I recently came across an excellent in-depth interview of The Snowball by Alice Schroeder. For those of you who need a quick refresher, The Snowball is “the” biography of Warren Buffett. It is an amazingly detailed, meticulously researched, and solidly written book that gives an intimate glimpse into the personal and professional life of Warren Buffett. I once made the mistake of giving it as a gift to a friend who had not interest in business and he didn’t make it past 20 pages. However, if you enjoyed The Snowball and appreciate all things Buffett and Berkshire Hathaway, you’ll love this interview. Here are a few curated excerpts of my favourite parts of the interview (as the full interview is extremely long – apparently snippets of my favourite parts has turned out pretty long too). Read the full interview here.
The Depth of Research
Even once inside a person’s world, getting to know their life history and psyche takes years, and that’s even more true of an important public figure because they’re so self-protective. Warren is so remote that his inner world has been accessible only to a tiny handful of people over the course of his lifetime, even though so many people are acquainted with him and consider him a friend. That makes it all the more unusual that he made himself world accessible to me and wanted me to write about him.
He spent a huge amount, I’ve estimated 2,000 hours, of concentrated time with me, and through this direct experience I gleaned impressions of him. These could be compared to his own self-perception, to the impressions of hundreds of other people whom I interviewed, and to the documented history of his life as contained in his papers and letters and photographs from more than 70 years of collected material.
Nobody who has ever known him has had this 360 degree perspective. There are people who know more facts about him, but nobody else has a well-synthesized a view. I probably know him better than anyone, in this objective sense.
The Difficulty of Valuing Berkshire
Warren always said he revealed everything investors needed to know from his financial statements, but that was not the perspective of many analysts. I find it interesting that Buffett has criticized Wall Street for being over-dependent on private information from management. When I started taking Berkshire’s public disclosures and merging them with my earnings model on General Re, I quickly learned what so many people already knew, which is that investors had been struggling for years trying to value Berkshire. I ultimately based my valuation on three things: insurance, the group of other little businesses, and the publicly traded investment portfolio. I just started putting it together. There really was not a lot of information to do a detailed valuation and frankly there is still a lot of ambiguity. But I assumed that anything would be value-added to investors versus what they had, and that turned out to be right.
As an aside, at the time and continuing to this day, it’s not uncommon for money managers who are vocal champions of Berkshire’s attractiveness as an investment in public to take me aside in private and wring their hands over the problem of how you value Berkshire stock, and whether it is over- or under- or fairly valued.
People get stuck in this position because they trust Warren philosophically, and they believe the empirical track record, yet, for lack of information, they’re prevented from living up to the professional standards of analysis that that they apply to their other investments and that Warren applies to his own investments. As security analysts, this makes them uncomfortable.
Warren has always had the attitude that investors should trust him enough to let him operate in privacy. People were fine with that for a long time, and were rewarded for their trust. As he’s gotten older, they’re less fine with it, which is reasonable.
Why Warren is Different
He’s more interested in money, for one thing (laughs).
In terms of how that affects his investing behavior, number one, in his classic investments he expends a lot of energy checking out details and ferreting out nuggets of information, way beyond the balance sheet. He would go back and look at the company’s history in depth for decades. He used to pay people to attend shareholder meetings and ask questions for him. He checked out the personal lives of people who ran companies he invested in. He wanted to know about their financial status, their personal habits, what motivated them. He behaves like an investigative journalist. All this stuff about flipping through Moody’s Manual’s picking stocks … it was a screen for him, but he didn’t stop there.
Number two, his knowledge of business history, politics, and macroeconomics is both encyclopedic and detailed, which informs everything he does. If candy sales are up in a particular zip code in California, he knows what it means because he knows the demographics of that zip code and what’s going on in the California economy. When cotton prices fluctuate, he knows how that affects all sorts of businesses. And so on.
The third aspect is the way he looks at business models. The best way I can describe this is that it’s as if you and I see an animal, and he sees its DNA. He isn’t interested in whether the animal is furry; all he sees is whether it can run and how well it will reproduce, which are the two key elements that determine whether its species will thrive.
I remember when his daughter opened her knitting shop. Many parents would say, I’m so proud of Susie, she’s so creative, this is something of her own, maybe she can make a living at it. Warren’s version is, I’m so proud of Susie, I think a knitting shop can produce half a million a year in sales, they’re paying whatever a square foot for the storefront, and labor is cheap in Omaha. It was similar when Peter was producing his multimedia show, The Seventh Fire. Many parents would say, wow, my son has pulled off a critically acclaimed show. Warren obviously thought that, but what he articulated was, they’re charging $40 a ticket, I think the Omaha market is too small for that price point, whereas in St. Louis they may cover the overhead, and I think he paid too much for the tent because the audience doesn’t really care what kind of tent it’s sitting in and it hurts margins, etc. etc.
