Tuesday, October 4, 2011

Buffett on Opportunities, Uncertainty, and the Likelihood of a Recession

There are plenty of scary headlines out there. Consumer, investor, and business confidence is low. At a time when the global markets are selling off in a major way over fears of all kinds, below are some things of note said by Buffett...

CNBC: Warren Buffett Buying Stock Bargains

From this interview with Andrew Ross Sorkin:

On Buying Stock Other Than Berkshire's (BRKa)
"...in the current quarter, we bought net $ 4 billion of common equities, which was similar to the total amount we bought in the first half. The cheaper stocks get, the better I like to buy them, whether it's our stock or somebody else's."

On Uncertainty
"I don't have any uncertainty. We are investing at Berkshire a record $7 billion in plant and equipment this year. Never before that much; 90-plus percent is in the United States. 

On Bank of America (BAC)
"It's a fabulous underlying business, but it's got a lot of problems from the past..."

From this New York Times article:

"We are coming out of this one, I am virtually certain," Mr. Buffett said. "I see figures on 70-some companies daily. I have a lot of information coming in and basically everything to do with home construction is as bad as it has ever been, and everything else is getting better."

This contrasts starkly with some of the recent headlines and how the markets are behaving. Some samples that I've seen since just since last Friday:

"It's Going to Get a Lot Worse": ECRI's Achuthan Says New Recession Unavoidable

An Unsettling Trifecta for Market Contagion

80% Chance of Bear Market in 2012

Think the Economy's Bad? 'You Haven't Seen Anything'

Europe's 'Lehman Moment' is here

So plenty to scare an investor yet some of the views expressed in those articles can coexist with Buffett's near term and longer term optimism.

Some of the worst outcomes imagined for the capital markets, the financial system, or the global economy may, in fact, happen. Who knows. That does not mean the shares of a good business bought at a nice discount to value now won't be worth a whole lot more in ten years or so. You get the best prices on securities when things look just plain awful.

The question is how much short-term pain can one handle.

It's pretty tough to pick the bottom. In my experience at least, if I try to wait until a stock or the markets overall bottom I'll end up with relatively small positions in the businesses I happen to understand the best. A classic error of omission.

It's the overwhelming influence of loss aversion that often puts errors of omission in the background. That doesn't make errors of omission any less costly.

What's cheap now may get a lot cheaper. I don't doubt that things could get ugly in a macroeconomic sense for a while...making what seems cheap even more so.

Thanks to ETFs and other factors stocks trade in tandem more than ever. Participants in the markets are seemingly as macro focused and short-term oriented as ever.

Also, seemingly in some ways by design, capital markets now operate in a manner that is less stable than what is otherwise possible*.

The players who profit from the current structure sure like the status quo but that doesn't make it wise.

It is the nature of markets to go to emotional extremes. In the current form that nature is amplified. This would seem to almost guarantees a greater than otherwise mispricing of individual securities.

For the long-term investor with a horizon beyond the next headline, there is no better situation, even if some of the stock price action gets ugly for quite a while. What long-term investor would not want quality shares of businesses selling at a discount to intrinsic value that end up getting an even bigger discount?

This only works, of course, if the buyer has the stomach and temperament to hold onto shares and an appropriate discount to value was paid for the right shares.

I've said on more than a few occasions that capital markets are operating far from optimally. It is too much of a casino with mispricing the norm. These weaknesses, even if not great for civilization, provide great opportunities to the informed and disciplined investor.

Adam

* A big assist goes to things like the advent of widespread derivatives usage, various other forms of not-so-transparent leverage, short-termism, and more generally allowing the capital markets to morph into a casino.
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