ERICOPOLY

No. Intrinsic value of the business is measured by all of it's generated distributable cash, discounted to the present. The distributed cash is certainly included by the omniscient towards the IV calculation -- it's not lowered by actions of the business owner post-distribution. He can roll up the dividends and smoke them, or let them sit there in his separate account until the "heat death of the universe". Now, the omniscient won't include any assets still belonging to the company at the time of "heat death of the universe" -- after all, they're not distributable. Businesses can also be wound up early with the remaining assets sold and distributed to the owners (before the "heat death of the universe"). Now, under the current dividend policy Berkshire may well become a zero as nothing will have been distributed on the day that the heat death arrives. It's really risky what Buffett is doing here -- perhaps you can point out this risk to him at next years AGM.

The theory is extensible to a multiverse, as I have pointed out. There is one IV per universe. You merely suggested that there is one IV per universe. Exactly as I claim.

Non sequitur. An omniscient being knows everything (inclusive of IV). How is my proposition flawed? What are the huge known flaws? So far you have found none, you have only suggested that each parallel reality has an IV of it's own. That's fine, because we experience only one reality. That's not a flaw, it's a feature. In your coin toss example, think of the alternate outcome as a fork() in unix, where the alternate path takes place in a new process instance. There is still one true IV per process instance because what we think of as ourselves is bound to a single process instance where there is a single IV. Once again, let me suggest that it isn't "known" that there is a multiverse. I haven't found a time issue that Boiler has raised. The IV of a business is all future cash it makes, discounted to the present. You can take that cash and throw it over your shoulder and claim that none of it is left, however it was still made by the business.

However, before they are worth zero, they potentially will distribute earnings. That is true, but as they distribute earnings the IV changes. One thing for sure, the IV of all companies will cease to exist the day I die! The Berkshire model of sweeping the earnings and allocating it to purchases of new businesses reduces the chance of zero. The more independent businesses they own, the less likely that they will all be zeros at the same time. Now, if Berkshire instead were to buy back shares with the earnings, they would be doing nothing to reduce the probability of the shares being worth an absolute zero. How do you think about the IV of BRK? Did the IV change when Buffett bought BRK? I believe Buffett has referred to his purchase of BRK as an investment mistake. So did the chance event of Buffett buying BRK change the IV? Did BRK go from a possible zero IV to whatever it is today? You need to think about the meaning of omniscient. It's clear what my answer will be once you do this, as the omniscient being knew that Buffett would buy BRK and he knew everything that Buffett would do up until this day.

Well, I see a lot of value in knowing that there is one single IV. It helps in scoring whether or not you are actually being a value investor, or whether you are just well intentioned to be a value investor but are following the wrong path. The idea is to buy at a discount to the one true IV, not just an imagined one that's way off the mark! So when we hear people saying that the IV of RIMM was something really high early on when they first bought the shares, but that the IV then collapsed, we know that what really happened is they bought at a discount to an IV they pulled out of their imaginations. Then their imaginations created a new one after time passed. Etc... etc... Is that value investing when you pick a target that is extremely difficult to get right due to the high degree of unpredictability? It might be good speculation, but I am going to say it's not value investing if you readily admit upfront that you haven't really got a good chance of getting the IV right. You may argue that the price is low enough to compensate you for the uncertainty, but I still throw that in the speculation pile. The uncertain businesses have too much potential for your estimates to be wrong, and thus it's unclear if that discount is really there. Yet still there may be a right price -- it's just too hard for me anyway to call that anything but speculation. I'm a speculator though if you measure my past behavior by this standard. Once you get into the "wide range of outcomes" businesses and start assigning probabilities to each outcome, this is where you are most likely to get it wrong because your bias has an influence on the probabilities that you assign. So it's inherently unreliable given that you are human. I think a better path is the one that Buffett and Munger follow where they study the long term durability of the business and reduce their chance of bias being a weakness by only sticking with businesses that are nearly certain to last a long time. Rather than trying to assess the odds of RIMM being around in 5 years, they'd rather just narrow their universe of stocks to the relatively few that almost certainly will be around in 5 years, and either buy them today or wait for a discount in them. I think Buffett and Munger have evolved to become true value investors in that they seek to get as close as possible to the one true IV and they stay away from businesses where they have too variable of outcomes. That's why they would never invest in RIMM -- "too hard" pile means that it's too hard to get a (relatively) highly reliable estimate of the one true IV. They have deep religion, almost like monks. Me, am I a true follower of this religion? I hope to be, but my past record is one of speculator.

However, before they are worth zero, they potentially will distribute earnings. That is true, but as they distribute earnings the IV changes. One thing for sure, the IV of all companies will cease to exist the day I die! The Berkshire model of sweeping the earnings and allocating it to purchases of new businesses reduces the chance of zero. The more independent businesses they own, the less likely that they will all be zeros at the same time. Now, if Berkshire instead were to buy back shares with the earnings, they would be doing nothing to reduce the probability of the shares being worth an absolute zero.

