Street Dogs: It’s a matter of reading and asking questions

A QUESTION Warren Buffett and Charlie Munger are often asked is: how do you learn to be a great investor?

"First of all," says Charlie Munger, "you have to understand your own nature. Each person has to play the game given his own marginal utility considerations and in a way that takes into account his own psychology. If losses are going to make you miserable — and some losses are inevitable — you might be wise to utilise a very conservative pattern of investment and saving all your life. So you have to adapt your strategy to your own nature and your own talents. I don't think there's a one-size-fits-all investment strategy that I can give you."

"Next", says Munger, "you have to gather information. I think both Warren and I learn more from the great business magazines than we do anywhere else. It's such an easy, shorthand way of getting a vast variety of business experience just to rifle through issue after issue covering a great variety of businesses. And if you get into the mental habit of relating what you're reading to the basic structure of the underlying ideas being demonstrated, you gradually accumulate some wisdom about investing. I don't think you can get to be a really good broad-range investor without doing a massive amount of reading. I don't think any one book will do it for you."

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Sleep on it, decision-makers told

When it comes to making tough decisions - don't sweat it, sleep on it - or so a team of scientists recommends.

A Dutch study suggests complex decisions like buying a car can be better made when the unconscious mind is left to churn through the options.

This is because people can only focus on a limited amount of information, the study in the journal Science suggests.

The conscious brain should be reserved for simple choices like picking between towels and shampoos, the team said.

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Revisiting ideas behind true value

The supply of truly good ideas in investing is limited. The number of original ideas is even smaller.

This helps to explain why so many investment books are much the same. Those books still keep coming in a continuing flood and this reflects hyperactive, and somewhat annoying, marketing by publishers, rather than any great gush of new ideas on investing.

However, this is not wholly unhealthy.

There may be only a few truly good ideas in investing but they are difficult to explain. They also need to be reinterpreted for new eras.

And value investing has perhaps a stronger and more coherent set of ideas than any other. Many of its practitioners behave almost as protectors of a holy flame. Here, then, is a set of ideas that dates back at least to the 1930s, to which a committed core of value investors strongly adhere.

To beat the market, you must find stocks that are too cheap. To do this, you must look at the stock not as a security but as a share in a company, which is, in turn, a bundle of incomeproducing assets.

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Notes from Buffett Meeting Feb 15, 2008

Note: Students from Emory's Goizueta Business School and McCombs School of Business at UT Austin were invited to come visit Mr. Buffett for a Q&A session. These notes were reproduced to the best of my ability as I heard and as I could recall them from a collection of mine and other students' notes. There is no guarantee that this was exactly what was said, but the intent was to preserve the spirit of the message. Enjoy.

Emory:

With the popularity of "Fortune's Formula" and the Kelly Criterion, there seems to be a lot of debate in the value community regarding diversification vs. concentration. I know where you side in that discussion, but was curious if you could tell us more about your process for position sizing or averaging down.

Buffett:

I have 2 views on diversification. 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. The economy will do fine over time. Make sure you don't buy at the wrong price or the wrong time. That's what most people should do, buy a cheap index fund and slowly dollar cost average into it. If you try to be just a little bit smart, spending an hour a week investing, you're liable to be really dumb.

If it's your game, diversification doesn't make sense. It's crazy to put money into your 20^th choice rather than your 1^st choice. "Lebron James" analogy. If you have Lebron James on your team, don't take him out of the game just to make room for someone else. If you have a harem of 40 women, you never really get to know any of them well.

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.

Over the past 50-60 years, Charlie and I have never permanently lost more than 2% of our personal worth on a position. We've suffered quotational loss, 50% movements. That's why you should never borrow money. We don't want to get into situations where anyone can pull the rug out from under our feet.

In stocks, it's the only place where when things go on sale, people get unhappy. If I like a business, then it makes sense to buy more at 20 than at 30. If McDonalds reduces the price of hamburgers, I think it's great.

Austin:

What industry will be the next growth driver in the 21st century and what do you see that supports that?

Buffett:

We don't worry too much about that. If you'd look at the 1930s, nobody could have predicted how much the automobile and airplane would transform the world. There were 2000 car companies, but now only 3 left in the US and they are hanging on barely. It was tremendous for society, but horrible for investors. Investors would have had to not only identify the right companies, but also identify the right time. The net wealth creation in airlines since Orville Wright has been next to zero. If a capitalist had been at Kitty Hawk and shot him down, would have done us a huge favor. Or look at TV manufacturers. There are hundreds of millions of TV's, RCA & GE used to produce them, but now there are no American manufacturers left.

