Picking Warren Buffett's Brain: Notes from a Novice

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The richest man in the world — $62 billion and counting. (Photo: CBS/AP)

“Excuse me. Where is the most difficult to reach microphone?”

I was out of breath from running up the steps but had managed to find one of the microphone stands, manned by two headset-wearing volunteers.

More than 10,000 people had waited on the sidewalks overnight to be first in the doors of the Berkshire Hathaway annual shareholder meeting, and I had made a choice: I would go for the mics instead of the front row.

Given a choice of shaking Warren Buffett’s hand for a five-second photo op or asking him a question, I opted for the latter, and in ten seconds, I’d be sprinting to the corner of the top floor. After all, lunch with Buffett once auctioned off for $620,100, and I’d planned it all out.

These are my notes on what happened and what I learned…

“Can you please radio ahead to put my name on their list until I get there to confirm?” I pleaded, explaining that this was the main reason I had traveled from SF all the way to Omaha, Nebraska.

They smiled: “Sure thing.”

There were 13 mics total and time for approximately six questions from each, for a total of 78 people out of the 31,000 who now packed the Qwest Convention Center like a rock concert. I ended up, only 10 minutes after the doors had opened, number 5 at mic #6. When the spotlight swung over to blind me a few minutes before the lunch break, I was ready to consult the Oracle.

“Good afternoon, Mr. Buffett and Mr. Munger…” my voice boomed out through the sound system with a half-second delay, making it almost impossible to remember my lines, memorized word-for-word. I continued:

“If you were 30 years old and had no dependents but a full-time job that precluded full-time investing, how would you invest your first million dollars, assuming that you can cover 18 months of expenses with other savings? Thank you in advance for being as specific as possible with asset classes and allocation percentage.”

Buffett let out a small laugh and began. “I’d put it all in a low-cost index fund that tracks the S&P 500 and get back to work…”

[Postscript: Be sure to see some of the great reader answers to this question in the comments after this post.]

An MBA in a Weekend

As several veterans put it to me before the pilgrimage, “it’s like an MBA in a weekend.” I thought this was hyperbole and hero worship, but I would now take it further: I think it’s one weekend that delivers more than most MBAs. Real-world strategies culled from experience? Check. Networking? Big-time check. The only thing the mecca of Buffett seemed to lack was the $100K+ price tag.

Here are my non-linear notes from my exchange with Buffett (B) and Munger (M), as well as the rest of my first Berkshire Hathaway (BH) experience, including conversations in the hallways with some incredible portfolio company managers. Treat each line as a separate observation except for the answers following bolded questions.

Their continued answer to my question:

“…Put it all in a low-cost index fund like a Vanguard 500.” M: “Professionals take croupier profits out of the system. No one will give you this advice [index funds] because no one gets paid for it.” M: “The whole secret of successful investing [full-timers] is non-diversification. If you know nothing –> diversity.” B: “There are situations, for the full-time investor, where it’d be a mistake not to invest 50% of your net worth in one business.” If more aggressive: small stocks and specialized bonds, but no currencies.

Best books to read for investing and life?

(B) Chapters 8 and 20 in The Intelligent Investor. (M) Anything by Ben Franklin.

Use the market to serve you, not to instruct you.

What’s being taught in current MBA programs that shouldn’t be?

Option pricing, etc. There are only three courses you need: how to value a business, how to think about market fluctuations, and how to communicate well. There is a great desire of the priesthood [in this case, academics] to teach what they know vs. what you need. If you know the bible in four languages, your ego won’t allow you to teach the true essentials, which might be “follow the 10 commandments.”

From CFO of portfolio company on how to select a money manager. Ask: What is your process? How do you make decisions? Given what you’re holding now vs. 3 years ago, can you share an example along those lines? Are you registered with the SEC?

From same CFO: having a short-term focus (2-4 months) or long-term (7 years or so) is good, but intermediate-term is bad (1-2 years). Everyone is looking at information for 1-2 years due to capital gains treatment. Given that I’d be comfortable with a 10% loss in a given year but not 20%, a 55/45 stocks/bonds split with 7-year objectives would be one potential allocation.

Conventional dogma among economists: the stock market is 6 months ahead of the respective economy.

B: “Envy is the worst of the 7 sins. You feel worse and they feel no worse. Gluttony, at least, has some upside.” [said as he opens another box of See's chocolates]


The letter and goodies waiting in my hotel room upon arriving in Omaha.

