The King of Lydia

“Count no man happy until he be dead,” said Athenian statesman and poet Solon.

The man to whom Solon gave the advice was the richest man alive at the time (the 6th century B.C.) – the king of Lydia, Croesus.

Croesus considered himself to be the happiest man alive. But he discovered that fortune could turn against you, no matter how rich and powerful you were. His son died in an accident. His wife committed suicide. And he was captured and burned alive by Cyrus, king of Persia.

And now, poor Warren Buffett must be feeling the heat. He’s 84 years old and the most successful investor of all time. Respected. Admired. Beloved, especially by the thousands of people he has made into millionaires. And “as rich as Croesus” himself. Buffett celebrated the golden anniversary of his investment conglomerate, Berkshire Hathaway, last week. And what a success!

 

975px-Honthorst_solon_and_croesus Croesus and Solon , painting by Gerard van Honthorst,  1624

He turned every dollar invested in 1965 into $182,616 today. For 30 years, he never had a 10-year compound annual gain of less than 20%. Over 50 years his compound annual gain has been 21% – or just over twice that of the S&P 500, including dividends.

And now, Berkshire is worth $367 billion and has $195 billion in annual revenues.

If money were what really matters, Warren Buffett would have no peer. He has had unparalleled success in this world; surely he has a first-class ticket to the next. And if his good fortune were of his own making, what would he have to fear?

 

Skill or Luck?

But what if fortune, which smiled on him so broadly for so many years, begins to frown? That idea was raised back in 1984 on another 50th anniversary – the half-century mark following the publication of Benjamin Graham and David Dodd’s classic book on value investing, Security Analysis.

The occasion was used for a debate. On one side was Michael Jensen of the University of Rochester, a leading proponent of the Efficient Market Hypothesis (EMH). (In a nutshell the EMH states that investors can’t get above-average returns without taking above-average risk.)

Jensen argued that Buffett’s success was a matter of chance. On the other side was Buffett… who argued that skill, not luck, was behind his, and a select group of value investors’, impressive track records. Jensen began by pointing out that when you have a nation of coin flippers, a few – by sheer dumb luck – are going to get a long string of heads… and therefore be viewed as “winners.”

Yes, said Buffett, but if all of those who were getting heads were all using the same technique (value investing) it should make you wonder. It would be as though there were a town where no one ever got cancer: You’d want to know what they were having for dinner.

Buffett – who had been a student of Graham at Columbia Business School – attributed his early success to the aforementioned Security Analysis as well as Graham’s 1949 book, The Intelligent Investor. The Intelligent Investor was at least the Old Testament part of Buffett’s investment bible. He was to write the New Testament himself, fulfilling the prophecy laid out by his mentor.

“He who comes after me comes before me,” Graham might have said… had he realized what his young acolyte from Omaha would achieve.

 

JensenMeet professor Jensen, who insists that Warren Buffett just got lucky. It is only marginally surprising that he is a professional economist rather than an investor or an entrepreneur, but one cannot dismiss his ideas out of hand.

Screenshot via georgetown.edu

 

Dating or Marriage?

As Buffett explains in his 50th letter to Berkshire Hathaway shareholders, Graham taught him “cigar butt” investing. The idea was to find troubled companies (with declining margins, an obsolete business model or overhanging litigation)… buy them ultra cheap… and have “one puff” on them as they rose back to fair value. That worked beautifully, for many years.

But then Buffett went beyond Graham. He started to buy the whole cigar company. Instead of just looking at price, as Graham had, Buffett started to look for businesses that had a sustainable competitive advantage.

As Buffett put it, he would rather own a comfortable business at a questionable price than a questionable business at a comfortable price. Crucially, this allowed him to hold his investments for the ultra-long term. As he put it in the recent shareholder letter:

 

[T]hough marginal businesses purchased at cheap prices may be attractive as short-term investments, they are the wrong foundation on which to build a large and enduring enterprise. Selecting a marriage partner clearly requires more demanding criteria than does dating.

 

This focus on quality over price is what turned Berkshire Hathaway into such a money machine for Buffett and his partner, Charlie Munger. For 36 years, the duo tossed their coins and got heads every year.

 

Warren Buffett, Charlie MungerThe lucky coin tossers! Getting heads for 36 years in a row. Somehow, it always seemed their activity was a not-so-random walk down Wall Street. However, things got more difficult for them when the secular bull market was no longer providing a tailwind.

Photo credit: Nati Harnik / AP

 

Moving the Goalposts

But in 2000, the tails began to appear. You may say that Buffett and Munger “changed their strategy.” Or they “made a mistake.” But if their success were based on skill, why would they suddenly forget how to make money?

“Berkshire’s investment portfolio performance has been extremely poor for at least the last 14 years,” writes colleague Porter Stansberry. Between 1970 and 2000, the lowest 10-year annualized return on Berkshire’s investment portfolio was 20.5%.

