could be seen to be overtaking the modestly growing global oil demand. It became clear that OPEC, mainly Saudi Arabia, must cut back production if the price were to stay around $100 a barrel, which many, including me, believe is necessary to justify continued heavy spending to find traditional oil. The Saudis declined to pull back their production and the oil market entered into glut mode, in which storage is full and production continues above demand. Under glut conditions, oil (and natural gas) is uniquely sensitive to declines toward marginal cost (ignoring sunk costs), which can approach a few dollars a barrel — the cost of just pumping the oil.

Oil demand is notoriously insensitive to price in the short term but cumulatively and substantially sensitive as a few years pass. The Saudis are obviously expecting that these low prices will turn off U.S. fracking, and I’m sure they are right. Almost no new drilling programs will be initiated at current prices except by the financially desperate and the irrationally impatient, and in three years over 80% of all production from current wells will be gone! Thus, in a few months (six to nine?) I believe oil supply is likely to drop to a new equilibrium, probably in the $30 to $50 per barrel range. For the following few years, U.S. fracking costs will determine the global oil balance. At each level, as prices rise more, fracking production will gear up. U.S. fracking is unique in oil industry history in the speed with which it can turn on and off. In five to eight years, depending on global GDP growth and how quickly prices recover, U.S. fracking production will start to peak out and the full cost of an incremental barrel of traditional oil will become, once again, the main input into price. This is believed to be about $80 today and rising. In five to eight years it is likely to be $100 to $150 in my opinion. U.S. fracking reserves that are available up to $120 a barrel are probably only equal to about one year of current global demand. This is absolutely not another Saudi Arabia.

Daniel Yergin: Who Will Rule the Oil Market? (LINK) [This article was mentioned by Grantham.]

Related books: The Prize: The Epic Quest for Oil, Money & Power, The Quest: Energy, Security, and the Remaking of the Modern World

Related DVD: The Prize - An Epic Quest for Oil; Money & Power

Nestlé is getting paid to borrow money (LINK)

Once upon a time, you actually had to pay lenders to borrow money. It was an archaic ritual called "interest"—here's the Wikipedia page if you don't believe me—but it's over now. 

In fact, it's the opposite of how things work today, at least in Europe's brave, new, deflationary world. France, Finland, Belgium, Denmark, the Netherlands, and Germany are all getting paid by investors—that is, bond yields are negative—to borrow for up to four, and sometimes six, years. Switzerland is even getting paid to borrow for ten years. That's never happened anywhere before. But it's not just governments that people are paying for the privilege of lending to. It's companies, too. Or at least one of them: Nestlé. Its €500 million debt that comes due in October 2016 became the first corporate bond of a year or longer to have a negative yield, after it got as low as -0.0081 percent on Tuesday. (Its borrowing costs later rose to a, relatively-speaking, punitive -0.002 percent).

Five Good Questions for Jeroen Bos about his book Deep Value Investing (LINK) [Bos also recommended the book The Predators' Ball: The Inside Story of Drexel Burnham and the Rise of the Junk Bond Raiders.]

Broyhill Annual Letter (LINK)

RV Capital's Annual Letter [H/T value and opportunity] (LINK)

Some great David Iben links (LINK)

The Future of New Business is Disrupting Old Business (LINK)

Jean-Marie Eveillard on WealthTrack (LINK)

Michael Covel speaks with Michael Mauboussin (LINK)

Steve Keen: My Friend Yanis, The Greek Minister Of Finance (LINK)

Tim Harford: How to See into the Future (LINK)

The Near Death, and Revival, of Monticello (LINK)

Nassim Taleb recently mentioned this bit of history, which I had never heard of before: The KGB's 1985 Counter-Terrorism Operation in Lebanon (LINK)

Hussman Weekly Market Comment: Expect a Decade of 1.7% Portfolio Returns from a Conventional Asset Mix (LINK)

Friday’s employment report showed a 257,000 increase in January non-farm payrolls. This news was followed by a spike in Treasury yields up to 1.96%, a 4% plunge in utility stocks, a 5% plunge in precious metals shares, and took the S&P 500 within a fraction of a percent of December’s record high, before a late-day retreat. These frantic market movements smack of an investment climate dominated by one-dimensional “theme” based behavior - where asset prices have been amped up on yield-seeking speculation, but where the most marginal change in the outlook can trigger a race for the hills or a pile-on, depending on whether the asset has features that are consistent with that theme. On Friday, the knee-jerk reaction was that stronger employment will prompt the Federal Reserve to raise interest rates sooner, creating a scramble to get out of yield-sensitive Treasury bonds and utilities, to buy dollars, and to sell foreign currencies and gold. Of course, in equilibrium, there must be someone on the other side of those trades, so prices moved to the extent needed to find that match.

.....