Select money market accounts with comparable returns to CD have advantage: can invest in crashed S&P same-day.

B and M have never discussed timing the market, and if they could, they would focus exclusively on S&P 500 futures.

Look for attractively priced businesses, not stocks. Could you remain confident in your choice, in their durable competitive advantage, even if the market were to close for a few years? Imagine that you have a card with room for 20 hole punches, and you can only invest in 20 companies your entire life.

Worry about getting ahead, not galloping ahead.

Purchasing businesses that earn revenue in British Pound Sterling, Euros, or Francs is OK, as those currencies are unlikely to decline vs. $ USD. $ USD will continue to weaken vs. others.

B and M’s job is to retain — not recruit — good managers once they choose an attractive business to purchase. Good management is part of the evaluation of intrinsic value. Chief characteristics: passion, excellent communication skills, and the tendency to always do more than fair share.

If you want to buy or sell a stock, buy or sell it instead of speculating on futures. If you make a call for a cheaper price, the movement will come earlier 4 out of 5 times.

M on charities/nonprofits: if you donate to a group with strong political leanings, you tend to make lots of dumb charitable gifts.

B: Most things I want do not come from the expenditure of money. I have what I need. We do virtually nothing we don’t want to do. Associating with wonderful people is about as good as it gets. Never trade reputation for money.

Berkshire Hathaway (BH) is now targeting companies with a 50B+ market capitalization (market cap) — there are fewer options, the companies are less profitable, and more is required to move the % needle [% growth in BH stock] for shareholders.

M on CEO compensation: If you’re in a job you’d pay to have and are an exemplar for the rest of the organization, there is a lot to be said for paying yourself little. B: “If you rise high enough in American business, you have a moral obligation to take less pay.

“Pair trading” — long and short two stocks in the same industry to hedge losses (BP + Chevron, etc.). Useful in 60′s; less useful now.

Press and media are larger factors in changing bad corp/exec behavior than regulators. Boards respond to bad press.

###

How would you answer my question?

“If you were 30 years old and had no dependents but a full-time job that precluded full-time investing, how would you invest your first million dollars, assuming that you can cover 18 months of expenses with other savings? Thank you in advance for being as specific as possible with asset classes and allocation percentage.”

For those interested, here is how I prepared for my “meeting” with Buffett.

Posted on: June 11, 2008.

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184 comments on “Picking Warren Buffett's Brain: Notes from a Novice

  1. Tim,
    Thanks. I can recommend The Snowball: Warren Buffet and the Business of Life. The book is a great glimpse into Buffet’s life, for all its success and oddity. It is written very well, by an astute financial mind in Alice Schroeder, who had previously spent many years covering BRK. If you haven’t read it and want a summary of the book, click the website provided in my comment entry – there’s one there. All the best, and keep up the positive posting!
    Chad

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  2. Yes – follow the S&P 500. Probably the best advice Warren gives for free. But, look at the statistics – the 500 beats something like 85% – 90% of all managed funds – and does it cheaper than them as well!

    Glad you got to ask him a question.

    Dan

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  3. I think Warren’s advice is great but has one flaw: It’s totally US centric. The growth rate of India and China is likely to massively exceed the grows of the US over the next 20 years. Also Warren hardly ever recommends his own stock even though it’s likely to do better than the index. Personally I’m putting 25% of my cash into Berkshire shares, around 50% into an Indian value investing hedge fund that has no fees for the first 6% of return per year (this is safer from a fee perspective than an index fund, but has the advantage of picking value stocks in a massively growing economy rather than just going with the US which is not as likely to grow so fast) and the other 25% in Internet business that I know something about.

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  4. Amazing that such a quick response from Warren Buffett gets so much analysis. But he’s certainly proved his worth.

    I agree with comments in here that real estate and international index funds should probably be added. This helps diversification (albeit introducing exchange rate risk) and with real estate you get the benefit of gearing without being marked to market each day.

    Most people understand real estate better than they understand the stock market too! I think Warren also once said he’d never invest in what he didn’t understand quickly.

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  5. It’s very generous of you to have done all this research and shared it.

    My question for Buffett — if I do what you did (and you’re selling me on the B.H. meeting) — would be:

    “If Warren Buffett had never invested and never become a billionaire — who would you be and how would people think about you?”