Buffett’s Legendary Mind
You can tell he’s not ordinary by reading anything he’s ever written. I knew right away he was a legend. It was also apparent at our first meeting how different he was. I took a list of 60-some-odd questions that should have filled several hours of conversation. We sat on his Gulfstream flying to Omaha and he sliced through those questions in about 45 minutes in between mouthfuls of potato chips. I had to improvise, which was terrifying at the time. It was my first encounter with what conversing with him was like…
When he opens his mouth it just comes through. His way of articulating ideas is very original. He is a great synthesizer and especially strong at pattern recognition. He’s also able to follow what I would call it decision trees and figure out probabilities in his head at an astonishing pace.
So when you are in a conversation with him, he has worked out many of the directions in which the conversation can go, the likelihood of each, and how he wants to manage his end of it. He’s reading you emotionally too. You recognize that right away in a conversation with him. You realize he’s many moves ahead of you on the chess board. It is eerie, but also fascinating.
You also can see how unusual he is because he’s a great teacher. If you ask him questions he loves to convey the things he’s learned…
You’re sitting there talking about something like “Isn’t it amazing that after Jack Welch left GE, the company started having all these problems because of buried accounting issues?” and he will say, “Yes, that’s like …” and pull a company from 30 years prior and start spouting numbers. Then he will pick another more recent company, and another.
He has accumulated a filing cabinet of knowledge about companies, and it’s very big. Part of his teaching style is to have certain examples at the ready.
How Warren Developed his Mind
Well I think there are things you can do to improve recall. But there is something to be said about being born with a prodigious memory. It seems to me that there are 3 qualities of great investors that are rarely discussed:
1. They have a strong memory;
2. They are extremely numerate;
3. They have what Warren calls a “money mind,” an instinctive commercial sense.
Warren is all of these.
By numeracy I mean an excellent recall for numbers, fast mental arithmetic skills, and preferably, an intuitive grasp of the time value of money, intuitive enough that you don’t necessarily need a calculator to do basic calculations…
The money mind is far more important than the others.
Warren’s skills as an investor have often been compared with a musician, and I think that’s exactly right. The “money mind” is an instinct, almost a sixth sense, of sniffing where there is an opportunity to make money and knowing how to exploit it. Somebody who is starting businesses when they are six years old is different than the average kid. When you apply focus (which he often talks about) to those three qualities then your skills as an investor are turbo-charged…
I have had many conversations with him about this. He thinks it’s innate. There are people who just naturally gravitate towards activities that make money. That’s not a value judgment. Something else might be more socially useful. However, I also believe the average person can be trained to become much more “money aware.” You can train yourself to do an amazing amount … to go from being average to becoming good. But you will have to work at it in a way that someone like Warren will not.
Susie Buffett’s Emotional Intelligence
My first interview was that conversation on a NetJets plane in 1998, flying to Omaha with him and Susie.
Susie sat in the back of the plane and read magazines the whole time. She was obviously irritated at him. This side of Susie came out very, very rarely, but if she saw Warren showing off in front of a woman, that could trigger it. And Susie dealt with it fabulously, very gracefully, letting him know in multiple nonverbal ways that he was irritating her. Susie was an unusual person whose emotional intelligence was off the charts.
How the Book got Started
In 2003 I had been following Berkshire for 5 years. I had been an analyst for 10 years, and the job was getting a lot less fun during the Spitzer era. I was thinking about starting a boutique research firm. I was talking within Morgan Stanley about moving into management. I was also contemplating doing something completely different.
There were two threads that merged. One was that an author contacted me with an idea for a book about Buffett. I didn’t love this author’s particular idea, but it got me thinking more about the subject of what books should be written about him. There were so many books trying to describe how Buffett invests, but there was nothing, really, that combined his management and business philosophy with a fairly comprehensive account of his own biographical information. There was no “biography of ideas.” I wasn’t really thinking about writing a book; I called him and told him about this book suggestion and said I thought he should write it.
Warren replied that he liked the idea but that he would never write a book, and asked me who else I thought could do it. I said Carol Loomis, and he said Carol is not going to do it. He asked me again, “Who else do you think could do it?”