If you want a great business, take Coca-Cola. The product is unchanged, they sell 1.5 billion 8 ounce servings per day 122 years later. They have a moat; if you have a castle, someone's going to come after you.

Gillette accounts for 70% of razor sales at 80% gross margins and it is the same over time. Men don't change much. Shaving might be the only creative thing they do, like painting the Sistine Chapel.

Snickers has been the #1 candy bar for the past 40 years. If you gave me $1 billion to knock off Snickers, I can't do it. That's the test of a good business. You don't knock off Coke or Gilette. Richard Branson is a marketing genius. He came in with Virgin Cola, we're not sure what the name means, perhaps it turns you back into one, but he couldn't knock off Coke. We look for wide moats around great economic castles. Growth is good too, but we prefer strong economics. In the upcoming annual report I have a section titled "The Great, the Good, and the Gruesome" where I talk about these.

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Ackman Proposes Bond Insurer Split, Policyholder Veto

Hedge-fund manager William Ackman, who has bet against bond insurers including MBIA Inc. and Ambac Financial Group Inc., proposed restructuring the companies so more capital stays within their insurance subsidiaries.

Ackman, managing partner of Pershing Square Capital Management LP in New York, said the companies' insurance units should be divided into separate municipal and asset-backed businesses. Dividends should flow to the asset-backed unit from the stronger municipal insurance operation, he said in a proposal to regulators, lawmakers and banks yesterday.

State regulators are pressuring bond insurers to make sure the municipal debt they back retains its AAA credit ratings. Credit rating companies are reviewing whether the bond insurers still merit top ratings, given downgrades of securities backed by subprime mortgages that they guarantee.

The proposal ``offers the best prospect for protecting the most policyholders and ensuring a viable ongoing municipal bond insurance market,'' New York law firm Edwards Angell Palmer & Dodge LLP, which performed an analysis for Pershing, said in a memo included with the presentation. Copies were obtained by Bloomberg News and confirmed by Ackman.

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Lee Scott Speech: Wal-Mart Expands Leadership On Energy Efficiency, Ethical Sourcing And Health Care

Curtis Jensen: Third Avenue's Global Focus

Nestlé's CEO to Wall Street: I did it my way

After 11 years at the helm, Peter Brabeck-Letmathe will soon step down as chief executive of Nestlé, the world's largest food company, whose brands include Nescafé, Jenny Craig, Gerber and Poland Spring, San Pellegrino, Stouffer's and Maggi. It hasn't all been plain sailing, as the world economy has had to deal with the Asia crisis, the bursting of the tech bubble and 9/11.

But throughout Brabeck's tenure, Nestlé, which is based in Vevey, Switzerland, has managed to maintain steady growth even as many of its rivals including Britain's Unilever (UN), Kraft Foods (KFT) and France's Danone have stumbled or failed to match its pace. Sales, of about $90 billion, are 50% higher than when Brabeck took over and the company's profit margins have been rising too. In an interview with Fortune, Brabeck - who's staying on as chairman - talks about his record, how he has changed the company, what the new challenges facing his successor are likely to be, and how the conventional wisdom on Wall Street was wrong.

Fortune: The financial community likes to talk about the need for corporations to focus. You've pooh-poohed that as a fallacy. Why?

Brabeck: In the 90s there was a paradigm that only "focus" would lead to operating efficiency. It meant selling off lower-margin businesses and not investing in new markets, so that there would be an instant improvement in EBIT. Almost all of my competitors followed this. But we saw that with focus, there was a danger that you would not be able to get long-term growth. We looked for a different model. We wanted to combine a certain complexity with operating efficiency. That way we could have top-line growth improvement and long-term margin improvement. This is biology - the day you stop growing you start dying. If you focus and focus and focus you will end up in the hands of somebody else.

You reorganized the company to give greater autonomy to business divisions and put in place a big IT platform called Globe that's supposed to tie the whole company together. You've described it all as taking a supertanker and turning it into an "agile fleet of fast boats." Where did that idea come from?

Back in the 1970s (while based in Latin America), I was invited by the Chilean navy to spend two days with them on an exercise. I was very impressed. The frigates went off on their own, and the only centralized structures were one supply boat for fuel, one for food and one for munitions. I never forgot this.

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Comcast Investors Seek Buyback, Payout as Shares Drop

Comcast Corp., the biggest U.S. cable-television provider, may have to buy back more stock or pay a dividend to satisfy investors after a 35 percent drop in the shares last year.

