anders

Thx all for great input! Yes, this question derives from BRK letter 1983. But as munger recently said: "just because buffett said something 20 years ago doensnt make it an eternal law". Me too would go for Company A, but Im not so sure with our current economic environment. Would it have been the best choice in Japan 1983 going forward? Lets add reinvestment into the equation, that is under current market environment and we dont know the future rate of return. Inflation is currently running at a negative rate and who knows the future of inflation? Which law states it cant run at a negative rate many years to come? (though In my opinion with current stimulans programs spread around the world its highly unlikely). Further on, we are in a deleveraging process (regardless of centralbank balance sheet expansion) which as you know put pressure on ROE in regards to margins and capital structure. Also, when the historically low interest rates normalises it will put pressure on ROE. Some wrote that in a longterm perspective company A would be the best choice, I agree. But considering the arguments above, what then would be the probability that your investment lost purchasing power of the holding period (your Risk) compared to company B and, what would be the opportunity cost? Could this be a reason that Buffett is willing to accept more capital intensive businesses ie utilities and the purchase of BNSF that probably under these circumstances will provide a higher margin of safety inside the business? At its core, could our current economic environment potentially twist or harm your transferred purchasing power into a high ROE vehicle such as Company A, to a degree that it will not deliver the expected purchasing power - after taxes have been paid on nominal gains - in the future and, as a corollary, would you then be better off or worse with Company B as an investment? I realize its diffcult to discuss this without knowing the characteristics of the companies. Im just throwing up the ball here because my best decisions always come when I get input from all perspectives. Best Regards,

As you well already know, a company is logically more valuable than its net assets if it can produce a return on those assets above current market rates. The created value on that return over market rates, I define as economic goodwill. Or from another perspective, how much reinvestment the company needs to increase its return on capital. So, we have two equally good businesses: Company A earns 2m on 8m assets and cost 25m (8% EY) to buy. Company B earns 2m on 18m assets and cost 18m (11% EY) to buy. Under a normal economic environment, Gramham-followers would probably choose Company B and Buffett-followers go for Company A. But we are not in a normal economic environment, we are in a inflationary (ie FEDs $85bn/month programme), deleveraging environment (similar to post world war II) something very few investors have experienced in real life, so my question comes down to this: With currently low inflation, deleveraging economy and, history low interest environment, what company above do you decide to buy and what is the reasoning behind it? Best Regards,

When looking at insurance, I always have the following in mind: "At bottom, a sound insurance operation needs to adhere to four disciplines. It must (1) understand all exposures that might cause a policy to incur losses; (2) conservatively evaluate the likelihood of any exposure actually causing a loss and the probable cost if it does; (3) set a premium that will deliver a profit, on average, after both prospective loss costs and operating expenses are covered; and (4) be willing to walk away if the appropriate premium can’t be obtained. Many insurers pass the first three tests and flunk the fourth. They simply can’t turn their back on business that their competitors are eagerly writing. That old line, “The other guy is doing it so we must as well,” spells trouble in any business, but in none more so than insurance. Indeed, a good underwriter needs an independent mindset akin to that of the senior citizen who received a call from his wife while driving home. “Albert, be careful,” she warned, “I just heard on the radio that there’s a car going the wrong way down the Interstate.” “Mabel, they don’t know the half of it,” replied Albert, “It’s not just one car, there are hundreds of them.” - Warren Buffett My two cents,

I have been watching the industry for a while... its interesting but there is a potential risk around the corner that china will increase their inventory of VLCCs to carry most part of their imports of crude.. if that happens, the supply/demand picture will continue to be out of balance and shipping firms will have an even tougher time ahead of them.. Best,

"Our focus on strengthening the balance sheet continued this quarter," said Chief Financial Officer Bruce Thompson. "We ended the quarter with record Tier 1 common capital ratio of 11.41 percent and an estimated Basel 3 Tier 1 common capital ratio of 8.97 percent, up from 7.95 percent as of the second quarter of 20121. With these gains, we have turned our attention to driving core earnings." ---- Right on track! :)

Im in the inflation camp so to be able to lock in 3.8% for 30 years would be a one in à lifetime opportunity! Depending on your current LTV on your house, and choosing à couple of good long term investments, the reward many times outweighs the risk... Your interest and principal will be constant for 30 years.. What do you think your salary will be in 5, 10, 20, 30 years from now? What do you think brk, ffh will be worth? I would make sure to be covered x% of house price decline and surf on the wave! US credit is now the cheapest in history, be greedy when others are fearful.. When the treasury bubble burst, you will be a very happy man.. Best,