However, before they are worth zero, they potentially will distribute earnings.

Furthermore, the omniscient one knows of all future universes, and he knows the singular intrinsic value for each universe. Thus for the one we live in there is a singular intrinsic value. Simply stated, in our universe there is a singular real intrinsic value. Should we worry about another universes' intrinsic value, they ought to tell us to just stick to our own knitting.

There isn't one past. Suppose at this moment you flip a coin. One universe is created where the result is heads, and one is created where the result is tails. Do it again. Now you have 4 universes. There are some parts of the past that are in common, and some parts where the past is not in common. The problem with your argument is that you're saying that when you flip that coin and it comes up heads, that means that in your universe, it was always going to be heads. That's not true, because the alternative universe, where it came up tails, is also your universe and also contains the same you. Each Ericopoly in each universe could argue that the coin was always fated to come up heads/tails, but it doesn't make any sense to completely ignore the other universe which is also you, and where the opposite result occurred. It's still you. That's creative but I contend that a new universe is not created when I flip a coin. Others disagree. Separately, remember the idea of multiverse is hypothetical, yet you state it as if stating fact. By the same token, the concept of singular universe may also be hypothetical :) Regardless, I will be happy to restate my claims as the following: One past sequence of events per universe. One future sequence of events per universe. Each business has but one real intrinsic value per universe. The claims I make in this discussion pertain to the universe that we are presently communicating within. The question then of one or many universe is irrelevant no matter which universe you live in, as you have a workable model that fits your universe. I would be happy to think of a single universe as similar to a single instance of a computer application. The application has global data structures that always have a single value assigned within their process space. Yet there may be multiple instances of this application running at the same time, and each may have a separate value assigned for those same global data structures. The logic within the program knows only the values of the global data structures belonging to that single instance, and for all intents and purposes of that program these are the only real values. The existence of other instances is irrelevant.

I agree. But I find it even more puzzling when people say cash or another defensive asset is "the ultimate hedge" or something like that. Nope, short positions are the ultimate hedge. Short positions need to be hedged or theoretically they can completely wipe out your portfolio.

I left my comparison to 2008 only, because in early 2009 FFH's equity position wasn't hedged. A good deal of that March 2009 correction in FFH's stock price was just a reflection of their book value dropping.

Well, nobody is certain that a party will take place if you drop off a keg of beer at a fraternity house on a Friday. I believe there are others who think like me out there... meaning they will sell FFH to take full advantage of the market correction when it comes. You increase your buying power of cheap equities when you sell Fairfax.

A very underrated album. Don't those lines seem especially well suited to investors? This is the kind of stuff Bill Gross would add to his newsletter for color. Intrinsic value is The Final Cut!

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 The key word: omniscient. Advance knowledge of all future events and risk free interest rates will produce a singular real IV. The idea that an omniscient being is going to engage in a range of potential outcomes or probabilities is ludicrous. Why do you think the omniscient being will spend any time predicting what he already knows?

The arbitrage is part of that future. It is often possible to arbitrage in the present the indeterminate future state. Financially, the present IV might be half of Schrodinger's Cat. Or about 500 live cats out of 1000 whose future state is indeterminate. :) I don't think it is possible to do anything that does not belong in the future. Once the connectors in my brains start firing time has already elapsed. Here's a commonsensical example of how IV can change. Lets work the same idea backwards. Lucky Joe has a dollar while standing at the crap table when a rare circumstance presents an even money bet. The intrinsic value of his dollar is . . . one dollar. He lays his dollar down on the even money bet. After the roll of the dice, the intrinsic value of that wager is definitely going to change. It will be worth zero or two dollars, but definitely not what it was worth before the roll of the dice. :) That entire sequence of events is Joe's cash flow. It has a singular intrinsic value that never changed. Upfront we lacked clear details on how the narrative would unfold. The passage of time may have surprised us, but Joe's cash flow was his gambling winnings. And all future gambling winnings discounted to the present has a singular real IV -- we just can't for the life of us accurately assign it a precise figure.

Yeah me too (that's why I thought of it ;D). Then I realized it was much more nuanced than I intended. When we think of a business selling at IV, wouldn't we still expect to see a profit by purchasing the company at IV? Why would you/what investor would pay the expected cash flow? You would always require a profit. Therefore, the IV needs to exclude $.50. Now, what is the right amount to pay? There is a large variance in the outcomes, so what price is appropriate to subject your capital to the variance? The Kelly Criterion comes into play here. The larger your bankroll, the closer to $.50 you should pay. The smaller your bankroll, you should pay closer to $.00. So here the value depends. I am not sure how this applies to share structures though so that's why I said we might be getting off topic. wknecht, The real IV of the coin toss is either 0 or it's $1.00. There is no other possible outcome. (hey, you asked how IV could be anything other than 50 cents ;)) You either get $0 if it's heads, or $1.00 if it's tails. There is absolutely no chance in hell that IV could be 50 cents. ironically though, estimated IV is just like you say, .50c because we have no other tool than predictive powers (and we have a lot of confidence in the equal heads/tails weightings). So we have no hope but to assign an estimate that we know for certain will not be correct in one iteration of the coin toss. In estimation efforts, we do our best. .