Then comes the second thread, but only retrospect did it make sense. Warren, ever since 9/11, had periodically mentioned that he liked the way I wrote and thought I should quit my job and write a book. I realize now that this started right after the death of Katherine Graham. Warren viewed Personal History as a seminal episode because it defined her in the public’s mind. When Kay died it brought him to the conclusion that the subject has to get on with it if such a book is to be written…
Warren kept referencing Iacocca’s biography and Kay Graham’s. He loved Iacocca’s book and, in fact, started shoveling biographical material at me immediately. There were a lot of stories he had been saving for “the” book. Some of the material was very personal and revealing, including the mental illness in his family and his shoplifting as a child. Sources who had never spoken to anyone came forward because this was “the” book. Warren said he wanted to reconcile his public and private selves. It was the right thing to do, revealing the source (and wellspring) that forged Buffett.
He was very clear from the very beginning that he did not want any editorial involvement. That it was my book. He did not want to have any control and he wanted me to write whatever was best in my judgment. He explicitly said, as I wrote in the first few pages of The Snowball, “Use the less flattering version’’ if his version differed from anyone else’s.
Warren wanted a successful book that would be credible enough to sell well. In a sense, he also didn’t trust himself to write it. I have an interesting interview recorded of him insisting that I will do a better job of the book than he would.
He also knew if he got involved, a publisher might market the book as if he were the co-author or as if it were ghost-written, and he wanted the boundary very clear that it was not his book.
Interviewing Buffett’s Inner Circle
It was so repetitive that I could tell that some of these people had been interviewed so many times before and spent enough time talking to each other that it had a sometimes rehearsed quality.
Wit, loyalty, & honesty were the 3 qualities that were cited over and over.
He’s extremely witty. He can knock out a one-liner every few seconds. One of the nicer aspects of being around him is the easy humor of the conversations. I tried to include as many quotes as I could in The Snowball so that readers could get a sense of what a terrific conversationalist he is. When Michael Lewis reviewed The Snowball in The New Republic magazine, his conclusion from reading these quotes was that “Buffett is incapable of being dull,” which is so true.
In terms of loyalty, Buffett cherishes relationships and has gone to a lot of effort to maintain contact with old friends. Far more so than the average person does. He told me once that his mother got more than 65 birthday cards on her 65th birthday. This was a real point of pride. There’s an element of the collector that comes to the forefront in his loyalty about people. It’s not dissimilar to the way he views the companies Berkshire owns as paintings in a museum.
He’s almost painfully honest at times. Yet some people I interviewed belabored his honesty beyond the point that made sense. They would belabor it to such a degree that you began to realize they held some specific concerns in this area. Eventually it became clearer that this had to do with the incidents in his life where he has been ruthless. I included some representative examples in The Snowball, but space allowed only a fraction to make it into the book.
Look, he’s allowed to be human. He’s a decent, honest, admirable person of integrity who’s accomplished magnificent achievements. That should be enough. Surely people realize that he didn’t get where he is by running a philanthropic institution. But some who are loyal to Warren equate loyalty with portraying him as infallible. Those two things are not the same. It’s not necessary at all to pretend that someone is infallible in order to be loyal and admire them. I found in the case of Warren Buffett that there were people who genuinely believed that if they admitted any imperfections in him, it would make them disloyal.
Clarity When Looking at Investments
One trap is not probing deep enough to really answer whether a particular investment opportunity is a good business. It’s easy to make a facile judgment about that based on a summary description of a business.
The sheer breadth of different business and investment opportunities in a modern capital market creates an overflow of information that leads many investors to have short attention spans in thinking about companies comparatively. Curiosity is an inherent kind of arbitrage that no amount of computer technology can overcome.
Warren makes it sound so simple to know what is and is not a truly good business – and great business do resonate very clearly when you understand why they are great and especially when they’ve been identified as successful investments by an investor like Warren Buffett and proven so with hindsight – but like many things in investing, Buffett makes it sound easier than it is. When it comes to appreciating something that is special about a business that others do not, I’ve learned that the devil really is in the details.
Getting to Truly Know Warren
As you get to know someone over time by spending days on end with them sitting in their office watching them, you begin to see the real person. I got to know him and understand his mind in business and investing by writing The Snowball. I saw him interacting with his family, his friends, managers, his office staff, and of course, myself. I saw him in all kinds of moods.
It was eye-opening to watch Warren dealing with celebrities. He’s expert at it, yet occasionally some weird thing happens. There was one funny episode, for example, when he invited Sophia Loren to the shareholder meeting as a celebrity guest. He was surprised, and a little insulted, when she wanted to be paid to attend. I mean, in his mind, who wouldn’t want to attend his shareholder meeting? So throughout all of these interactions I saw the different aspects of his personality emerge.