I've put a lot of thought into this.. I like the story and, I like the fact that Im a shareholder in a wonderful business that is an integrated part of the US system.. Im also young and agree with you that BAC could very well be a 20+ CAGR story for many years to come.. (not sure if its such a good thing two young investors agree on this).. I don't have a pre-determined selling price or metric so will just see how the story develops.. "A few really big ideas carry most of the freight." - Munger

Hmmm agree with Moore_Capital54 here, hard to put any value on performance contra aum.. ??? Value focused portfolio 20+%, FX account up 250+% (on very small amount and crazy leverage).. I suggest that next time we put in the generator into the equation as well.. Best,

One should create a latticework of mental models that enhances cognition - munger. There is some real power behind those words. When I started reading investing books, it gave me a good base of thinking, but after a while, the books started to integrate. So I turned to chairman letters ie brk, oaktree, fairfax and they gave me so much more. If I wanted to learn about banking, I red Dimon, if I wanted to learn about risk, I red H.marks. But the reading that really gets you going on the learning curve is company reports. And as Buffett said, read page by page. In the beginning it goes frustratingly slow, but after a while, it goes faster. Now, I start to recognize other companies mentioned in the reports and typical characteristics for that industry, thereby gaining a better understanding of their situation. And the beauty is that as you go, you get better and faster in the selection process and you notice that when the "no"s comes more frequently. I'm 32 so I still have too many good ideas but am sure it will be sustantially reduced over time. Best,

Olmsted, I have been thinking about this as well.. I think it comes down to the "business eye".. Klarman said that he thinks Buffett is a better investor than he since buffett has a better eye for businesses. He has the ability to see these things coming before others, and he stays within that competence circle. Think about it, his biggest mistake was buying BRK when he was young, he would probably not do that mistake today. A collage student asked him how he manage to do a back-on-the envelope valuation in 5 minutes, buffett responded: "well its 50 years of preparation and 5 min of valuation. So I think it comes down to the exponential learning curve and the skills and abilities to get higher up on that curve. Munger has said that people wont believe how much Warren is reading. Best,

MrB, Kraven, Great points! You are right, I took it to the extreme, I realize that now :-[.. but I got a whole lot wiser than I was when I woke up :) Re-reading BRK letter -77 about look-through earnings, the picture became crystal clear. Giofranchi - thanks for input!

I dont understand the logic of using stop loss, before buying the share you commit yourself to sell at a more attractive price. ??? I sell when the story changed or at a rediculous high price. Trading is a different story, then technical data is the main driving force so using stops might help you. Just be aware of the algos that calculate stop levels in the market.

MrB, Excellent point, I agree and you gave great feedback for me to play around with. If I interpret what you are saying correctly then; just as you can't compensate for risk or create MoS by simply increasing the discount rate, you cant define risk of debt in absolute terms since it comes in different forms and variations. giofranchi, many thanks for input and putting value on the table. Kraven You provide very good arguments and I thank you for it. It is a pleasure to get inputs from other angles. That said, you know when Graham said that "investing is most intelligent when it is most businesslike" and then later Buffet said that "these are the nine most important words ever written about investing." Maybe I take this to the extreme but hear me out. I have a company that has cash as an asset (portfolio) and, if I use that asset to buy 100% of a company, it would be natural for both investors and accountants to consolidate that new capital structure into the company. So is it then not logical to think that buying 1% would should create the same pattern, even if accounting states it differently? When I invest, I write down how much my shares generate, ie I own 1/100 and the company earns 100 dollars, my shares generated 1 dollar, regardless of fluctuations in market price and where the price will be year end. I also sum up how much equity in x amount to see how much that is covered from company failure, it would be illogical to leave out the debt since all three financial statements are integrated. I might be wrong, but it helps me to view things as a businessman. Best,

