A few weeks back, I delivered a few lectures on value investing at a business school. A general query which came up during the lectures was on the importance of macro economic indicators and how I dealt with them.
My reply was : "It's very simple. I don't think about macros".
The very aspect of thinking about the direction of the market, interest rates, movement of currencies, gold, silver, prediction of weather, prices of sugar, rubber, steel, cement and everything else under the sun can contaminate thinking and lead to huge errors of omission and commission.
What I focus on is the business, its economic characteristics, the people managing it, the gap between the value and the price and the downside risk to the investment. To me, this is what comprises the nucleus of investing and everything else is noise.
I have compiled 3 excerpts from OIDs [Outstanding Investor Digest] where Buffett and Munger beautifully explain the whole concept of focusing only on the business and nothing else.
1. Macro view. How even Graham got it
wrong? Focus on what’s knowable and important. [OID June
1992. Page 41]
Buffett: When I
got out of Columbia,
the two people I respected most in the world – my dad and Ben Graham – both
generally encouraged me about eventually going into the securities business.
But they both thought that it was a terrible time because the Dow had risen
above 200. And there’d never been a year in history when the Dow had not at
some point sold below 200. And both of them thought that it might be a good
idea to wait awhile.
I had about ten thousand bucks then. If I’d
waited, I’d probably still have ten thousand bucks….
Buffett:
We’re in businesses we think we understand reasonably well and that we’re
reasonably well suited for. That we should get out of such businesses because
of factors we don’t have any edge in understanding … just doesn’t make sense to
us.
Phil Fisher said that the important thing in
investing was to focus on what’s knowable and important. There are all kinds of
things that are knowable and unimportant – and you can forget about those. What
temps to error, of course, is the attraction to things that are unknowable, but
important.
The real trick is knowing that there’s
something knowable and important that you can focus on. And the real test is
whether, if you focus on things that are knowable and important, can you
overcome the unknowable. And I think that the answer to that
is yes – barring
something that’s so extraordinary that it wouldn’t make much difference what
you did in respect to it….
Munger:
We’re emphasizing the knowable by predicting how certain people and companies
will swim against the current. We’re not predicting the fluctuations in the
current….
2. No attention to macro economics.
Focus only on the business. [OID June 1992. Page 40]
Buffett: Charlie and I spend essentially no time really thinking
about macro factors. In other words, if somebody handed us a prediction by the
most revered intellectual on the subject with figures for unemployment or
interest rates or whatever it might be for the next two years, we would not pay
any attention to it.
We simply try to focus in on businesses that
we think we can understand and where we like the price and the management.
We read no
macro-economic materials. And if we see anything in the paper that relates to
commentary or predictions about what’s going to happen in Congress, we don’t
even read it. And we don’t talk about it. We don’t attend the seminars. We just
don’t think that it’s helpful to have a view. Now that’s very different than
many investment organizations.
I’ve seen presentations in many investment
management organizations where it’s customary to substitute top down analysis
for common sense. First, they start with what’s going to happen in the universe
and then keep narrowing it down…. You’ve got this great averaging of IQs
operating in a largely offsetting fashion. Charlie and I think that just tends
to be nonsense.
If you’re right about a business, there are
going to be all kinds of factors that happen next week, next month, next year
and so forth. But the really important thing is to be in the right business.
The classic case is the product right here.
Coca-Cola went public in 1919. And they sold stock at $40 a share. The
interesting thing about it is that a year later, the stock was down to $19-1/2.
Sugar prices had changed after World War I pretty dramatically. So you’d have
lost half of your money one year later if you’d bought it when it first came
public.
But if you owned that share today and had
reinvested all of your dividends, it’d be worth about $1.8 million. We’ve
had depressions. We’ve had wars. Sugar prices have gone up and down. A million
things happened. How much more fruitful is it for us to think about whether the product is likely to
sustain itself and its economics than to try to be guessing about whether to
jump in or jump out of the stock?
A lot of people made money owning that stock
for a long period of time. And that’s how people make money – not trying to
anticipate natural events and then decide whether they want to be in Coca-Cola
or something else.
If you’re right about the business, you’ll be
right about your investments over the long term.
Buffett:
The other stuff –advisory letters about political trends and all of that sort
of thing, I don’t know anybody who’s ever really made any money by doing that.
Charlie,
do you know anybody who’s made money doing that?
Munger:
No…. And I don’t like listening to it either.
Buffett:
You see how receptive and broad minded we are. And bear in mind that we’re at
our most receptive at this meeting….
You can always sit down and list a hundred
favorable or a hundred unfavorable factors affecting the economy or the market.
The weight you put on any particular one and whether it’s on one side of the
ledger or the other may reflect what you ate for breakfast that morning, your
political views or a whole bunch of things.
We’ve just never found it useful to try and
think in those terms.
3. No opinion on the markets. [OID June 1994. Page 19]
Buffett:
You may have trouble believing this, but Charlie and I never have an opinion
about the market because it wouldn’t be any good and it might interfere with
the opinions we have that are good.
If we think a business is attractive, it would be very foolish for us
not to take action on it because of something we thought the market would do or
anything of that sort – because we just don’t know. And to give up something we
do know that is profitable for something we don’t know and won’t know just
doesn’t make any sense to us.
And it just doesn’t really make any difference
to us. I bought my first stock around April of 1942 when I was 11. We were in
the middle of World War II at the time. And our prospects didn’t look all that
good. They really didn’t. We weren’t doing all that well in the Pacific at that
time – although I’m not sure that I factored that into my purchase of three
shares. And just think about everything that’s happened since; the advent of
atomic weapons, major wars, a President resigning, inflation and all kinds of
other things.
To give up what you do well because of guesses
about what’s going to happen in some macro way just doesn’t make any sense to
us.
Buffett:
The best thing that could happen from Berkshire’s standpoint – and I’m not
wishing it on anyone – is to have markets go down a tremendous amount. If you
asked us next month whether Berkshire would be better off if the whole stock
market were down 50% or where it is now, we’d tell you that we would be better
off if it were down 50%. We’re going to be buyers of things over time. If
you’re going to be a buyer of groceries over time, you’d like grocery prices to
go down. If you’re going to be buying cars over time, you’d like car prices to
go down.
We buy businesses. We buy pieces of businesses
– stocks. And we’re going to be much better off if we can buy those things at
an attractive price than if we can’t.
We don’t have anything to fear. What we fear
is a long, sustained irrational bull market. As Berkshire Shareholders – unless
you own your shares with borrowed money or might be selling them in a very
short period of time – you’ll be better off if stocks get cheaper because it
means we can do more intelligent things for you than we could otherwise.
Buffett:
We have no idea what’s going to happen. And we wouldn’t care what anyone thinks
– least of all us.
Munger: If you’re an agnostic
about macro factors and, therefore, devote all of your time to thinking about
the individual businesses and the individual opportunities, it’s a way more
efficient way to behave – at least with our particular talents and lack
thereof.
Buffett:
If you’re right about the businesses, you’ll end up doing fine.
Buffett:
We don’t know and we don’t think about when something will happen – we think
about what will happen. It’s not so difficult to figure out what will happen.
It’s impossible in our view to figure out when it will happen. So we focus on
what will happen.
Coke in 1890 or thereabouts – the whole
company – sold for $2,000. Its market value today is $50-odd billion. Somebody
could have said to the fellow who was buying it in 1890. “We’re going to have a
couple of great World Wars. There’ll be a panic in 1907. All of these things
are going to happen. Wouldn’t it be better to wait?”
We can’t afford that mistake.
-END-