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  6. I have a web site where I research stocks under five dollars. I am a astute value investor. I do not believe that warren buffett is the value investor he was years ago if he was he most certainly would have caught the spectacular comeback of ford motor. the stock was trading at just 1 dollar a share two years ago the shares trade at 16 dollars today and the company is well on its way to becoming the leading world automobile company. another example is apple computer the shares traded at just 5 dollars in 1998 today they trade at 340 dollars. he did not see this one either their are numerous other examples.

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  7. Superb post but I was wanting to know if you could write a litte more on this subject? I’d be very thankful if you could elaborate a little bit more. Thanks!

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  8. Excellent post , I’ve found this very interesting. A great deal of useful information . I’m in particular interested in the info on bodyweight problems. Have you ever tried using lipobind intended for minimizing fat absorption? If not, do give it a try. It is working for me. . Many Thanks. Charlotte Bailey

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  9. I know I’m very late on this comment, but I decided to dig into the archives a little on the Blog, and thought I’d share what I’d do with the Million $. Mine is an extremely simple approach, but that’s the whole point. If this precludes full-time investing and you don’t have a lot of investment knowledge or time maybe, it doesn’t really matter in this case. This would be a once-a-month transaction that would easily earn a monthly income enough for me personally to retire today and still have money left to continue to invest.

    I’d take the $1,000,000 and use it to sell FRONT MONTH Cash Secured Puts or Covered Calls (depending on the market) on whichever of the 2 ETFs I liked better between SPY and EFA. This is the perfect time to give specific examples of today’s numbers, since it would be exactly today that the previous month’s options would expire. So if I were to be doing this, I could have either sold my options again today, or waited until the market opened again on Tuesday (Monday is President’s day). Keep in mind, the main thing here is to stay at your cost basis or better in regard to the strike price you choose, which essentially uses that $1,000,000 and you live off the “interest”. So, depending on how close to the At The Money option you wanted to be (risking only the chance of owning the ETF until you were called out eventually), here are the numbers for this month:

    SPY – Aggressive (At The Money) $16,571 monthly gain
    SPY – Conservative (2 steps out of the money) $11,544
    EFA – Aggressive (At The Money) $19,980 monthly gain
    EFA – Conservative (2 steps out of the money) $11,136

    So since I personally live a fairly modest lifestyle, and as you have already pointed out with several examples using geoarbitrage, this amount per month would easily be enough to live comfortably without working at all if you didn’t want, while still having plenty left to re-invest or do with whatever you’d choose!

    Thanks for the chance to answer,
    Paul

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  10. “I’d put it all in a low-cost index fund that tracks the S&P 500 and get back to work…” Warren Buffet:

    There was a index mentioned hear right after this quote or within this quote when I checked it few weeks ago… is that index removed.. it was something like vn.. I do not remember and I cannot find this.
    Does anyone know which index it was. It had 10% increase since start of this year.???

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  11. If you know stocks well, focus value/growth investing like Mr B says.
    If not, indexes.

    For going down the route of choosing stocks ( which, alas, takes a significant amount of time), I recommend high ROCE companies with low debt, high margins- highest in the industry preferably, good management, a simple model (” that any idiot could run, as one day, one will” Peter Lynch), and a realistic model for growth. A good, clean past too. Any capitalisation, but I personally prefer £200M+ as then they don’t need to split or add shares to fund growth ( how annoying is that when that happens!). A wide moat is a big bonus.

    An enterprising investor (many value investors do not buy into cyclicals) might also consider a percentage in cyclicals. I only invest in cyclicals when they are considered close to cigar butts- low valuation/ high net assets/book value. If they are strong companies they often bounce back strongly, along with their share price. Quite pleasing when that happens too. Every earnings release feels like your birthday (if you pick well- of course). That is also wonderfully true of growth/value stocks…

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  12. Dear Tim, I had dinner with Mr. Buffett.

    I’m a 26 year old CA native, investor and entrepreneur in both music and now beverages (I own a Kombucha Tea company).. I’m a fan of yours, Warrens.. and pu erh.

    I had dinner with Warren Buffett around last Thanksgiving due to close family friends. Before meeting him, I was a becoming a believer in an EMP and “high probability” option strategies (strangles, etc).

    Along with “the Intelligent Investor”.. he also recommended Adam Smith’s “Supermoney” – a must.