MrB, thank you for your answer. However, I disagree with the notion that portfolio leverage is not akin to company leverage. I view my portfolio as a company and, a share is part ownership of a business, thereby exchanging the net cash for a new constellation of capital structure. So why thinking about this issue, why not stay away from companies with debt? Well, a) I dont like to shrink my universe of opportunities b) using only equity for a company is an expensive form of doing business c) it is a component of RoE, used wisely it allows companies to turn over their assets at a higher rate d) even with a conservative leverage ratio in the company, it magnifies compound interest. I agree that it is probably unanswerable with no universal answer and, that leverage is addictive, but that doesn't necessarily mean that one should only invest in insurance companies or stay away from companies with a debt structure. Packer, thanks for recommending the book, I will make sure to read it, Best,

hmmm.. lets flip the question to another angle.. I understand the concept of good/bad leverage with different risk profiles.. insurance, hedgefund, margin account.. My portfolio is not leveraged. But when I buy into a company, I thereby own a part of the equity, debt and generated cash hence, I write down my share of each category so If the company has 50/50 debt-equity ratio my portfolio will have the same ratio. So when I bought ie BAC with a 10-1 ratio, my leverage in the portfolio went up quite substantially. My question refers to how much leverage in the portfolio do you guys feel would be upper limit, viewed from this perspective, regardless of risk. Best,

I have a question regarding leverage. How much leverage would you consider to be appropriate in a portfolio? It may be an easy answer to many, but Im quite puzzled about this and would appreciate any guidance in the field. Many will simply say that they do not leverage their portfolio, but whenever you buy a stock, you will most likely be exposed to leverage since the investment itself is leveraged. If you use derivatives, you are exposed to leverage due to contract size. BRK has been using leverage through its float, I think over the years it has been 1.6-1 ratio and their subs have leverage and wells has around a 10-1 ratio. Many would argue that it is correlated to risk and asset, but look at what happened with LTCM, the smartest guys with the smartest system, telling people that 6 sigma events were impossible and still they went bust in the end due to leverage. Extremely smart people went broke using leverage, on assumptions based on history and presumed safety of asset. Less risk became coupled with high leverage, but what happens now when risk free return investments became return free risk ??? Best,

Im very surprised to hear this ???.. Im european with many friends all over europe and, I do not recognize what you are implying. And I dont think it is that easy. Europe is the worlds biggest economical power - the worlds biggest spender with more than 2000 year of history, with currently 17 different decision makers, and banks gasping for air... I am surprised that so many underestimate the economical effect on the world if Europe would "fall". Greek default is not the issue, the risk is that the effect will spill over to the whole European union - nothing is stronger than the market. The Germans dont like ECB printing money since they still remember the hyperinflation after ww1, and FED will print money in milton fashion since they still remember great depression. Dont get me wrong, I strongly - with many fellow europeans I might add - believe in the american capitalist model - it works, but would anyone argue that what US is doing right now is solid and reasonable..? The Fed is printing money into oblivion and 100% of gdp revenue goes directly to fund mandatory spending - social security, medic aid/care and, all spending above is borrowed money. And not to forget, spending more than you receive, you stimulate.. You can run this system with to -10% deficit for a while, but when we talk about -20%, its a problem.. no its an enigma! Meanwhile the politicians are driving chicken race with the debt ceiling and the solution is to throw out the steering wheel out the window.. Keynes would turn over in his grave.

I dont think conventional metrics such as p/e, p/b give you that much in terms of valuation. These nrs only tell you what has been put into the company, while value derives from what can be taken out. The law of valuation of any asset, whether its farmland, oil in the ground, a new technology, real estate, is and will always be; the future cash produced from present until kingdom come, discounted at an appropriate discount rate. Ive stopped using DCF since I believe the model is flawed. And last, you can never adjust the discount rate to protect against risk. The risk lies in the probability of losing purchasing power over the contemplated holding period. My two cents,

Thought this was a quite interesting article read, http://www.bloomberg.com/news/2012-06-24/u-s-banks-aren-t-nearly-ready-for-coming-european-crisis.html

Oddballstocks: Many thanks for great input, I salute you for bringing facts and thoughts to the table that changed my mind. What you say makes sense and I feel that I need to refocus the assumptions. Rather than trying to estimate the effects of price fluctuations in all ingredients in a chewing gum and the paper that surrounds it; it's probably better to ask how commodity prices would effect how people chew gum.. Again, many thanks!

