Documentos de Académico
Documentos de Profesional
Documentos de Cultura
Sources of Success
1.Biography………………………...…...…5
1.1 Childhood……………………………….………. 5
1.2 Education and early career…………………….…6
2.Investing………………….………......….8
2.1 Views on the Market……………………………..8
2.2 Principles of Value Investing…………………….9
1
Larry E. Swedroe (2004), What Wall Street Doesn‟t Want you to Know, St. Martin's Griffin
2
Forbes Magazine
For a tree to grow strong the roots have to be deep. In this section we will dig deep into
Buffett‟s childhood experiences, the role of his father in his life, his passions, and the
education he has undergone. Further on a succinct profile of his mentor Benjamin
Graham will be provided and his first steps as a professional will be traced. In this way
we would like to show that the path to success has its origins much earlier than the
financial statements could account for.
1.1 Childhood
Warren Edward Buffett was born in 1930 in Omaha, Nebraska. He is the son of Howard
and Leila Buffett. The figure of his mother has some ambiguity as to the influence she
had in Warren‟s life but the same can‟t be said for that of his father. Howard Buffett was
a local stock broker, a banker, and served as a four-term US Congress representative from
the conservative wing of the Republican Party. From an early age Warren became fond of
his father and often spent his spare time choking stock prices in his office or reading his
books on investment. The young Buffett even moved to Washington D.C when his father
got elected in the Congress. 3 The figure of Howard Buffett definitely served as a role
model of a leader and of entrepreneurial skills to Warren, characteristics clearly
recognized in his later years.
Warren‟s life is full of stories of childhood entrepreneurship. At the age of six he bought
six packs of Coca-Cola bottles, a company with great significance in his mature business
ventures, and resoled them for a profit. He made his first stock market investment at the
age of eleven when he bought three shares of City Services stock for the price of 38$ and
waited till they rose to 40$ when Warren sold them. But the stocks went on rising and
reached 200$ in two years, an event that served him as a good lesson to stay on the
market. Upon moving to Washington, while his father was busy with politics, he took
two routes as a paper delivery boy of The Washington Post, another major investment of
him, and Washington‟s Times-Herald. At this occupation he filed his first tax income
return being only thirteen. With the money he earned as a paperboy he and a partner of
3
Robert G. Hagstrom (1997), “The Warren Buffett Way”, John Wiley and sons Publishing
4
Kilpatrick, Andrew (1994), Of Permanent Value: The Story of Warren Buffett, Birmingham, Ala.: APKE
5
B. Graham, D. Dodd (1934), Security Analysis, McGraw-Hill Professional
6
Warren Buffett (1984), The Superinvestors of Graham-and Doddsville Hermes Magazine
2. Investing7
After digging into Warren Buffett‟s early years its time to see what was inherited and
adopted by him in his investment style.In this section the focus will be on Buffett‟s views
on the market, thus his investing principles will be discussed as well as his criteria for a
business worthwhile buying. References to and comparisons with EMT and MPT
mentioned in the introduction will be made when talking about his personal believes and
principles.
7
For much of this part insights and notions have been imported from two sources and for convenience of
the reader reference is made only in the beginning of the section:
Lawrence Cunningham (1997), The Essays of Warren Buffett: Lessons for Corporate America, and
Prof John Price (2004), The Warren Buffet Report The Nine Investing Principles of Warren Buffett – and
how to profit from them, Roxburgh Securities Pty Ltd
Warren Buffett has some very intelligent investment principles which are not very
complex and one probably does not have to be a mathematical or a social science genius
to understand them. But applying them would require a very conservative, clear and
analytical character. Acquaintance with the idea of value investing by Graham and Dodd
is almost obligatory. Here a synthesis of his most prominent principles will be presented
but the full grasp and diversity of strategies, especially concerning arbitrage and trading
of bonds, is beyond the scope of this modest paper.
Probably principle number one of Buffett is to buy stocks as if he is buying a part of the
business not just a piece of paper he will sell tomorrow for a profit. He says he never tries
to make money from a business on the stock market but buys on the assumption that the
markets could be closed the day after and stay so for five years. He is often quoted for
saying “Our favorite holding period is forever”.
Warren Buffett invests in companies only if he understands their business model which
means that he can value the foundations of the company and predict its future
performance. Then he picks up the ones with favorable future economics, the ones for
which there will always be need by the world so their growth is secured by the overall
population and demand growth. Examples of such businesses Warren has invested in are
producers of clay-bricks, soft drink producers, and insurers as the world will always
remain risk-averse.