An Ordinary Day for Buffett
He comes in the morning and his routine is to switch on CNBC with the sound muted and start reading while glancing at the crawl from time to time. The wooden shutters on the windows are always closed. You get no sense that a world exists outside, which is what he wants, no distractions. As far as I can tell, he doesn’t need sunlight.
He is already pretty well versed on the news by the time he gets in, through the Internet and television. But he still prefers newspapers. He reads the WSJ, NYT, Financial Times, Washington Post, the Omaha World-Herald. He reads some offbeat things like the NY Observer. He reads all sorts of trade press relating to the different businesses that Berkshire runs. American Banker, Oil & Gas Journal, A.M. Best, Furniture Today. There are stacks of reports from the different BRK subsidiary companies on his desk. Throughout his day he grazes through the reading pile.
Meanwhile he talks on the phone. He doesn’t make a lot of outgoing calls; people call him. That’s his day… most of the time.
People do come to visit him and he’ll sit and spend an hour with someone or have lunch or dinner. A lot of days he doesn’t have anything on his schedule. His interaction with managers is minimal. Some of them call him regularly, but he’s not kidding when he says that others, he speaks to maybe a couple of times a year, or they communicate in writing. He responds if they call him. He almost never calls them. If they call him he’ll be very agreeable and talk but he keeps the conversation quite short. When they do call, he acts as a sounding board. The one thing he controls is capital decisions. But anything else, it’s pretty much up to them.
He is a very good listener who gives excellent advice, and he’s also pretty firm about not giving unasked advice. The managers vary in their desire (for asking for advice). The ones that do ask use words like “invaluable” to describe his advice.
Within headquarters he has low interaction with his staff other than with Debbie and the other secretaries. He talks to Marc Hamburg (the CFO) regularly, although not necessarily daily. He talks with his the bond trader. These conversations are very brief. You’ll notice this is a running theme… while he does have long conversations, it’s only with a few friends and only on occasions of his choosing.
In the office, he knows everyone’s name and occasionally walks down the hall and says hello to people. He is the furthest thing from a walk-around manager, though. He stays in his office (he is at one end of the hall) and everyone else sticks to their end.
Understanding Warren’s Writings
Something to keep in mind is that Warren is extremely precise and literal in what he writes and says. You can tell this from reading his writings closely, but it was even more interesting to watch him create them in real time. It’s unwise to read more into his words than is there. It’s equally unwise to assume that everything you might want to know has been said.
The Depth of Research Involved
As he gave me more biographical information, I discovered more sources to interview, many suggested by him. So, as I got to know him better, I tended to reorganize and restructure the book to mesh with his personality and my advancing knowledge of him. You have to understand that I did most of the writing in the last 2 years. I was doing mostly research the first 2 years.
There was a critical path that very much influenced the process, of course. He was obviously the scarcest resource. So I interviewed him as much as I could and as quickly as I could for a year and half.
The second-scarcest resource was access to his files — so I went to that right away simultaneously while interviewing him.
The third was people in his life who were very elderly. In a sense I used the actuarial tables for guidance on when to interview people. I started with people over age 95, 90…and I worked my way down – but I still missed some people.
It was too bad because there were people who were already deceased or in dementia, and I didn’t get to talk to them and missed getting to know them. One of the joys of this book was getting to know so many amazing people, and especially, spending time with wise elderly people. But I managed to get most of the key sources, and I felt it was appropriate to focus on them first, because, today, many of them are no longer around or aren’t in a position, physically, to provide the kind of insight into Warren Buffet that they so generously did when I was writing the book.
I was still doing bits of research until right before the book was published, which is standard in journalism. As the emphasis switches from initial digging to fine-tuning, it goes from 80-20 research versus writing to 20-80. It’s not unlike researching a stock, really.
Insights Exclusive to The Snowball
This was some of the “new news” in The Snowball. For example, his relationship with his parents and the role of mental illness in his family shaped his character and his whole career.
He’s cautious and non-confrontational. He’s wary of extremes in all forms. He’s insistently reluctant to criticize anyone and hypersensitive to criticism himself. He needs to be liked and needs approval, but paradoxically is not a people-pleaser. He’s demanding of himself and has very high standards. He’s very oriented toward security … hyper-aware of risk. He’s got a keenly honed sense of justice, but isn’t one to fight for it in an overt way; he can be timid when called upon for moral courage. He’s uncommonly clever at finding pragmatic, indirect solutions to problems, usually multiple problems taken care of by one solution. You can take those traits and look at his career and find strands of them everywhere.
His relationships with women provide the most important window on his character. Susie had a very strong impact on his business career because she enabled him socially to overcome his shyness and get around in the business world. He has credited Dale Carnegie, but to fully understand the magnitude of her influence you have to carefully read the formative events in his life that involved her, something I went through in some detail in The Snowball. Warren’s relationship with Susie is as clear a window into who he is, his traits and temperament, as any other.