Thanks for many good insights.. Biaggio: a case like BAC would demand about 2h-3h/day for two weeks, then thinking about it for another week while reading articles, conf calls, previous deals that went wrong, looking at previous mgmnt statements and so on.. The thing is, to go through BAC 10k page by page is very time-consuming for me... and many times I get stuck, such as when figuring out all the steps in Basel III or determine their NPL's and coverage ratio in reality, not the fictional one stated in their books.. Uccmal: Tnx for inverting the thought process.. A student once asked buffett if its true that he could make a back on the envelope valuation in 5 minutes and he responded in some sort: "well its 5 minutes based on 50 years of preparation". So, I understand the exponential learning curve, my problem is getting there in most efficient matter.. Oddballstocks: The idea with time value in research is brilliant and I have never thought about it in that way.. Many thanks! The inverting process and putting myself as complete owner of the business also helps me in deciding.. The best way would perhaps be to hire an analyst as your counterpart that get his/her compensation if s/he can convince you not to invest.. Viking: I think your process is spot on. Previously I have entered the position in much heavy manner than 2-3%, afraid of loosing too much of my opportunity cost. But I tend to get in too early and then accumulate on the way down.. call it berkowitz syndrome of premature accumulation.. I think it would serve me well to go in your direction of process.. come to think about it, it sounds like Klarman's 20/80 rule: first 20% of your time covers 80% of the analysis.. Val9000: Sometimes I also take the top-down approach.. supply/demand in oil tanker sector is indeed interesting.. (ie frontline: and I think GMO talked about it not so long ago..) Also, the huge supply/demand trend in agriculture is very enticing.. I have yet to find out if this is a better way then reading all comps A-Z.. Kevin4u2: I agree, I have realized that many that I talk to keep telling me old facts.. but I urge them to look into first hand data where it usually states a different picture. I naturally fall into your second category - thinker and overconfident in my ability - but am working hard with discipline to balance it out.. But here is my problem; I hear many talk about circle of competence and margin of safety, but one cannot possibly use a low valuation or a higher discount rate as a margin of safety to allow for this or that scenario or, assuming that something is in the circle of competence when there is a high probability that you at a later stage in life found out that you were way outside. Is Apple in your circle of competence when you later found out other risks that you initially didnt think about, ie that the commodity coltan, used to manufacture capacitors that goes into all the iphones, 80% of world production comes from Kongo, would simply vanish due to a force majeure..? That would have a tremendous impact on apple.. My circle of competence tend to shrink every year, for good or worse.. Im fine with that since it helps in my yes/no decision.. I am quite certain that success do not come from the size of the circle but rather how well you define the parameters.. my problem is defining the parameters..

Hi all, It would be interesting to find out how much of your time you spend on each case before buying it..?? I a) read quarterly reports of the company and competitors b) go deeper into the business structure c) think I have a sense of where the business is going and d) buy it at sensible price.. then constantly monitor downside risk vs upside potential. The a) and b) would take about a week or two depending on the size of the company, then another week for c), then waiting for d) to happen. But would this be enough to justify my purchase?? I am quite worried about Graham's warning - believing you are investing when in fact you are speculating. Take BAC as an example, after much thinking and reading I bought it last year, but I honestly must say that I still cant possibly see all the risks involved in this company. Conventional wisdom would tell me that if you cannot determine future catastrophy risk, the safety of the principal, then it should go into your too-hard-pile.. but the potential risk/reward at that time was just too good to ignore.. So I am just lucky that the price soared after my purchase based on market psychology or on another random event (a speculation) or was it based on skill and time put into the case (investing) based on my a) b) c) d) stated above..? ??? I understand the exponential learning curve making the process go faster, i.e. reading reports on same company (Buffet -IBM) for years and suddenly the correct price appears.. I would really appreciate thoughtful answers on this matter,

Could anyone please explain the logic why Buffett states that it is probably the best measure? ??? Is it because, in overall, the comps cant grow faster than the economy as a whole..? but many of them are global - ie apple - so where does the logic come in to compare an index of international comps with us gnp figures..? Further, over the last 65 years, s&p500 has a higher CAGR (even excluding dividends) than US gdp. Would really appreciate if anyone could provide thoughtful insight into this.

MrB.. I got the data from latest 13F-HR filing.. http://www.sec.gov/Archives/edgar/data/1173334/000119312511310619/0001193125-11-310619.txt...The %age represent the position in the equity portfolio.. not sure about the total aum or how to get hold of it..

shalab.. tnx for telling me.. the dilutive potential common shares are approx 350m which includes options and warrants.. Of the 5bn in cash proceeds to BAC, 2.1 bn was allocated to the warrant.. some of the warrants were included in the dilutive share count and some were not due to antidilutive effect arising from if-converted method.. which basically means that the dilutive effect will variate depending if the warrants are in the money or not..