Mr. Buffett says you should buy “castles with a big castle moat”. Translated that means
Warren Buffett buys companies with a very good business model which cannot be copied
so easily. The reason for that is that the main problem of the capitalism is the erosion of
the profit margin - when the margin is too high it attracts more competitors who also
want to participate in the lucrative business and the margin falls. In order to circumvent
that Buffet buys companies with unique products, brands or organizational characteristics
so that barriers to entry are created.
Many would guess that when the price of a share drops Buffett would get rid of it
immediately to avoid further losses. Actually it‟s quite on the contrary. Buffett searches
and buys predominantly undervalued stocks so when the price falls further the short term
losses seem negligible compared to future perspectives so he uses the opportunity to buy
even more and strengthens his position on the market. Grounded in the belief that the
intrinsic value of a company would secure its long term sustainable growth, short term
fluctuations are not a sign of increased risk for Warren but just that the market is myopic.
Deeply grounded in the principles of MPT is the notion that diversification is the best
insurer against risk. Warren Buffett is in the opinion that strategies like that are
performed only by people that do not know what they do. In his view concentration raises
the intensity with which an investor is involved into a business as well as the level of
comfort with its incorporated economic characteristics therefore decreasing the risk of
losses by correctly identifying and valuing businesses. Under these premises he denies
the method of estimating betas most academics defend, the relative volatility of a stock
compared to a large universe of stocks based on historical data, and judging about risk
from them. Warren Buffet accuses those academics that they forget an essential principle
– “It is better to be approximately right than precisely wrong”. The beta theory even
produces some absurdities like the fact that if a stock drops dramatically lower than the
market, it becomes riskier than it was on the higher price. Such constructors of betas
often don‟t know anything about the product of a company, the competition it faces or the
leverage it uses, sometimes even the name of the company is irrelevant, but they praise
the importance of historical price fluctuations. On the opposite bank is Warren Buffett
who forgoes all the history for a bit of information that could improve his understanding
of the business.
The principle of self reliance when making an investment decision highly correlates to
the attitude towards Mr. Market. Warren Buffett says that “what you need is the
temperament to control the urges that get other people into trouble”. The fact that
people will be full of greed, fear or folly is predictable. The sequence is not predictable.
You are neither right nor wrong because the crowd disagrees with you. You are right
because your data and reasoning are right. Look at the market fluctuations as your friend,
rather than your enemy”.
The reduction of risk of a portfolio or an investment Buffett constructs does not stem
from the ordinary method of diversification, as explained earlier, but from the margin of
safety he leaves on each stock. To achieve this he buys only on a price that considerably
underestimates the value of the common stock he has estimated through the method of
value investing. In this way he assures that future volatility will bring only gains.
Again to make this clearer Buffett uses one of his many practical examples:
“When you build a bridge, you insist it can carry 30,000 pounds, but you only drive
10,000 pound trucks across It”. And that same principle works in investing. “It’s not
risky to buy securities at a fraction of what they’re worth.”
Clearly Warren Buffett‟s believes highly depart from the dogma accepted in the academic
circles. Nevertheless, his integrity and consistence of following his principles, and
discipline and conservatism when making an investment have made him the most
successful practitioner and definitely a person capable of proving theories wrong,
moreover proposing alternatives.
8
Appendix 1: BKH subsidiaries
For subsidiaries and portfolio companies, Warren Buffett sees their shareholders as
partners. He considers them as owner-partners and himself and other managers at
Berkshire Hathaway as managing-partners. This is not just a simple way to convince
shareholders and potential shareholders to invest in the company, since Warren Buffett
invested 99% of his net worth in Berkshire Hathaway and Charlie Munger‟s (Vice-
Chairman of Berkshire Hathaway) family fortune is for more than 90% invested in the
company. Furthermore relatives of Warren Buffett also considerably invested in stocks of
the company. These facts show that the top-mangers of Berkshire Hathaway have a lot of
long term confidence in the company, since a lot of their wealth is invested in stocks of
the company, and that are not looking for some short-term return, which regularly occurs
when managers are given large stock options as bonuses.
Berkshire Hathaway owns a lot of subsidiaries, but for Warren Buffetts there is no need
to intervene in every detail, he argues the following: “they were managerial stars long
before they knew us, and our main contribution has been to not get in their way”12.
