JBird

Consider a 1 year pure discount note, par value 100. The risk free rate is 10%. Assume that note pays you on time. The IV is 90.90- and that doesn't change from Day 1 to Day 365. And The Second Coming happening on Day 366 doesn't change the fact that IV was 90.90. I must give credit to Eric. He is explaining this concept so well.

Intrinsic value is the number that if you were all knowing about the future, and could predict all the cash that a business would give you between now and judgement day, discounted at the proper discount rate- that number is what intrinsic value is. - Buffett speaking to UGA students Intrinsic value is the number that if you were all knowing about the future, and could predict all the cash that a crap table wager would give you between now and judgement day, discounted at the proper discount rate- that number is what intrinsic value is.

+1 +1

As a man with a philosophy degree I can appreciate this comment. It's a moot point though; we are stuck in this universe. First time I've seen a hypothetical syllogism used in the context of investing. I disagree about the truth of the premises though. There is only one intrinsic value because there is only one future- one eventual outcome. There are many logically possible outcomes though, and some are more likely than others.

Perhaps you read my first post too fast. There are a huge range of theoretical outcomes for IV, but only one eventual outcome. Without oracular vision, that outcome is not knowable. We're all somewhat clueless about the future, so we estimate a probability-weighted range of IV. I stand by what I said. Your statement of theoretical outcomes implies that the IV can be different depending upon the path. Eric's statement implies a singular IV. For example, say a company is facing life threatening litigation that will put it out of business. It will make 10 dollars forever. The true odds of winning are 50% and the date the judgement will be read is one year from now. The market uses a fixed equity rate of 10%. Your probability weighted IV would come up with a current IV of $50. Eric's statement implies that the IV will only be known after the judgement is read (i.e it will either be $100 or $0 depending on what time reveals.) Therefore, I stand by my conditional statement above. Then I was being unclear. There is a singular IV. Consider a coin-toss. We know there are two possible outcomes. And we know that time only reveals one outcome- the actual outcome is IV. I hate to sound like a broken record, but if I could have seen the future I'd have known the IV. I didn't know IV before the coin-toss occurred, so I have to guess, and I guess based on probability. I'm not saying that the probability-weighted range of values is the intrinsic value, I'm saying it's the best guess I can make.

Perhaps you read my first post too fast. There are a huge range of theoretical outcomes for IV, but only one eventual outcome. Without oracular vision, that outcome is not knowable. We're all somewhat clueless about the future, so we estimate a probability-weighted range of IV. I'm not certain, but I think you're right. Any discount rate that's at or above the risk-free rate could be the "right" rate. I'd like Eric's opinion on this one.

My contention is that this fact does not change what intrinsic value was when the company opened its doors. Consider a 50 year bond issued today. It's supposed to pay semi-annual coupons every year. Imagine you have oracular vision that has enabled you to see the timing of the bond's cash flows, as well as interest rate changes over the next 50 years. Your foresight reveals that after Year 20 all the coupons payments stop, and then restart at Year 30. But what do you care? To value it you simply discount the cash flows at the appropriate interest rates, and you have a net present value figure representing the value of the bond. Satisfied, you buy the bond at your NPV figure. When Year 20 comes around are you going to say the value of your bond decreased? You paid nothing for Year 20-29 because there was no value to pay for. And at Year 30 did it increase? An inefficient market would change the price of the bond at Year 20 and 30 but what's the difference? At Year 50 your investment finishes paying you what it was worth.

I disagree. IV doesn't change. Your perception of IV changes along the turbulent path of discovery. You keep trying to predict the unpredictable, and blame it on the IV of the business rapidly changing. No. But isn't the concept of intrinsic value a "perception"? It is always an estimate, not a quantifiable, or verifiable property like say mass. There is only one intrinsic value. Time will reveal it to us. We have only prediction to rely on divining it's value. I disagreed with Eric when he wrote that. But I'm the fool; he is right and I was wrong. If you were all knowing about the future economics of a business you could discount its earnings from the apocalypse back to today using the appropriate interest rate. That's the IV and that eventuality doesn't change. Despite the fact that time only reveals one outcome for intrinsic value, we know there are a huge range of theoretical outcomes. So we're forced to make educated estimates, and update those estimates as circumstances change. I doubt this is a useful thread, but what the hell.

Can you explain what you mean by comfort level?

Thanks very much for sharing

What sort of inputs go into your Bayesian analysis?

Happy birthday Sanjeev!

Great pics. Thanks for posting

Thanks. That sounds like a synonym for opportunity cost. If that's true, surely Charlie and Warren know roughly what the figure is?

Several posts have discussed an aim of achieving returns higher than their cost of capital. How do you calculate Berkshire's cost of capital? I'm curious after reading Buffett's 2003 comment, "Charlie and I have not the faintest idea what our cost of capital is and we think the whole concept is fairly crazy, frankly."

Posts like that make me wish there was a "Like" button on this forum.

Just read through the fixed income presentation. What was your process for estimating maintenance capital?

+1 "I try to read every report I can, and I try to figure whether something is cheap." -Buffett in a Fox interview after sale of Petrochina stock. We all know Berkshire runs a concentrated portfolio. That doesn't mean there's less work involved.

Yes that's true. My intent though was to describe how many times I'll pull the trigger, not counting the amount of times I don't pull it. By the way, I regard your investment style as very intelligent. I would not say that wide diversification, especially in your case, isn't sensible or won't produce good results. I'm down to 17.

I've never been invested in more than 3 stocks at once. I take seriously the idea that I'll make 20 investment decisions in my life.

"Anyone calculating intrinsic value necessarily comes up with a highly subjective figure. This figure will change both as estimates of future cash flows are revised and as interest rates move." - Buffett Eric is right insofar as future cash flows, while having a huge range of possible outcomes, eventually materialize into 1 outcome. The IV change though comes when interest rates change.

"More profitable companies today tend to be more profitable companies tomorrow." Heuristic-based investing is folly.

The formula for valuing assets requires answering these three questions: How certain are you that there are indeed birds in the bush? When will they emerge and how many will there be? What is the risk-free interest rate? It seems an answer to the first question is necessary to estimate a probability-weighted range of values for an asset. Can anyone comment on the quantitative application of certainty estimates to a range of valuations for an asset? Thanks

What's your thesis, if you don't mind sharing?

Only the apocalypse could stop me from being at the DJCO meeting in Feb.