Starting in 2000, however, the wheels come off. Between 2000 and 2010, the annualized return was 6.6%. And, after never recording an annual decrease in book value, Buffett lost money twice in the 10-year period (2001 and 2008). Relative to the S&P 500, these numbers haven’t gotten better since 2010.

 

In 2011, Berkshire’s portfolio return was 4%. (The S&P 500 was up 2.1%.)

In 2012, Berkshire’s portfolio return was 15.7%. (The S&P 500 was up 16%.)

In 2013, Berkshire’s portfolio was up 13.6%. (The S&P 500 was up 32.4%.)

In 2014, Berkshire’s portfolio was up 8.4%. (The S&P 500 was up 13.7%.)

 

Last week, Buffett moved the goalposts. Instead of reporting Berkshire’s results in terms of book value only, he showed how well the company did in terms of share price. Why he did this is a matter of some controversy. Did he do it, as he claimed, because book value no longer gives an accurate picture of the value of his “sprawling conglomerate”?

Or did he do it because the gods have turned against him; his book value increases have underperformed the S&P 500 for the last 14 years and it is becoming embarrassing? Barron’s offers an opinion:

 

“Buffett probably can be faulted for not being forthright in the letter about the disappointing performance of the Berkshire equity portfolio that he oversees. Of the company’s big four holdings, American Express, IBM, Coca-Cola and Wells Fargo, only Wells Fargo has been a notable winner in recent years. […]

Buffett tends to manage the portfolio’s largest and longest-standing investments. Two managers who help run the rest, Todd Combs and Ted Weschler, have outperformed Buffett in the past few years.”

 

Is that Mr. Jensen we hear laughing?

 

BRK-aBerkshire Hathaway A over the past 20 years. Warren Buffett had a golden touch, but he was certainly helped by the fact that he started out just as the biggest and longest stock market mania in history commenced. Even so, he did beat the market handsomely for quite a long period of time. As Berkshire became bigger, it presumably became harder to achieve the same growth rates as before. The stock trades at a significant premium to NAV, which can probably be ascribed to “widespread faith in Warren” – via StockCharts, click to enlarge.

 

Image captions by PT

 

The above article is taken from the Diary of a Rogue Economist originally written for Bonner & Partners. Bill Bonner founded Agora, Inc in 1978. It has since grown into one of the largest independent newsletter publishing companies in the world. He has also written three New York Times bestselling books, Financial Reckoning Day, Empire of Debt and Mobs, Messiahs and Markets.

 

 

Emigrate While You Can... Learn More

 


 

 
 

Dear Readers!

You may have noticed that our so-called “semiannual” funding drive, which started sometime in the summer if memory serves, has seamlessly segued into the winter. In fact, the year is almost over! We assure you this is not merely evidence of our chutzpa; rather, it is indicative of the fact that ad income still needs to be supplemented in order to support upkeep of the site. Naturally, the traditional benefits that can be spontaneously triggered by donations to this site remain operative regardless of the season - ranging from a boost to general well-being/happiness (inter alia featuring improved sleep & appetite), children including you in their songs, up to the likely allotment of privileges in the afterlife, etc., etc., but the Christmas season is probably an especially propitious time to cross our palms with silver. A special thank you to all readers who have already chipped in, your generosity is greatly appreciated. Regardless of that, we are honored by everybody's readership and hope we have managed to add a little value to your life.

   

Bitcoin address: 12vB2LeWQNjWh59tyfWw23ySqJ9kTfJifA

   
 

3 Responses to “Warren Buffett – Lucky Coin Flipper?”

  • HonestlyExpressingYourself:

    great article. Good to see someone questioning the ‘sage of omaha’. although I’m sure there was skill involved in his success, there was certainly some luck also: timing was one thing he got lucky. Taking his long-only, bullish approach to stocks if he’d started his career pre-1929 he’d probably have been wiped out like his mentor Graham and become much more cautious like him as a result. In addition, his buy and hold long term approach does not provide enough data points to be sure it wasn’t at least partly luck. if his strategy involved hundreds of buy and sell decisions each year, the law of large numbers would state it was highly unlikely to be luck. but with so few trades it’s less convincing. E.g. how much
    having said all that, he’s definitely a great investor but agree a little more honesty on the performance of recent years would be welcome.

  • RedQueenRace:

    I first saw the “coin flip” explanation for the super successful traders in “The Money Game.” It’s as wrong now as it was then because

    1) The market is not a double-elimination contest with winners’ and losers’ brackets.

    2) The amount that can be won and lost on each trade is usually not the same and varies from trade to trade.

    Despite his folksy image Warren is a shrewd and ruthless businessman who is well-connected and able to negotiate sweetheart deals that are simply not available to the ordinary public investor. His IBM buy was a real head-scratcher though.