Managers of those subsidiaries are given considerable freedom to carry out their
businesses. Warren Buffett is not intervening as much as he would like, because he
knows better, according to him there are two kind of jobs; running the business, and
running the people who do it, so managers should be given the freedom to perform.
9
Buffett, W, “The Essays of Warren Buffett: Lessons for Corporate America“, 1997-1998, p. 8
10
Buffett, W, “The Essays of Warren Buffett: Lessons for Corporate America“, 1997-1998, p. 10
11
Buffett, W, “The Essays of Warren Buffett: Lessons for Corporate America“, 1997-1998, p. 10
12
Buffett, W, “The Essays of Warren Buffett: Lessons for Corporate America“, 1997-1998, p. 42
So what makes Warren Buffett a good leader? First of all the personality of him, which
comes close to the social cognitive level 15, because he puts effort in understanding and
making sense of people around him, meaning that in an organisation he is one that can
place himself in another‟s persons shoes.
Furthermore an important fact is that he remains loyal to his partners and employees. He
is considered to be a self empowered leader, because he is loyal, sets goals, plans a
strategy for achievement, and stays committed until he accomplishes his purpose 16.
Leadership is one of the most important factors to perform in an organisation and to be
successful, Warren Buffett is a good example what a leader should be like.
Next he is good listener and can transfer his knowledge and information quite easily.
And he has the understanding of the people he is trying to reach and what he can and
cannot hear from the people. Communication can be considered as one of the most
important abilities a leader should have. Warren Buffet communicates well with his
managers and other employees. Concluding it can be seen that Warren Buffett has been a
13
Heller, R., “Management styles & leadership styles of Warren Buffet & Bill Gates”, 07-08-2006
14
Stallard, M., “More Than an Oracle - The Employee Engagement Practices of Warren Buffett”
15
Spindler, M., “Superior leader: Warren Buffett”
16
Spindler, M. “Superior leader: Warren Buffett”
17
Appendix 1
“We(Buffett and Munger) were born in America, had terrific parents who saw that we
got good educations, have enjoyed wonderful families and great health, and came
equipped with a 'business' gene that allows us to prosper in a manner hugely
disproportionate to that experienced by many people who contribute as much or more to
our society's well-being”
“You only have to do a very few things right in your life so long as you don't do too many
things wrong.”
In this graph it is shown how much you would have earned in 2005 if you had invested
$1 in 1965.
Berkshire Hathaway had a compounded return of 20.3% in the period 1965 – 2008 while
the S&P 500 index had a compounded return of 8.9%. So Berkshire Hathaway had more
than twice the compounded return of the S&P 500 index. Within this 43 years, the S&P
500 index only outperformed Berkshire Hathaway only 4 years and Berkshire Hathaway
only had two years with a negative return while the S&P 500 index had 11 years with a
negative return in the period 1965-2008.
0.35
0.3
0.25
y = 0.5652x
2
R = 0.1613 0.2
0.15
0.1
0.05
0
-0.2 -0.15 -0.1 -0.05 0 0.05 0.1 0.15
-0.05
-0.1
-0.15
-0.2
Even in times of recession and crisis, Warren Buffett managed to perform better than the
S&P 500. For instance in the oil crises in the seventies, which led the stock market
collapse due enormous inflation pressure. Berkshire Hathaway did not face any year of
having a negative return, while the S&P 500 faced 3 years with a negative return in the
seventies.
However in this decade Berkshire Hathaway had 2 years with a negative return. In 2001,
when 9/11 took place, the stock market collapsed as a result of a loss of confidence in the
economy and the vulnerability of America. And Berkshire Hathaway faced high
insurance pay outs, as a direct result of the terrorist attacks. The second year of having a
negative return was in 2008, the credit crunch. Even Berkshire Hathaway faced the direct
consequences of the financial crisis; it made some investments that did not turned out to
be successful.
So it can be concluded that Berkshire Hathaway managed to overcome the stock market
collapse in the seventies, but did not manage to overcome two crises in this decade. Even
a great performing company and a top investor like Warren Buffett are not always
capable to overcome stock market collapses.
18
Annual report 2008 Berkshire Hathaway p.15
19
Annual report 2008 Berkshire Hathaway p. 98
Heller, R., (2006) “Management styles & leadership styles of Warren Buffet & Bill
Gates”,
Robert G. Hagstrom (1997), “The Warren Buffett Way”, John Wiley and sons Publishing
Stallard, M., “More Than an Oracle - The Employee Engagement Practices of Warren
Buffett”