The arbitrage is part of that future. It is often possible to arbitrage in the present the indeterminate future state. Financially, the present IV might be half of Schrodinger's Cat. Or about 500 live cats out of 1000 whose future state is indeterminate. :) I don't think it is possible to do anything that does not belong in the future. Once the connectors in my brains start firing time has already elapsed.

I'm also planning on kicking the can (taxes on BAC) down the road for a long time, then realizing the gains as a resident of another place. Until then... I will buy this house I currently rent with cash. I will get that cash using portfolio margin borrowing power. It will be hedged with a BAC put. I will effectively have spend the pre-tax value of the BAC shares on the house. The ongoing earnings that BAC generates will effectively reimburse me for the cost of the BAC puts. This is my plan to spend the money without paying taxes. Eric, I've got to say, you're just excellent. you just gave me an idea to reduce the interest rates on my student loans, maximize the tax benefits of them, pay for my MBA and spend my investment returns to pay for my living expenses. Kudos to you, and thanks! Glad to share the idea. It's not clear to me how deductible the interest is. My understanding is margin interest is only deductible if you borrowed the money for investment purposes. Thus, if you simply withdraw $10,000 and use it to pay off your student loan the next day the tax auditor may disallow the interest on the 10,000 loan even though it's margin interest. In my own case, I'm not sure if it is tax deductible or not for my primary home which is probably not an "investment", but rather some form of personal non-business consumption.

The arbitrage is part of that future.

I'm also planning on kicking the can (taxes on BAC) down the road for a long time, then realizing the gains as a resident of another place. Until then... I will buy this house I currently rent with cash. I will get that cash using portfolio margin borrowing power. It will be hedged with a BAC put. I will effectively have spend the pre-tax value of the BAC shares on the house. The ongoing earnings that BAC generates will effectively reimburse me for the cost of the BAC puts. This is my plan to spend the money without paying taxes.

Not always. For example, a business gets wound up. A bond matures. There are examples where you can precisely determine IV based on what is revealed by the passing of time. As you suggest, there are also times where the business still has an unknown future despite our being able to measure it's past cash flows up to this present day.

IV estimates can and do change. Unless you are all knowing about the future, you have only estimates (guesses). Surely this we can agree on. How have you witnessed the movement of IV itself? You do not have perfect enough knowledge of the future to know what IV actually is, let alone any illogical change in it's value. Going back to the coin flipping example ($1 if we win, $0 if we lose). To buy this asset (ability to participate) we would pay no more than $0.50. If it turns out that we win, we now have a $1 asset. Had we paid $0.75 before the toss, we cannot claim this was a good decision on the basis of being less than the ex-post $1 "intrinsic value" (instead of $0.50 or less). So in my view the intrinsic value changed from $0.50 before the toss to $1 after the toss. I agree with racemize. I think folks are saying the same thing, just some are looking through the rear view mirror, others the windshield. The true IV was $1 all along. This was however impossible to know upfront and the best estimate of IV before the toss was 50 cents. The true IV is "all future cash flows". Thus, it was $1. This is completely separate from expectations based on mathematical probability, however ultimately there tends to be some relationship as probability (properly assigned) is quite useful in estimating the future.

The number 7 is fixed. But how do you know that the Intrinsic value is fixed? Everybody will value cash flows differently. They will use different growth rate assumptions, different discount rates depending upon their risk calculations - always leading to a range of outcomes. Yes, different assumptions... Only time will reveal the difference between the assumptions and the one true IV. You can pull up a chart of the past risk free rates, but you cannot pull up a chart of the future risk free rates. You can create a prediction of that chart... but that's only a prediction.

The intrinsic value of future cash flows for a business is different than the intrinsic value of a woman. What's the intrinsic value of the number 7? Is it fixed in value? Or is it something you can argue doesn't exist as a single value because a woman can have multiple intrinsic values? I think there is a flaw in your logic comparing a measurement of monetary value(money) to a woman. All the cash flows that Kate Upton produces through her life... we can talk about that perhaps in the framework of this discussion. Because then it's apples to apples.

"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." - Eric Doesn't Eric's comment "IV doesn't change" imply that IV couldn't have been another value? I have issue with that. IV can and does change. No, I don't think "IV doesn't change" implies that. IV is the some of all future cash flows, discounted. Those future cash flows will be certain values, and they will not be others. Putting aside my other comments, I posed another question earlier. What discount rate is the right one? If you use different discount rates, you will have different IVs. You cannot know with certainty what the proper discount rate is any more than you know what the actual cash flows will be. But there is only one past, and that past revealed the correct answer up to the present. Surely this "one past" phenomena will not change going forward. Today's future is tomorrow's past. Thus, one future. We have no hope of knowing precisely what it is, only guessing.