By our estimates, never in history, prior to the past 5 weeks, have the prospective 10-year nominal annual total returns of both stocks and Treasury bonds been below 2% at the same time. We currently project a 10-year nominal annual portfolio total return averaging only about 1.7% annually for anything close to a standard portfolio mix of equities, bonds and cash – regardless of how much diversification one has within each of those asset classes.

Marcus Aurelius quote

From Meditations:

Why all this guesswork? You can see what needs to be done. If you can see the road, follow it. Cheerfully, without turning back. If not, hold up and get the best advice you can. If anything gets in the way, forge on ahead, making good use of what you have on hand, sticking to what seems right. (The best goal to achieve, and the one we fall short of when we fail.)

Charles Brandes quote

From Brandes on Value:

However, when it comes to future earnings growth, it is extremely difficult to project it with a high degree of confidence. Additionally, the farther out the prediction, the more likely it is that it’s going to be off-target. Building long-term forecasts of well-above-average earnings growth for companies is particularly questionable, as unforeseen competition will almost certainly arise to wrest away some of these hyperprofits, making such predictions very unreliable. Value investors believe that the best approach is to focus on the current state of the business: what it would be worth now to someone who wanted to buy the whole company. Not only is this more prudent, but it’s more grounded in sanity because you’re not trying to outforecast other investors.

When comparing companies, make sure they are truly comparable...

From Understanding Michael Porter: The Essential Guide to Competition and Strategy:

Is motor oil used in car parts of the same industry as motor oil used in trucks and stationary engines? The oil itself is similar. But automotive oil is marketed through consumer advertising, sold to fragmented customers through powerful channels, and produced locally to offset the high logistics costs of small packaging. Truck and power generation lubricants face a different industry structure—different customers and selling channels, different supply chains, and so on. From a strategy perspective, these are distinct industries.

Discounts are the building blocks of value...

From Brandes on Value:

Often, it takes a great deal of conviction to stick to value investment disciplines, especially when a company’s stock price declines while you own it. For those who focus only on price, share price declines can be devastating emotionally. Even worse, they can lead to bad decisions, such as selling out just because the price is down. Some market participants focus only on how much money they are losing in the short term. However, for long-term investors who evaluate share price in relation to business value, price declines can represent a tremendous opportunity in the form of discounts. Discounts are the building blocks of value.

Links

I found a few minutes of internet access on vacation to link to some of  the things I've been saving to read this week... 

Seth Klarman: What I’ve learned from Warren Buffett (LINK)

Warren Buffett adds to his lead in $1 million hedge-fund bet (LINK)

Warren Buffett: Know when to hold 'em (LINK)

Warren Buffett’s Broker to Retire From Citigroup (LINK)

Winter 2015 Issue of Graham & Doddsville (LINK)

The new issue features Bill Ackman of Pershing Square Capital Management, Jay Petschek and Steve Major (’94) of Corsair Capital Management and Andrew Wellington of Lyrical Asset Management. Additionally, you will find pictures from the 2014 Graham & Dodd Breakfast and seven investment ideas from Columbia Business School students.

The Absolute Return Letter, February 2015: The End Game (LINK)

Many investors have been on tenterhooks ever since 2008 believing that we have never fully solved the issues which created the financial crisis. Via QE central banks have managed to ‘lower the temperature’, however the patient is still sick. In this month’s Absolute Return Letter we take a closer look at a number of ‘end games’ and conclude that the most likely outcome is simply a continuation of the slow growth which we are currently experiencing.

Lucky and Good: How Tom Brady Became the Greatest (LINK)

This is less about Tom Brady and more about greatness in general. Or what it takes to be the greatest. In other words, we’re rounding Take Mountain today and heading straight for Think Piece Junction. If you’re not up for that, feel free to bail out now.

The Nine Primary Tactics Used to Influence Others (LINK)

Chipotle: The Definitive Oral History (LINK)

How Twitter Found Its Money Mojo (LINK)

The Techies Who Are Hacking Education by Homeschooling Their Kids (LINK)

Scott Adams: Science’s Biggest Fail (LINK)

Scott Adams: What Makes Stuff Go Viral? (LINK)

Wintergreen Asks Coca-Cola to Retract Management Share Awards (LINK)

Value Investing Podcast Tom Russo on the China Factor (LINK)

The February issue of the Mutual Fund Observer has an interesting discussion on Third Avenue (LINK)

Hussman Weekly Market Comment: Market Action Suggests Abrupt Slowing in Global Economic Activity (LINK)

The combination of widening credit spreads, deteriorating market internals, plunging commodity prices, and collapsing yields on Treasury debt continues to be most consistent with an abrupt slowing in global economic activity. Generally speaking, joint market action like this provides the earliest signal of potential economic strains, followed by the new orders and production components of regional purchasing managers indices and Fed surveys, followed by real sales, followed by real production, followed by real income, followed by new claims for unemployment, and confirmed much later by payroll employment. Stronger conclusions, particularly about the U.S. economy, will require more evidence, but from a global perspective, these pressures are already quite evident.

