Financial History Issue 125 (Spring 2018) - Page 24

be learned vicariously from other people ’ s mistakes and successes .
Temperament is more important than IQ when it comes to being a good investor . Graham taught Buffett that the most intelligent people often make poor investors because they frequently lack the right mental approach . For example , if they are highly rational , they get frustrated at the irrationality in the market and often cannot figure a way of exploiting irrationality . They may also fall in love with their predictions , thereby neglecting to build in a margin of safety . Other aspects of bad temperament for investors are the tendency to follow the crowd when it is panicking , or to become irrationally exuberant when everyone else is . Then , there are the people who can ’ t help noticing others making money on a new idea for speculative selection , or the latest technology , and want some of the action . In short , the investor ’ s own worst enemy is often himself .
Graham emphasized to Buffett that he must understand the focus of other people in the markets if he wanted to outperform them . For example , many investors are primarily concerned with expectations concerning the future , such as how many customers a company would have over the next 10 years , which cannot be predicted with any degree of certainty . Meanwhile , they pay little heed to more important details , such as the balance sheet , earnings history and share price . The lesson is to not become engrossed in the “ story ” of a business while ignoring the “ facts ” about it .
Graham created a wonderfully simple parable of “ Mr . Market ,” which goes something like this : You are in a business partnership with Mr . Market . You own 50 %, the same as he . Every day , Mr . Market comes to you offering either to buy your half of the business , or to sell his half to you . He is very obliging indeed — in fact he ’ ll offer prices throughout the day . The thing is , Mr . Market has moods . Sometimes he is very optimistic and offers you a high price for your share of the business . Other times he is down in the dumps and just wants out ; he will sell his half to you at a low price . So , what you have to ask yourself is whether you should value your shares based on the prices that Mr . Market is currently offering . Of course , true investors will carry out their own analysis and compare their intrinsic value calculation with Mr . Market ’ s offer .
Source : Letter from the Chairman of Berkshire Hathaway ( 2016 )
The Graduate from Graham and Doddsville
Upon returning home to Omaha , Nebraska , following Graham ’ s retirement , 25-year-old Buffett set up an investment partnership with seven relatives and friends . They had $ 105,000 available , and Buffett made the investment decisions . The partnership ’ s returns far exceeded the stock market , as Buffett found bargain after bargain — such as Sanborn Maps , which was sitting on net assets ( mostly tradable securities ) — worth much more than its share price . Buffett ’ s partners made about a 50 % return on that investment when Buffett was 29 years old .
Other people observed what Buffett was doing and wanted him to invest their money , so he set up other partnerships , eventually bringing them together in one group , the Buffett Partnership Limited ( BPL ). He found some solid companies that were temporarily out of favor with Wall Street , such as American Express ( a tripling of share price ) and Walt Disney ( a 55 % return ).
Berkshire Hathaway Annual Percentage Increase ( 1965 – 78 )
Between the start of the partnership phase of Buffett ’ s investing career ( first full year 1957 ) and near its end in 1968 , the Dow grew by 185.7 %, but a dollar invested with Buffett went up by 2,610.6 %. After Buffett ’ s fees , a typical partner who had invested $ 1,000 in 1957 would have over $ 15,000 within 12 years . In contrast , each $ 1,000 invested in the Dow in 1957 increased to only $ 2,857 .