His hard work in the social area to overcome his natural awkwardness is what enabled him to get past the front door with Katharine Graham. If you look back on his career and think of all the things that happened to him that wouldn’t have had Kay Graham not entered his life, it’s immense.
You can never know what the other path would have been, because he is obviously brilliant, and other good things would have happened. But his Washington connections, media connections, all of these different things led to many of his investments, and his pleasures in life, and they originated from Katherine Graham. Given his strategic way of thinking, it’s not surprising that he arranged to get exposure to her.
Even the GEICO investment was influenced by Katherine Graham. She introduced him to Jack Byrne. He made his decision to invest in GEICO partly because he thought Jack Byrne was the right person to be the CEO.
Buffett the Great Teacher
Well, first, it is that he enjoys teaching and, second, that he has worked hard at learning communication skills and specifically learning to communicate as a teacher. So he knows how to order material, how to tell stories, he knows how people process information.
It’s also, I think, a valuable insight that teaching is one of his preferred modes of talking to people much of the time. You could almost call it his default mode. And that the value, influence, and trust he built by being such a memorable teacher of investing, business, and life in his public communications was, from a relatively early period, a very important ingredient for his tangible business success.
This began as early as high school, but was crucial to running the Buffett partnerships and later Berkshire Hathaway. I think this point is actually still quite underappreciated among even his most obsessive followers.
Warren the Great Communicator
You see that he uses very short parables, stories, and analogies. He chooses key words that resonate with people —that will stick in their heads, like Aesop’s fables, and fairytale imagery. He’s good at conjuring up pictures in people’s minds that trigger archetypal thinking. It enables him to very quickly make a point… without having to expend a lot of verbiage.
He’s also conscientious about weaving humor into his material. He’s naturally witty, but he’s aware that humor is enjoyable and disarming if you’re trying to teach something.
Well I wrote about the bathtub memory in the book. If something is unpleasant, it goes down the drain. He also retains a sort of DVD of events in his head.
If there is new information the old version gets overwritten. It’s gone. He remembers stories and certain facts, and the rest is discarded as if for efficiency or comfort.
So let’s say he is at a party. There will be 2 things he remembers. He will remember that Carol Loomis wore a yellow dress and that somebody else told him a certain joke. That is all he will remember. It’s as if the rest disappears. Sometimes he’ll remember more if prompted, but there’s not much fuzziness. Either he remembers something or he doesn’t.
Then, if it turns out the joke was a different one than he thought, it’s as if he never heard of the first joke.
That is not to say he believes his own memory is infallible. He’s keenly aware of how stories are transmuted through the telling. He was very clear (and upfront) with me about this in the beginning. One reason he said, “Use the less flattering version,” is that he thought other people might remember things better than him.
Buffet’s Weaknesses as an Investor
It’s as if large amounts of money paired with limited risk can overwhelm his peripheral vision. So if there’s is a disproportionate opportunity to make money in what is a superficially a protected way such as through a preferred stock where your downside is limited, he doesn’t blink at things that would normally give him pause.
He did this with US Air and Salomon Brothers. You could also argue Goldman Sachs convertible preferred and USG were hardly typical investments.
Second, sometimes he will decide on some theory upon which he wants to invest in something even if it’s not an obvious barn burner in terms of financial aspects.
BNSF is an example. You have people championing this for all sorts of reasons, but certainly it did not meet his normal investing metrics. That doesn’t mean it was a mistake, but it may be a good investment for different reasons than people think.
Sometimes he falls in love with people and invests accordingly or, worse, falls in love with people because they’ve sold him their companies. He fell in love with John Gutfreund at Salomon, and with Ron Ferguson at General Re. Among others.
Lastly, he clearly has a blind spot when it comes to anything that flies and has wings…
He has invested 3 times in aviation: Pacific SW Airways, USAir, and NetJets. These have ranged from near-misses to disasters. He hasn’t had good luck with aviation. He’s called himself an Air-a-Holic. It’s a weird little quirk to see this in somebody that you think of as super-rational.
Thoughts on Brands and Moats
I think Buffett’s consumer plays have been overrated as a theme. He likes good companies with enduring business models. Many happen to have been consumer companies. He got intrigued by the idea that a brand could be a very enduring asset. Then he was surprised at how quickly the value of brands eroded in the 1990’s. Brands with true “moats” are exceedingly rare. Of course he wants one when he can get it, but these companies usually also are expensive.