Chief Executive Officer Brian Roberts should curb spending and free up cash that can be used to reward shareholders, said Pat Becker Jr., whose Becker Capital Management in Portland, Oregon, owns 1.2 million shares.

``That's the key to moving the stock,'' Becker said in an interview. ``You never get that payoff because they have to spend so much to upgrade and fend off the competitive environment.''

Comcast was the seventh-worst performer in the Nasdaq 100 Index in 2007 as a $6 billion investment in cable set-top boxes and networks failed to stem a slowdown in subscriber growth and customer defections to Verizon Communications Inc.

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Berkshire's offer to MBIA

February 6, 2008

Mr. Gary Parr
Deputy Chairman
Lazard

Dear Gary:

As you know, many constituencies in the financial markets have been increasingly focused on the emerging issues in the financial guaranty industry for several weeks now. In fact, we ourselves have had several meetings with the New York Insurance Department to explore whether there is something we can do under the current circumstances that would be helpful in addressing the growing concerns in the financial marketplace. Unfortunately, the structured finance "side" of the business, with its many moving pieces and interdependent variables, has proven to be beyond our ability to adequately analyze. Nonetheless, we are ready and willing to lend our reinsurance support to the municipal side of the house, and in fact had set out in a letter to the New York Superintendent of Insurance a concept that we believe would address the needs and concerns of main street America's municipalities. The Superintendent has no objection to our approaching you with this proposal. We would like to meet with you and your client, MBIA, to discuss whether MBIA would have any interest in the proposal .

The key elements of the proposal we described to the Superintendent were: (1) we would raise the capital level in our monoline insurer, Berkshire Hathaway Assurance Corporation (BHAC), to $5 billion; (2) we would assume by reinsurance the muni bond portfolio of several of the monoline companies for a premium of 150% of the existing unearned premium reserves of the companies (with respect to two of the leading companies this would result in a combined unearned premium reserve of $6 billion, plus $3 billion for a total premium of $9 billion which, with the increased capital contribution to BHAC would result in approximately $14 billion of assets available to meet the combined $600 billion or so of total principal value of municipal bonds insured by these two companies); (3) we would undertake not to reduce BHAC's assets by dividends, fees, etc., for a minimum period of ten years; and (4) we had furthermore proposed that, if the companies found a preferable solution during the first 30 days of our cover, they could have a no-questions-asked walk-away option in consideration of a break-up fee that would be paid to us.

The gist of our proposal to you is that we would reinsure MBIA's current municipal bond insurance portfolio in consideration of a premium payment to us of an amount equal to 150% of the existing unearned premium reserves. Like many potential reinsurance buyers, I recognize that your first reaction may be that this is an excessive premium, and I want to offer you upfront the thought processes that led me to conclude that this is in fact a fair proposal that achieves important objectives for both parties.

We priced this proposed reinsurance cover to reflect the significant opportunity cost from our perspective in providing this type of bulk reinsurance cover. In the current market environment, we are able to command premium levels double (or higher) your client's prior rates to insure the risks that in addition have the benefit of your client's AAA insurance cover. Given our conservative use of capital (for example, the capital ratios in our monoline insurer would be higher than other insurers and would not be subject to reduction by dividends, fees, etc. for a minimum of ten years under the concept we presented to the Department), by offering this cover we forgo these direct opportunities to wrap already wrapped bonds. Despite this, there is an obvious appeal to a bulk transaction like this given the low overhead costs which would be involved.

Taking all these factors into account, we came down in favor of making the proposal and are prepared to pursue it with you directly. It is efficient as both a bulk transaction and a transaction that we believe will help stabilize the currently unstable marketplace conditions for the municipal business. In that sense, this approach also has the appeal of serving the greater public good, not an unimportant consideration for us, both as a matter of principle and as a company with a vested interest in national economic conditions.

From your perspective, I would respectfully suggest that this proposal would allow MBIA to release substantial capital from the municipal bond side of the house that can be deployed to support other obligations. I would submit that our proposal at the pricing levels we require is actually a cheap way for MBIA to raise capital as compared to other alternatives and is therefore of great benefit to MBIA's owners and their municipal bond policyholders.

Should this proposal prove to be of interest to you, and I sincerely hope that it is, we would ask for the courtesy of a reply as soon as possible. We would be prepared to complete this transaction within the next five days.

Sincerely,

Ajit Jain,
President

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