My primary objective behind writing this article is to help retail and common investors make their own financial decisions and learn from investing failures of one of the all time greatest investor in financial market history, Warren Buffet. As per Forbes 2010 list of world richest individuals , Warren Buffet (with net worth of $47 billion ) and George Soros (with net worth of $13 billion ) are perhaps only individuals among top 50 (It is also interesting to know six indian among them whose combined net worth of $ 113 billion is almost about 10 % of India GDP of $1.31 trillion though all of them earned or inherited most of their fortunes through business other than financial market) to earn their fortune almost entirely by exploiting the inefficiencies of global financial markets though their style of exploitation may be slightly different. It may not be entirely coincidental that both of them are almost same age (79 years) and USA
Warren Buffet is definitely among most talked and written about financial personalities in recent memory ( his holding company Berkshire Hathaway Inc annual report among most widely read annual report by global investment community) and perhaps in entire human history but contrary to popular believe major chunk of his fortunes created through purchase of businesses rather than stocks. Most part his stock buying is substantial (with holdings of more than 10 % of the company in question which allowed him to participate in financial and other strategic decision of the company) and during period when most of those companies are going through temporary period of crisis (which allowed him to extract better investment deal from companies with assured return substantially higher than generally available to common stock investors through dividend payments) Also stage of American economy and financial market during major part of his investing career has profound effect on his investing success. Perhaps what differentiates most of investors (including me) from Warren Buffet apart from his financial acumen is his simplicity of thought, patient, preservenss, emotional intelligence, foresight, ability to learn from past mistakes and wisdom of others like Graham, ability to adopt his investment style as per changing realities of financial market and for most part commit money only to businesses which falls within his areas of competence. Also like most of financial investors during his investing career of over five decades, his financial investment decisions has turned out failure as many times as its turn out successful though successful one is most widely reported, followed, liked and believed by most of investing community.
Warren Buffet and some of his most successful investments
To support my above assertion let us looks at some of his most successful security investment decisions which are in his holding company portfolio for many years.
Table 1.1: Some of Berkshire Hathaway most successful investments
(Source: Berkshire annual report 2000, 2005, 2007, 2009)
(All Data is normalized to cost price as appear in 2000 annual report to enable multi year comparison to take care of buys and sales during period in question)
Company | Percentage of Company Owned | Cost of Purchase (in millions $ as in 2000 annual report) | Market Value (in millions $) | ||||
2000* | 2005 | 2007 | 2009 | ||||
American Express Company | 12.2 | 1470 | 8329 | 7802 | 7887 | 6143 | |
The | 8.4 | 1299 | 12188 | 8062 | 12274 | 11400 | |
The Gillette Company (Latter P & G Company after acquisition of Gillette) | 3 | 600 | 3468 | 3694 | 4339 | 2355 | |
The Washington Post Company | 18 | 11 | 1066 | 1322 | 1367 | NA | |
Wells Fargo & Company | 5.7 | 319 | 3067 | 692 | 437 | 389 | |
Others | 6703 | 9501 | Not Relevant | Not Relevant | Not Relevant | ||
Total Common Stocks | 10402 | 37691 | 30475 | 19875 | 17725 | ||
*: Mention increase in market value from time of buy. Some of buys like Washington Post happened in 1970’s while some other like Coca-Cola, Gillette happens in mid 80’s & early 90’s.
As can be seen from table 1.1 above most of his very successful and multi-bagger investments of 1970’s and 80’s and early 90’s like washington post, coca-cola, gillette , wells fargo, american express from 2000 onwards has not shown any significant appreciation(actually almost all of them has suffered significant decline in value in last 10 years). Also cost of common stocks investment for Berkshire in year 2000 was around $ 10.4 billion which has increased to around $ 15.94 billion in 2005, $ 39.25 billion in 2007 and around $ 34.6 billion in 2009, so significant new money was invested in stock holdings during 2005 and 2009 (more than $ 20 billion) which was not generated through gain in securities and profit bookings but free float cash available from his holding companies reinsurance and other cash flow generating businesses which subsequently turn out to be one of the most difficult period for security investment in American history and consequently may be not a wise investment decision in hinder sight.
Indian investor can draw following lessons from above discussion:
Lesson # 1: No company even with high quality management, products and services can successfully grows its business and market share over many decades continuously and at some point of time it is likely to decline or hit upper limits of its growth potential. So common investors should never wed for life to a particular share investment and analyze the size and future growth potential of the business before making their potential investment decisions.
Lesson # 2: It is highly unlikely for any investor to make a living out of security market investment because there is hardly anybody able to do that successfully by depending on such activities alone (including Warren Buffet). However working in financial industry as professional is altogether a different ball game. So involve yourself in real business activities which contribute to growth of Indian economy and not rely on speculation as way of living because in long run it is not likely to succeed.
Lesson # 3: Stages of Indian economy and security market has important bearing on investment success and considering current economy scenarios and market condition it is not likely that in next decade Indian investors as a class can able to generate and preserve value of their investments (after adjusting for inflation) like they did in last decade (during 2000-10) so diversify your investments significantly in other financial instruments including debt and commodities.
Lesson # 4: Nobody can time the market entry/exit successfully most of the times even with insiders information on state of economy in general, so focusing on business fundamentals of companies may be more worthwhile than trying to time the market.