Buffett and Macroeconomics
Buffett is keenly aware of the economic cycle and relevant data. He uses economic data to put context around what is happening in specific businesses. Meaning that it lets him visualize macro-risks at the company-specific level. Second, macro data signals to Buffett where Mr. Market is going awry, for example, what parts of the stock market might be fertile digging grounds.
For example, he knew to some degree that we were in a bubble in the past few years (leading up to 2008) because you could do some statistics that would show corporate profits being at unsustainable levels and housing growth exceeding demographics to a ridiculous degree. He didn’t get into the mortgage business, although you’d better believe, people were showing up on his doorstep urging him to do it with all sorts of apparently lucrative deals. The economy is context.
The Importance of History
History was one of Warren’s best subjects even when he was very young (in school). He has a liking for it. But at the same time pattern recognition is one of his primary skills and perhaps his greatest skill. So in terms of data points, unlike many people who learn by seeking information on an as-needed basis, Warren is always looking for fuel for pattern recognition before he needs it.
He’s always looking for context. Having an interest in a broad sweep of history provides vast context for making many decisions because it enables analogies. And that I think has been very helpful for him in avoiding fallacies such as “This time it’s different.”
It allows him to make analogies between industries, for example between the internet/dotcom stocks and early auto stocks, as in the speech he gave at Sun Valley that is described in The Snowball.
Pattern Recognition Skills
Take this example. If you look at the dotcom stocks, the meta-message of that era was world-changing innovation. He went back and looked for more patterns of history when there was a similar meta-message, great bursts of technological innovation in canals, airplanes, steamboats, automobiles, television, and radio. Then he looked for sub-patterns and asked what the outcome was in terms of financial results.
With the dotcoms, people were looking to see what was different and unique about them. Warren is always thinking what’s the same between this specific situation and every other situation.
That is the nature of pattern recognition, asking “What can I infer about this situation based on similarities to what I already know and trust that I understand?” There is less emphasis on trying to reason out things on the basis that they are special because they are unique, which in a financial context is perhaps the definition of a speculation. (Warren is not averse to speculation, by the way, as long as it’s what he calls “intelligent speculation,” meaning he’s got long odds in his favor.) But pattern recognition is his default way of thinking. It creates an impulse always to connect new knowledge to old and to primarily be interested in new knowledge that genuinely builds on the old…
This is a great segue. Pattern recognition skills are worthless if you invent patterns that aren’t there. My one really difficult experience as an analyst was at PaineWebber during the dotcom bubble. It was like bullishness was a drug poured into the NYC water supply. Everyone believed. The idea that investment banking pressure was solely responsible for the Internet bubble has been overplayed. We were a wirehouse, and we drank the Kool-Aid just like everybody else.
People think Wall Street was cynical; there was less cynicism than history has recorded. Largely, the predictions about the Internet’s transformative power were true. There just wasn’t a lot of money in it for investors. Which is another favorite theme of Warren’s. The futility of standing on tiptoe at the parade.
I recommended insurance stocks when they looked moderately priced, and then followed them all the way down to dirt cheap. Nobody wanted to buy anything real. My stock calls were mostly awful, and they would have been awful no matter what I picked unless I had said to sell the whole group. It’s that difference between stock-picking and investing.
Somehow, Warren was able to ignore the whole thing. People sometimes speculate that he is emotionless, and I’m frequently asked if he is autistic. He’s certainly not emotionless, but his emotional pendulum swings in a very narrow arc except on those rare occasions when something personal has deeply upset him. While he does use rules to make decisions, it’s key that he’s detached and not temperamentally excitable to begin with.
On business matters, his steady pulse is helped by his exceptional skill at reading other people’s emotions. He reads people in a conscious manner that could be the result of self-training to recognize ”emotional tells”; even so, he’s remarkably fluent at it. If this skill could be bottled he could sell it for an awful lot of money.
Temperament is innate, but I would argue that anyone can focus on modulating their temperament within whatever band they have to work with. Anyone can work at being better at reading other people’s emotions.
Things that Surprised Schroeder
For example, he recognizes square roots and sometimes cube roots of very large numbers; which is slightly unnerving, especially when he starts telling you the square and cube roots of license plate numbers.
It’s something he does as a mild form of entertainment while driving.
More unnerving is that he remembers conversations that he has with you better than you do. I don’t know if you’ve ever been in that situation – where you realize the other person has asked you the same question some time ago. When Buffett does that, it’s often a test. He will ask very probing and penetrating questions and then 2 months later he will ask again and you know he remembers the exact words you said. It can feel a little like getting deposed, and it’s a bit spooky to have a human tape recorder sitting in front of you. He doesn’t have a photographic memory, but sometimes it feels close enough. And of course, he’s reading you emotionally at the same time, and you know it.