    I’m now an aspiring Buffett-ologist, but can’t shake interest in options. I’m sure you’re working with more that 1M these days… so I wanted to offer a suggestion maybe you hadn’t heard (along with value investing):

    Try selling strangle positions about 50 days out, each strike at 2 standard deviations away from stock price. That should leave enough margin of safety to allow them to expire worthless a majority of the time. A woman named Karen has been VERY successful with this method: http://www.youtube.com/watch?v=BquDGE9KxZQ

    Let me know how it goes. It’s a strategy that really only makes sense when starting with a good chunk of change.

    If you like Kombucha, stop by our place in LA sometime!

    Best,

    Trey

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    • If your a lazy investor with no idea of how markets work, id suggest buying an ETF when there is ‘blood on the streets’ and from there dollar cost average and try to never look at your balance. from here, A bear market is actually a great thing, as you get more units for each $1 you put in, so when the next bull starts, your in a much better position.

      If your an active market participant, there are far better ways to invest in the market than index etfs.

      Its my view, that finance professionals etc advocate such etfs to keep those that do not understand how the market works ‘Out of the market’.

      A bull market MUST CLIMB THE ‘WALL OF WORRY’ as this keeps the weak, emotional, uninformed public who react to news and do not understand the game.. OUT OF THE GAME

      The reason for this is that if you have all these weak people in the market, this creates unwanted resistance (sellers) that professional money has to absorb so prices can continue higher. This increases business costs… not ideal.

      So , obviously professionals want the least amount of resistance as possible.

      When a market correct occurs, its simply a case of professional money needing to flush out the weak, so the bull campaign can continue.

      So simple, yet not many understand these concepts.

      Cheers

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      • @ 25 I take an aggressive approach to my investment strategies outside of my 401k and Roth as I have very little financial obligations. I chose my shorts and longs primarily based on a fundamental approach. Shorter term for value while long term for growth. Technical evaluation comes into play when determining stops, targeted exits, etc. 5-7 companies max that I can watch in correlation to the market as a whole.

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  13. I know warren buffet is mega rich and hes a really nice guy and blah blah. I just think there are better people to follow in terms of investing. Like Jim Rogers for example

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  14. The book, “A Random Walk Down Wall Street”, is a good place to start. It basically advocates the same strategy Mr. Buffet espouses: diversification across broad-market index funds, etfs, bonds, and some Real Estate Investment trusts—depending on your age and your risk tolerance. You should be in it for the long haul, and allow compound interest to be your friend. If you move in and out of the market a lot, your gains are often nullified by capital gains and investment fees.

    90% of fund managers can’t beat the market, and they charge you for the pleasure of investing with them. The old adage seems to be true: that monkeys throwing darts at a board could do the same (if not better job) picking stocks as these professionals.

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    • Not so fast— Messrs. Buffett and Munger take a different view. From Tim’s blog post (above): ‘M: “The whole secret of successful investing [full-timers] is non-diversification. If you know nothing –> diversity.” B: “There are situations, for the full-time investor, where it’d be a mistake not to invest 50% of your net worth in one business.’

      They reject Burton Malkiel outright and they embrace Graham/Dodd whole heartedly.

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  15. 80% index fund, 20% algo trading. Worked for me. Sounds a lot of work, but isnt. Acutally, the 4 hour work week shows the way: no need to program yourself, you can outsource. What you will have to do, though, is read through the books of a few people who hacked not only finance but complexity in general. Go for the usual suspects of the Santa Fe Institute. From there on, you will quickly learn that the two most important articles on prediction of chaotic time series are from the 80s/90s, no match for modern computing power. Also, add a few piece on agent-based modelling (just to get an idea about dynamics), and artificial intelligence if you want to get fancy (in particular, deep belief nets and support vector machines). Last but not least, get “Trading Systems and Money Management”, it gives you the surprisingly simple statistics behind successful trading. The 80% index give you a rather safe long-term bet, but the 20% will challenge you intellectually, you will develop a very good understanding of the market, and of course it gives you upside potential.

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  16. Good Question -

    Overrider – if you are employed full time then spend it all on a business. Preferably one that you don’t have to manage. This will give you the time and cash-flow to spend more time as an investor. If you don’t want to own your own business and prefer to invest while being an employee -

    1. Find some people you trust and get their best speculative stock (that they themselves know a heap about and are heavily invested in) that is on the verge (12-18 months) of being cash flow neutral. Do your own research to quantify their views, and invest 30% in that one single stock. (note: doesn’t have to be in your existing circle of competence as this will limit your options but it does have to be in the circle of competence of the person you trust.)