Beating the market and Warren Buffet
S & P 500 index is one of the most popular index used in USA market to benchmark investment return and success (Like sensex and nifty used in Indian market) and in first page of Berkshire annual report Warren Buffet lists comparisons of his annual returns w.r.to S & P 500 index from 1965 onwards. As per this report S & P index has grown with CAGR (Compound Annual Growth Rate) of 9.3 % while investment in Berkshire share has grown with CAGR of 20.3 % (This should not be confused with return of its security investment only and includes profit from its various businesses as well. Rs 1 invested in Berkshire in 1965 should have grown to Rs 4340 in 2009 while with index it should have grown to 54 during the period ). To put this figure in prospective for Indian investors, Wipro (a leading Indian IT Service company) has grown with CAGR of around 18 % and Tata group has grown with CAGR of around 13 % during the same period. There is no doubt that Berkshire returns during the period is spectacular to say the least however between 1999 to 2009, Berkshire has grown with CAGR of 7.58 % only, which is less than long term S & P index average CAGR of 9.3 %. Also most of the gain of Berkshire has come from avoiding steep decline in value of its portfolio during bear markets of 2002 and 2008 and not from major gain during bull period of 2003 – 07 (in comparison to S & P index). Actually Buffet portfolio has gained by 10 % in 2002 (while S & P was declined by 22.1 %) and in 2008 declined by 9.6 % (in comparison to S & P decline of whopping 37 %).
Lesson # 5: It is almost impossible to beat the market over long period of time and even Buffet find it difficult to achieve this feat. So for most investors investing in Index funds may be best choice over long term. Also yearly returns of portfolios may be small but compounding over long period of time is what causes actual creation of wealth. To put this in prospective if every human in year 1600 had foresight to invest only Rs 1 and should have grown that amount to CAGR of only 5 % (by passing to their next generations off course) that amount should have more than 48 crore in 2010 and no person in the world should have been poor today. This also tells us how difficult it is to pass even small amount of wealth through generations or grow the money consistently over long period of time(This can be good advise for our politicians , businessman, bureaucrats and greedy promoters who indulge in corruption at the expense of country and common investors in false hope of amassing wealth for their future generations)
Warren Buffet and some of his most unsuccessful investments
Warren Buffet investment record is spectacular however like most of investors many of his investments after purchases have turned into failures.
Table 1.2: Some of Berkshire Hathaway most unsuccessful investments
Company | Year of Purchase | Cost of Purchase (in millions $ ) | Market Value at time of exit (in millions $) | Remarks |
Salomon Inc | 1988-90 | 700 | 1700 | Salomon Inc is among leading investment companies of wall street in 1970s and 1980s became came close to bankrupty in early 1990’s and latter acquired by Citigroup in 1998 |
General Re | 1998 | 22000 | Not Available but definitely significantly less than its acquisition cost of 22 billion $. May be currently valued around 10-12 billion $ only. | After Buffet buy by paying 22 billion $ its business has continuously declined from premium collected of 8.6 billion $ in 2000 to 5.7 billion $ in 2009. During whole this period this acquisition is mostly in loss with combined loss of around 5.7 billion $. |
NetJets | 1998 | 725 | Still hold by | NetJets is in aeroplane leasing business and still owned by Berkshire but in last 10 years it has not able to achieve expected profit and during 2009 posted a loss of 700 million $. |
Pier 1 Imports | 2004 | 150 | 30 (Started selling in 2005) | Pier 1 is a furniture retailer. Buffet bought this stock at price of 20 $ in 2004 and by 2007 this stock was quoting at less than 5 $ per share |
ConocoPhilips | 2006-07 | 2741 | 1926 | ConocoPhilips is a oil producing company. Buffet has started investing when oil prices are close to its peak of around 140 $ per barrel which dropped to around 35 $ in 2008. So also Its share price has dropped in value by more than half after Buffet buy and he eventually started selling it from second half of 2008. |
Freddie Mac | 1996 | 333 | 3170 (selled in 2000) | Buffet has existed from this company in 2000 however in 2008 this housing finance giant was in brink of bankruptcy and was bailed out only with huge federal package to avoid it. |
Contrary to the popular believe Buffet investment decisions has also turned out in major failures fortunately for him most of his mistakes came in latter period and at the beginning of his investing career. Buffet has relatively dream run of investment success during 1980 -95 which is incidentally also one of the best period for American financial market and economic growth. Also in last decades his portfolio churning ratio is quite high and he has existed many of his investments within relatively short period of time and not able to hold it for long term as many of us like to believe.
Lesson # 6: Never invest in commodities or commodities related stocks like mining, metal, oil etc close to peak of economic cycle or when they are available at close to peak of their historical valuations otherwise it may lead to major loss in your investment value (like ConocoPhillips for Buffet)
Lesson # 7: While investing base your investment decisions on your analysis and understanding of business fundamentals of the company and don’t loose heart if some of your investment turn out to be bad and be quick to recognize and exit such investment at earliest favorable opportunity.
To conclude financial market is a very complex and futuristic system whose predictions based on past history for investment purpose always carry some amount of risk and Indian investors should make their investment decision in financial market based on his/her risk profile and by analyzing & learning from past mistakes of investment gurus like Warren Buffet.