Please understand, this only happens occasionally. Most conversations with him are really enjoyable because they’re full of witty repartee and a download of information from his unusual brain.
Other interesting situations: I have seen him make his famous 5-minute decisions on the phone. Five minutes is the outside amount of time it takes him to make a decision. If the person can be succinct and convey the salient points in 60 seconds he’ll say, “Yes” or “No” in 60 seconds.
The time is determined by how long it takes the person to convey the salient points, not how long it takes him to think about it. It’s virtually instant once he has grasped the 2 or 3 variables or points that are important to him.
Typically, and this is not well understood, his way of thinking is that there are disqualifying features to an investment. So he rifles through and as soon as you hit one of those it’s done. Doesn’t like the CEO, forget it. Too much tail risk, forget it. Low-margin business, forget it. Many people would try to see whether a balance of other factors made up for these things. He doesn’t analyze from A to Z; it’s a time-waster.
Lastly, the speed of thought is so startling. Remember the 60 questions I started with the first time I interviewed him, which he covered in 45 minutes or so.
He later took me to Nebraska Furniture Mart carpet warehouse and started quoting how many yards they sell of each type of carpet each week and at x price and it costs y amount a yard and we mark it up at z. He was sprinting through the carpet warehouse pointing at roles of carpet and telling me which ones sell at what price.
I jogged alongside him with my jaw dragging behind me on the floor in disbelief.
I used to spend 4.5 days a week in Omaha, and I would be so wrecked by the time I got home it was unbelievable.
I thought it was me; then, when I started interviewing other people who are his friends and colleagues, they would tell me that they also needed time to recuperate after seeing him. Or that they could only take him in doses of 2 hours at a time.
They all like him, but it’s so intense to have someone racing ahead of you mentally and you are trying to keep up.
This is clearly one reason for his bond with Bill Gates. They don’t have to wait for each other to catch up.
Buffett’s Encyclopedic Knowledge
I don’t want to dispel any notion of his intuition. But he has internalized so much information over the years and uses so many mental models (to quote a Mungerism) that they have coalesced into an almost visceral reaction to an investing situation. And this is what you strive for. It’s not mystical, even if you can’t verbalize your analysis. Much of his decision-making has sunk to almost the unconscious realm, it is so refined.
Part of his skill and speed comes from a complete unwillingness to overpay for anything, which I think, is innate or formed in him by the time he very young. When he spots something it’s like a siren goes off telling him its overpriced (either quantitatively or qualitatively).
We would kick around insurance pricing at different times. He would say, “How much would you pay to write terrorism risk on this building from now 2002 until 2012 for X events?” I would give some number and then he would say yea or nay.
Because I like probabilities and have enough experience with insurance, I usually did okay with this game. But his ability was remarkable. You could describe a situation with many contingencies, many derivatives, many puts and calls and swaps, and he would instinctively know whether it was priced well or not.
Those equity index puts that created issues with the rating agencies. I think the reason he had difficulty with those is that he knew immediately how to price them and that the odds were very high that they would make money for Berkshire, if looked at on their own as contracts.
The other elements that were subjective — the way they would create short-term volatility in the balance sheet; the way hedgers might respond; the regulating agencies — these didn’t come into the equation because the trained, automatic part of his mind fastened on how much money could be made and the probability.
If you think about it carefully you realize how costly the equity index puts were in the financial crisis. Berkshire got the float from them to invest, but its negotiations with the rating agencies meant that, at a time when markets were in turmoil, during the very crisis that Warren had been waiting for all those years to put the tens of billions of dollars to cash to work, he couldn’t do it. He was able to participate in the market crash only in a tepid way. That opportunity cost has to be offset against the expected profit from those equity index puts. They weren’t worth it.
Clarity on Buffett’s Investing Style
We touched on this earlier. He is great at distilling important concepts into memorable sayings. But these sayings are not a substitute for doing work and analysis and he doesn’t use them that way in practice. For example, be greedy when others are fearful and fearful when others are greedy, which is a Gus Levy (former CEO of Goldman Sachs) quote that he uses a lot.
I’ve seen people rationalize buying a beaten-down stock because other people are fearful. That’s not how Warren thinks. For the most part, he has a universe of stocks that he has analyzed. And when something hits his bid then he will buy it.
I think another thing people have gotten confused about is the sustainable competitive advantage and the moat. Durable competitive advantage and moats are not the same thing as brands. People sometimes use these terms interchangeably. I have also seen people ascribe competitive advantages to brands that don’t have them. For example, retailers — retailers have brands. We all know what Macy’s is, but retailing is fundamentally a bad business.