    2. Join an Angel investors club and allocate 20% to making investments in start-ups.

    3. Keep the rest in cash, and double down on your spec stock or your angel investments when the opportunity arises.

    Once you get a 1X total return, start allocating 50% of your fund to long term stocks, selling only if you have to. Keep the other 50% in spec stocks/startups, and keep the strategy rolling. The only thing that changes is the size of the bets, not the bets themselves.

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  17. I used to do a little equity analysis, and I actually gave the same advice to a friend a couple of weeks ago: if you don’t have the time, just by a Vanguard ETF that tracks the market.

    The DJ Industrial & SP500 avg 8% return per year with 17% SD (based on data over the past 100 years); hence there will be a lot of ups and downs, but if you hold on to the ETF you buy, the expected return over the long haul is 8% per year. A full time professional investor puts at least 40 hours into just researching one stock/business, and most of these businesses don’t get put into the portfolio (unless it’s a index-type portfolio…which a lot of professional portfolios are…). Even then, most professional investors only beat the market by 2-4% consistently.

    Hence, an 8% annual return avg is not bad, its probably the most efficient investment you can make considering you don’t have to do any research, you just buy it once and hold it. Pretty much the only things you have to consider when buying a market ETF are: 1. Is the ETF maker reliable (Vanguard is) 2. Do I think the US economy will collapse & stop growing (probably not). We can’t argue with the Oracle.

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  18. OMG! The first audio book I bought was The Warren Buffet Way by Robert G. Hagstrom and I remembered I wanted to buy a share of Berkshire & Hattaway so I could get to attend the annual shareholders meeting… I still have a piggy bank for that particular purpose. If I ever get too close to ask him a question that’d be “If I beat you and Bill Gates at the throwing newspaper contest, can I be your apprentice?” followed by where is the best place to eat steaks in Omaha :)
    Sorry if I didn’t answer your question, but I had to share this.

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  19. i would take an asset i know most about (not something i have to take advice on from others). then split the million bockeroos as many ways as possible to hedge my risk so each can be tracked. given that i have some understanding of the asset class, most stock should rise to outweigh those that drop.

    for me, take property in a rising market, you don’t need to know the location as long as the estate agents / realtors are busy, thats a good sign. split your cash and leverage it to buy as many units as possible that appear “good” value for money.

    then take your mind off the asset you’ve invested in, have a beer, check its value in 12-18 months so you don’t constantly worry about it in the meantime (its value will probably fluctuate). if you’ve made a profit, consider divesting and enjoying your profit or re-invest it. Boom.

    if you don’t understand the asset you are investing in though, you are just gambling.

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  20. Funny he didn’t say jus to put those million or a good part of it in BRK shares.

    Tim, I recently launched my nutrition bar. I agree with Buffett. Because I believe in the product I am investing some of my money in my own business. But investing in one’s own business would have to be high risk tolerance pattern, much different from investing in an index fund, no?

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  21. Tim,

    I agree on either low cost index funds or focused non-diversification (based on how much time you’re willing to put into investing). I recommend Rule #1 (2006) by Phil Town along with The Intelligent Investor (1973) by Ben Graham and Security Analysis (1934) by Ben Graham & David Dodd.

    Phil Town’s blurb on your cover is why I first bought 4HWW. (Thanks for signing my 1st edition when we met at Calabasas with Neil last October. I was tongue tied at meeting you and could have talked your ear off about investing had I suspected your interest. Neil has video of me doing that from last July.)

    My 14 year old daughter manages her own portfolio using Graham/Dodd (Buffett/Munger) ideas and has been invited to do a TEDx talk in Zürich based upon her experience. (I can offer you a guest post on that if you like.)

    Sincere respect

    James

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  22. I’d invest in learning how to build businesses.

    Rather than spending the money on an MBA though, I’d consider things like actually starting the business, hiring staff more experienced than I in my weak areas, testing, failing, reading material, etc.
    I’d say sequencing is important
    The person steering the ship might not be more important than the ship but if he/she doesn’t know how to pick a good ship or how to steer it, good luck getting to the other side of the Atlantic.

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