GMO's 4Q 2014 Letter

Link to: GMO's 4Q 2014 Letter

GMO's 4Q 2014 Letter includes Ben Inker's "Ditch the Good, Buy the Bad and the Ugly," and Jeremy Grantham's "Why Were We So Surprised? The Oil Glut, Saudi Decisions, and the Uniqueness of U.S. Fracking.

Ben Graham and activism...

From Deep Value:

Graham was a forceful and eloquent advocate for the use of shareholder activism to foment change in deeply undervalued companies. The very first edition of his magnum opus, Security Analysis, published in 1934, devoted an entire chapter to the relationship between shareholders and management, which Graham described as “one of the strangest phenomena of American finance.” “Why is it,” he wondered, “that no matter how poor a corporation’s prospects may seem, its owners permit it to remain in business until its resources are exhausted?” In answering his question, Graham wrote that it was a “notorious fact . . . that the typical American stockholder is the most docile and apathetic animal in captivity:” 

He does what the board of directors tell him to do and rarely thinks of asserting his individual rights as owner of the business and employer of its paid officers. The result is that the effective control of many, perhaps most, large American corporations is exercised not by those who together own a majority of the stock but by a small group known as “the management.”

He saw deep undervaluation as a prod impelling shareholders to “raise the question whether it is in their interest to continue the business,” and “management to take all proper steps to correct the obvious disparity between market quotation and intrinsic value, including a reconsideration of its own policies and a frank justification to the stockholders of its decision to continue the business.” 

Charles Brandes on risk

From Brandes on Value:

Risk has now been popularly redefined as the impact of short-term volatility, not as what it really is, which is the permanent loss of capital. In my more than 40-year career, I have never seen risk as misunderstood yet as overemphasized as it is today, especially in the institutional world. Many people are fixated on reducing short-term volatility, not positioning for long-term growth. In this process, indexing is now taking a front seat, whether because of its perceived cost benefits, its supposed lower risk profile, or someone’s viral idea that active investing just doesn’t get the job done over the long run. 

Ben Graham quote

From The Intelligent Investor:

With every new wave of optimism or pessimism, we are ready to abandon history and time-tested principles, but we cling tenaciously and unquestioningly to our prejudices.

Marcus Aurelius quote

From Meditations:

Either the gods have power or they don’t. If they don’t, why pray? If they do, then why not pray for something else instead of for things to happen or not to happen? Pray not to feel fear. Or desire, or grief. If the gods can do anything, they can surely do that for us.

—But those are things the gods left up to me.

Then isn’t it better to do what’s up to you—like a free man—than to be passively controlled by what isn’t, like a slave or beggar? And what makes you think the gods don’t care about what’s up to us?

Start praying like this and you’ll see.

Not “some way to sleep with her”—but a way to stop wanting to.

Not “some way to get rid of him”—but a way to stop trying.

Not “some way to save my child”—but a way to lose your fear.

Redirect your prayers like that, and watch what happens.

Peter Cundill quote

From There's Always Something to Do:

Sir John Templeton said something to me and it stuck in my mind and I didn’t do anything about it at the time. We were on a roll of fifteen years of wonderful results, no down years, a high compound rate of return and some money coming in. He said something which I think is correct, and that Graham also talks about; ‘always change a winning game.’ I didn’t do it because I was on a roll then and I wasn’t flexible enough. There is no investment rule that remains immutable except the margin of safety. There are always breaks and the trick is to begin to anticipate, if you can, where the break points will be and shift. Not the disciplines and not the framework but the tactics that are involved.

James K. Galbraith - "The End of Normal"

Link to video

..................

The book, which was praised by Jeremy Grantham last year: The End of Normal: The Great Crisis and the Future of Growth

Warren Buffett quote

From his 1961 Letter to Partners:

You will not be right simply because a large number of people momentarily agree with you. You will not be right simply because important people agree with you. In many quarters the simultaneous occurrence of the two above factors is enough to make a course of action meet the test of conservatism. 

You will be right, over the course of many transactions, if your hypotheses are correct, your facts are correct, and your reasoning is correct. True conservatism is only possible through knowledge and reason.

Howard Marks quote

From The Most Important Thing:

An accurate opinion on valuation, loosely held, will be of limited help. An incorrect opinion on valuation, strongly held, is far worse. This one statement shows how hard it is to get it all right.

Charles Brandes quote

From Brandes on Value:

Investing should be grounded in basic fundamentals. If you rely on speculation, it will fail you every time. Reliance on fundamentals means looking past the hype and right into the heart and soul of a company. This will get you a lot further down the road to your goals, or at least give you more than a fighting chance when the market takes a swing at you.