In essence, the merits of a brand are not the brand itself; they are the qualities of the product that create the consumer loyalty. What attracted him, ultimately, to Coca-Cola is that Coca-Cola’s formula make you more, not less, thirsty, and supposedly has been tested to prove that it doesn’t wear out the palate, no matter how much is consumed.
This implies infinite sales potential. The cute commercials and cheery red logo create an association in people’s minds with those qualities. They aren’t what makes it Coca-Cola.
While there are moats that include brands, a brand is not a moat. The moat is whatever qualities are innate to the business that make it difficult to compete with.
Lastly, investing is not a religion. It’s not like you have to follow a creed. Warren will buy things that are simply cheap. He’s pragmatic. There’s no rule that he has to be absolutely consistent. If he sees something that he thinks is undervalued he’ll occasionally buy it, even if it’s a Korean dairy company. Then he’ll sell it. Everything doesn’t have to fit into a perfect framework.
Emotional Decision Making
One of Warren’s great strengths is that, despite his pragmatism, he is quite rigid when it comes to anything that could lead to emotional decision-making. This is the circle of competence. He never bought Intel, and if there is anyone who could have understood Intel it was him. I mean, he knows Andy Grove quite well and was around at the founding of the company and even knew Bob Noyce. There were times when it must have been obvious to him that Intel was a rocket.
This is another way of saying that he has managed to avoid style drift for the most part. There’s nothing wrong with learning new things or adapting to changing circumstances. What’s wrong with style drift is that emotions are forming the current that’s drifts you along. Style drift is just endemic whenever the market is briskly valued and it’s hard to find ways to put money to work. You could argue it’s the most common reason highly regarded investors get blown up.
Lastly, I would say that people got confused that leverage is okay in financial institutions as if they are exempt from the laws of leverage because of the nature of their business. That’s a mistake that people won’t be making again anytime soon.
People were investing in companies leveraged 30x where they would never dream of considering a stock like that in a value portfolio in any other industry. What is very interesting is that Warren did not do this (by this I mean investing in these types of financial institutions).
When he did finally invest, in Goldman, he bought preferred stock with mandatory interest payments and various forms of downside protection. It was primarily a bet on Goldman’s continued existence rather than its shorter or longer-term earnings trends. The $115 warrants were gravy.
An Instinct for Deals
Warren has an instinctual attraction for things that are worth more than they’re selling for. He’s tried over the years to articulate different criteria by which other people can find these opportunities. But the fact is that in he has a nose for things that are more valuable than their price and vice versa.
To some extent, when he describes investing or writes he is refining and explaining the rules by which his instinct told him to operate. If you put a dollar in front of him and say, “I will sell this to you for 50 cents” he’s not going to say I don’t do cigar butts anymore, and I don’t see a moat there (laughter)…
(Interviewer: Is this instinct innate?)
Some is temperamental but I also think people can figure it out. Clearly some of it is mathematical, and it’s a question of being alert to it and having focus. There are times when nothing works. I use to say this about insurance stocks that once every decade you should buy all of them and once every decade you should sell all of them and the rest of the time you should do nothing.
That’s probably true of a lot of industries, which means that doing nothing is the right answer most of the time. Much of the time you’re either looking for what’s cheap or waiting for that magic moment.
Schroeder on Valuation Multiples
(Interviewer: One of my friend’s likes to say, “People’s decisions compound money)
And that’s the other mistake, because the price you pay determines your return. For example, people will take an earnings yield, expressed in cash flow versus price paid, on a stock that they would never consider in a normal interest rate environment. Large caps are supposedly cheaper now than any time in decades based on dividend yields.
Yet investors who pay 18x earnings if rates are 1% on the theory that getting a very low earnings yield is acceptable versus treasuries might wake up disappointed. You may have to wait an awfully long time to earn your way out of a hole because of the price paid.
Look at it this way. The economy will be struggling to eke out 2% growth for who knows how long. The average business cannot, on average, get 4 – 6% real growth in an environment like that, without some drastic change in relative currency values or some other unpleasant thing that resets the base. Yet all of the assumptions I see are based on 6 – 8% growth and everything else status quo.
It’s safe to assume that at some point, multiples are going to decline from here to reflect the economy’s real growth rate.
Berkshire has put 60% of its cash flow into equities so far this year. It’s an increase from zero, which could easily be interpreted as a portfolio repositioning, but it is not. Warren is still building cash. He doesn’t like bonds right now, but he likes cash. The feeling of needing to be fully invested obstructs a lot of money managers.