  • jks:

    The real Warren Buffet was kidnapped and perhaps killed some time ago and replaced with this statist-spewing crony-capitalist imposter.

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • The Gold Debate – Where Do Things Stand in the Gold Market?
      A Recurring Pattern When the gold price recently spiked up to approach the resistance area even Aunt Hilda, Freddy the town drunk, and his blind dog know about by now, a recurring pattern played out. The move toward resistance fanned excitement among gold bugs (which was conspicuously lacking previously). This proved immediately self-defeating - prices pulled back right away, as they have done almost every time when the slightest bit of enthusiasm emerged in the sector in recent...
  • Monetary U-Turn: When Will the Fed Start Easing Again? Incrementum Advisory Board Meeting Q1 2019
      Special Guest Trey Reik and Board Member Jim Rickards Discuss Fed Policy On occasion of its Q1 meeting in late January, the Incrementum Advisory Board was joined by special guest Trey Reik, the lead portfolio manager of the Sprott Institutional Gold & Precious Metal Strategy at Sprott USA since 2015 [ed note: as always, a PDF of the complete transcript can be downloaded further below].   Trey Reik of Sprott USA.   Also at the meeting, Jim Rickards, who is inter...
  • Watch Europe - Free Pass for the Elliott Wave European Financial Forecast
      Europe at an Important Juncture European economic fundamentals have deteriorated rather noticeably over the past year - essentially ever since the German DAX Index topped out in January 2018. Now, European stock markets have reached an important juncture from a technical perspective. Consider the charts of the Euro-Stoxx 50 Index and the DAX shown below:   The Euro-Stoxx 50 Index already peaked in early November 2017, the DAX followed suit in January 2018 – such divergent peaks...
  • Why Warren Buffett Should Buy Gold
      Riding the Tailwinds of Fiat Money Inflation to Fame and Fortune Warren Buffett bought his first shares of stock when he was 11 years old.  He saved up $114.75 and “went all in,” purchasing three shares of Cities Service preferred stock.  The day was March 11, 1942 – nearly 77 years ago.  Buffett recently reminisced about this purchase in his annual letter to shareholders:   “I had become a capitalist, and it felt good.”   The Oracle of Omaha – he was...
  • Fake Money’s Face Value Deceit
      Not the Brightest Tool in the Shed Shane Anthony Mele stumbled off the straight and narrow path many years ago.  One bad decision here.  Another there.  And he was neck deep in the smelly stuff. These missteps compounded over the years and also magnified his natural shortcomings.  Namely, that he’s a thief and – to be polite – a moron.   Over-educated he ain't: Shane Anthony Mele, whose expressive mug was captured by a Florida police photographer first in...
  • Rise of the Zombies - Precious Metals Supply and Demand
      Rise of the Zombies - Precious Metals Supply and Demand Last week, the prices of gold and silver fell $35 and ¢70, respectively. But what does that mean (other than woe unto anyone who owned silver futures with leverage)? The S&P 500 index and the euro was up a bit, though the yuan was flat and copper was down. Most notably, the spread between Treasury and junk yields fell. If the central banks can lower the risk of default premium, they can make everything unicorns and...
  • Bitcoin Bottom Building
      Defending 3,800 and a Swing Trade Play For one week, bulls have been defending the 3,800 USD value area with success. But on March 4th they had to give way to the constant pressure. Prices fell quickly to the 3,700 USD level. These extended times of range bound trading are typical for Bitcoin Bottom Building in sideways ranges. This 60 minute chart of Bitcoin shows (represented by the yellow candlestick wicks) how the bulls defended 3,800 USD :   BTCUSDT 60 minute chart...
  • The Magic Doesn't Always Work - Precious Metals Supply and Demand
      The Week Ends with a Surprise The weekly closing prices of the precious metals were up +$5 and +¢11. But this does not tell the full story of the trading action. Prices were dropping until Friday. More precisely, Friday 8am in New York, or 1pm in London.   Gold and silver - back in demand on Friday... [PT]   At that moment, a light cabal conspiring to jack the price struck traders began buying. The end result was the prices, especially of silver, rose on the day...
  • Intraweek Profit Opportunities
      In 6 of 10 Countries a Single Day Outperforms the Entire Week! In the Seasonal Insights issue of 13 February 2019 I presented a study illustrating the power of intraweek effects. The article was entitled “S&P 500 Index: A Single Day Beats the Entire Week!” The result of the study: if one had been invested exclusively during a single day of the week since 2000  – namely on Tuesday – one would have outperformed a buy and hold strategy, beating the broad market. Moreover,...

Support Acting Man

Item Guides

Austrian Theory and Investment

j9TJzzN

The Review Insider

Archive

Dog Blow

350x200

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

Mish Talk

 
Buy Silver Now!
 
Buy Gold Now!