Dear Fellow Investors and Friends,
Welcome to this edition of my newsletter, where I share my efforts to understand markets and the world around me.
I do appreciate you taking the time to read this. Today is Thursday, March 13th, the 72nd day of the year. There are 293 days until the end of the year.
Amanda and I have been attending the 7th annual BizNews conference in Hermanus this week. Listening to speakers from all walks of life has been fascinating – business, politics, and sport. It is probably the pre-eminent conference in South Africa.
Between attending the talks and speaking to many attendees who have turned into friends over the years, I have had no time to write my regular weekly letter. Instead, I will share my talk at the conference, reflecting on my journey with Berkshire Hathaway through the years:
How a game of touch rugby connected me with Warren Buffett and Berkshire Hathaway
A long time ago, I used to play a lot of touch rugby. One of the games was at Hamiltons Rugby Club with a group of guys from the financial services industry. At that time, I was working at Allan Gray, which had just experienced a near-death scenario, losing over half its AuM due to temporarily poor performance. One day – during bonus time – Allan himself came in from London, and instead of distributing bonuses, he let go of almost half the staff in one fell swoop. In those days, you could do that sort of thing. We went from nearly 50 people to fewer than 30 overnight. I was one of the fortunate ones who kept my job, primarily because I was so junior that my impact on the payroll was negligible.
But it did alert – and scare – me about the vicissitudes of the open-ended fund management business.
One of the players at Hamiltons was a guy by the name of Hendrik du Toit, who had just joined Investec, where he was tasked to build an asset management business. After one of the games, Hendrik pitched his vision for the business to me. I found it an attractive proposition and left Allan Gray to join him at Investec Asset Management.
Little did I know how successful Allan Gray would eventually become. Without me on board.
I joined IAM when there were about 12 people in the business. When I left to start RECM five years later, it had grown to just under 100 people, with offices in London, Hong Kong, Sydney, Johannesburg, and Cape Town. Today, it is multiples of that size. Of course, Hendrik and his team achieved that without me on board.
As an aside, it seems that a surefire recipe for building a big fund management business is to employ me and then hope I leave at some point.
At Allan Gray, I was a fixed-income analyst, managing a portfolio of bonds and eventually also doing some equity analysis, primarily of the banking sector. At IAM, I was thrown into the deep end, managing balanced institutional portfolios and reporting back to heavyweight boards of trustees.
And I had no idea what I was doing.
In this type of situation, you can choose one of two options: fake it till you make it or try to learn from those who genuinely know what they are doing. I opted for the latter and read everything by Lynch, Soros, Templeton, Wien, and Kaufman. Ultimately, all these paths led me to a man named Warren Buffett, who was running an investment holding company called Berkshire Hathaway. At that time, he was relatively unknown but was beginning to make waves in the USA.
Because I was interested in banking stocks, I used to attend the annual UBS banking conference in New York, which always took place in the last week of April. It just so happened that the Berkshire Hathaway shareholders’ meeting – often referred to as the Woodstock of Capitalism – occurred on the first Saturday in May. This was in 1996. So, I went to see what it was all about.
And got my mind blown away.
I was most likely the only South African in Omaha that year; if not the first one ever, then one of the first. The meeting occurred in a relatively small stadium – primarily used for rodeos – called the Ak-Sar-Ben Coliseum, which was eventually demolished in 2002. It accommodated far fewer people than the stadium where events are held these days.
Attending that AGM opened my eyes to a new world. Here were two guys sitting on a stage in the middle of flyover USA, answering unscripted questions from shareholders for over 6 hours, sharing some of the most interesting takes on the world of finance. Stuff you would never hear from any sell-side analyst or listed company executive. Or read in any textbook. And it was not what we, as analysts and portfolio managers, were thinking or talking about in South Africa.
The fantastic thing is it was all just common sense.
Over the years, I have tried to assimilate a lot of their message. I can’t say I have done so perfectly. But my life has turned out much better than it would have had I not come across Charlie Munger and Warren Buffett, had I not gone to Omaha more than a few times, immersed myself in the “Berkshire Hathaway way,” and absorbed at least some of the learnings by osmosis.
The great thing about these lessons was that they weren’t preached from up on high. Rather, they were bits and pieces of common sense woven into anecdotes from real business – and life – experience, delivered in a way that made sense. More importantly, Buffett and Munger showed that if you apply these principles consistently, success follows.
Two years ago, I took my son Nic and stepson Ben to the last meeting at which both Charlie and Warren were present. Hopefully, some of what they saw and experienced will rub off on them over time.
These are some of my favourite concepts from the great men
The list is by no means exhaustive; I am sure I have missed out many, but they are the ones which have stayed with me over the years.
- Working within a seamless web of deserved trust increases your chances of success and makes the journey much more enjoyable. I was fortunate to find two business partners I trusted implicitly early on in my career, Jan van Niekerk and Theunis de Bruyn. Theunis also happens to be here at this conference.
- Stocks are part ownership of a business. They are not little pieces of paper shuffled around in response to the flashing lights and buzzing sounds of that big casino, the stock market.
- Buffett introduced us to his imaginary business partner, Mr Market. Mr Market is a manic depressive – most days, he is quite stable, but some days, he is super positive and willing to pay a very high price for our shares, and other days, he is super depressed and willing to sell you his shares at a low price. Your job is simple – take advantage of him on his off days and do nothing the rest of the time.