Berkshire Hathaway Enters the Scene
In 1962 , Buffett used a portion of his partners ’ money to buy shares in a down-atheel New England textile company , Berkshire Hathaway ( BH ). The price of each share averaged $ 7.50 . By May 1964 , BPL held 7 % of the shares of BH . The dominant shareholder and executive was Seabury Stanton . He made a deal with Buffett for Berkshire Hathaway to buy BPL ’ s BH shares for $ 11.50 — 50 % more than Buffett had paid to acquire them . Then , Stanton thought he ’ d chisel Buffett . In a petty way ,
22 FINANCIAL HISTORY | Spring 2018 | www . MoAF . org
be learned vicariously from other people’s mistakes and successes. Temperament is more important than IQ when it comes to being a good inves- tor. Graham taught Buffett that the most intelligent people often make poor inves- tors because they frequently lack the right mental approach. For example, if they are highly rational, they get frustrated at the irrationality in the market and often can- not figure a way of exploiting irrationality. They may also fall in love with their pre- dictions, thereby neglecting to build in a margin of safety. Other aspects of bad tem- perament for investors are the tendency to follow the crowd when it is panicking, or to become irrationally exuberant when everyone else is. Then, there are the people who can’t help noticing others making money on a new idea for speculative selec- tion, or the latest technology, and want some of the action. In short, the investor’s own worst enemy is often himself. Graham emphasized to Buffett that he must understand the focus of other people in the markets if he wanted to out- perform them. For example, many inves- tors are primarily concerned with expec- tations concerning the future, such as how many customers a company would have over the next 10 years, which cannot be predicted with any degree of certainty. Meanwhile, they pay little heed to more important details, such as the balance sheet, earnings history and share price. The lesson is to not become engrossed in the “story” of a business while ignoring the “facts” about it. Graham created a wonderfully sim- ple parable of “Mr. Market,” which goes something like this: You are in a business partnership with Mr. Market. You own 50%, the same as he. Every day, Mr. Mar- ket comes to you offering either to buy your half of the business, or to sell his half to you. He is very obliging indeed — in fact he’ll offer prices throughout the day. The thing is, Mr. Market has moods. Some- times he is very optimistic and offers you a high price for your share of the business. Other times he is down in the dumps and just wants out; he will sell his half to you at a low price. So, what you have to ask yourself is whether you should value your shares based on the prices that Mr. Market is currently offering. Of course, true inve ̴)ѽ́ݥ䁽Ёѡȁݸͥ́)ɔѡȁɥͥمՔձѥ)ݥѠ5ȸ5ɭӊéȸ) ɭ͡ɔ!ѡ݅Յ)Aɍх%ɕ͔׊L)Mɍ1ѕȁɽѡ ɵ ɭ͡ɔ!ѡ݅䀠ؤ)QɅՅєɽ)Ʌ٥)UɕɹѼ=)9ɅͭݥɅéɕѥɔ)аԵ啅ȵ ՙЁ͕Ёٕд)Ёѹ͡ݥѠ͕ٕɕѥٕ́)ɥ̸Q䁡԰م) ՙЁѡٕѵЁ̸ͥ)Qѹ͡Êéɕɹ́ȁፕ)ѡѽɭа́ ՙЁչɝ)ѕȁɝ'S%Ս́Mɸ5̰)ݡ݅́ͥѥЁ͕̀ѱ)Ʌ͕ɥѥ̧'S%ݽѠՍɔ)ѡ́͡ɔɥ ՙӊéѹ)ЁɕɸѡЁٕд)Ёݡ ՙЁ݅̀啅́)=ѡȁ͕ٕݡЁ ՙЁ݅)݅ѕѼٕЁѡȁ)ͼ͕Ёѡȁѹ̰ٕ͡Դ)䁉ɥѡѽѡȁɽ)ѡ ՙЁAѹ͡1ѕ A0!)չͽͽ́ѡЁݕɔѕ)Ʌɥ䁽ЁٽȁݥѠ]MɕаՍ)́ɥɕ̀ɥ͡ɔ)ɥ]Ё͹䀡Ԕɕɸ(ˊ %99 %0!%MQ=IgMɥ ܹ5ɜ) ݕѡхЁѡѹ͡)͔ ՙӊéٕѥɕȀ)ձ啅Ȁܤȁ́)ѡ܁ɕ܁ԸܔЁ)ٕѕݥѠ ՙЁݕЁȰؔ)ѕȁ ՙӊḛ́ѹȁݡ)ٕѕİ܁ݽձٔ)ٕȀ԰ݥѡȁ啅̸%Ʌа)İٕѕѡ܁)ɕ͕Ѽ䀐Ȱܸ) ɭ͡ɔ!ѡ݅ѕ́ѡM)%Ȱ ՙЁ͕ѥ́д)ϊdѼ͡ɕ́ݸд)9܁ѕѥ䰁 ɬ)͡ɔ!ѡ݅䀡 Qɥ)͡ɔٕɅܸ 5а A0)ܔѡ͡ɕ́ Q)͡ɕȁᕍѥٔ݅́M)Mхѽ!ݥѠ ՙЁ) ɭ͡ɔ!ѡ݅Ѽ A3é )͡ɕ́ȀĸÊ'S$ɔѡ ՙ)ѼեɔѡQMхѽ)ѡ՝Ёe͕ ՙи%݅