- The institutional imperative
- An institution will resist any change in its current direction as if governed by Newton’s first law of motion.
- Just as work expands to fill the available time, projects or acquisitions will materialise to soak up any excess funds on an institution’s balance sheet – and then some.
- Any business craving of the leader, however foolish, will be immediately supported by the detailed rate of return and strategic studies prepared by his troops.
- The behaviour of peer companies, whether expanding, acquiring, or setting executive compensation, will be mindlessly imitated.
- To a man with a hammer, every problem looks like a nail. And its corollary – the importance of developing a latticework of mental models
- from engineering – margin of safety or redundancy
- from physics – entropy
- from psychology – the power of incentives
- and many more
- Munger’s list of misjudgements caused by human psychology. There are 25, but I want to highlight 4 important ones:
- Bias from association. It refers to the tendency of humans to associate feelings based on past experiences. This cognitive bias leads people to favour or avoid things merely because they are linked to positive or negative associations, regardless of their merit.
- Underestimating the power of incentives. As Warren said, “Show me the incentive, and I’ll show you the behaviour.” This is probably one of the most important biases one should be aware of in investing and business.
- Confirmation bias is the cognitive tendency to interpret information in a way that confirms one’s preexisting beliefs. This bias often leads one to dismiss evidence that contradicts one’s views.
- Bias from envy and jealousy. Both biases distort rational thinking by amplifying emotional responses and influencing decisions based on subjective feelings rather than objective reality. Of the seven sins, envy is the worst because there is no upside. At least with gluttony, lust and sloth, you get to enjoy something.
- Munger’s Harvard School commencement Speech was titled “Prescriptions for Guaranteed Misery in Life.” Again, there are many, but I will highlight the most important ones. I do recommend reading the whole speech, though.
- Ingesting chemicals to alter your mood
- Envy
- Resentment
- Being unreliable
- Learn everything you possibly can from your own lived experience, ignoring what you can learn vicariously through the good and bad experiences of others, both living and the eminent dead.
- Going down and staying down when you get your first, second, or third reverse in the battle of life.
Some of the best quotes from Buffett and Munger:
- Warren Buffett
- “I don’t know to what extent it’s innate or to what extent it’s learned, but an ability to detach yourself from the crowd is a quality you need. A great IQ is not required. You do not have to be terrifically smart to do well as an investor. (I’ve always found a lot of comfort in this…)
- “This is not like Olympic diving where they have a degree of difficulty factor, where if you can do some very difficult dive, the payoff is greater than some very simple dive. That’s not true in investments. You get paid just as well for the simplest dive, as long as you execute it all right”
- “We basically have the attitude that you can’t make a good deal with a bad person, so we just forget about it. We don’t try and protect ourselves with contracts or getting into all kinds of due diligence, we just forget about it. We can do fine over time dealing with people we like, admire, and trust.”
- “We think it’s awful, frankly, the way businesses reward executives with absolutely no regard for cost of capital. I mean, a fixed-price option for ten years – imagine giving somebody an interest-free loan for ten years; you’re not going to do it. And if a company is retaining a significant part of its earnings, and you give out a fixed-price option for ten years, they can do nothing with it but put it in a savings account and they’ll make some money off it.
- “It will be hard to change, though… I’ve been on nineteen public boards and Charlie’s been on a lot of them. In the end, the CEOs tend to get pretty much what they want. And what they want tends to go up every year because they see other people getting more every year. There’s a ratcheting effect, and the consultants fan the flames. It’s very difficult to get changed.”
- Charlie Munger
- “Acquire worldly wisdom and adjust your behaviour accordingly. If your new behaviour gives you a little temporary unpopularity with your peer group…then to hell with them.”
- “I think I developed more courage after I learned I could handle hardship. So maybe you should get your feet wet with a little more failure.” This is from a man who lost his son at the age of 9 to Leukaemia.
- “If you think your IQ is 160 and it’s actually 150, you’re a disaster. It’s much better to be a guy with a 130 IQ that’s operating well within himself.”
- “We try and think like Fermat and Pascal, as if we had never heard of modern finance theory. I really think that a lot of modern finance theory can only be described as disgusting.”
- “I think a great strategy, for the great mass of humanity, is to specialize. Nobody wants to go to a doctor who’s half-proctologist and half-dentist.”
- “People have always had this craving to know the future. The king used to hire the magician or the forecaster, and he’d look at sheep guts or something for an answer as to how to handle the next war. There’s always been a market for people who purport to know the future based on their expertise, and there’s a lot of that still going on. People have an economic incentive to sell some nostrum. It can be sold over and over and over again … I think it’s disgusting. It’s much better to make a living by being part of a system that delivers value to the people who are buying the product.”
- And one of their best interactions:
CM: “So, I think reduced expectations are the best defence any investor has.”
WB: “Charlie’s big on lowering expectations.”
CM: “Absolutely. That’s the way I got married; my wife lowered her expectations.”
WB: “And he lived up to them.”
I’ll end off with my favourite Charlie Munger quote of all time. Mostly used after Warren Buffett gave a long and detailed answer to a question. He would then ask Charlie Munger if he would like to say anything. And Charlie would say:
“I have nothing further to add.”
That’s it for this week. Regular service will resume next week.
But remember, be careful out there!
Piet Viljoen
RECM