Tuesday, November 22, 2011

Buffett Doubts Euro Survival, Views European Stocks Favorably

Warren Buffett said the following about Europe yesterday to CNBC:

CNBC: Buffett Doubts Euro Survival

System, As Designed, Reveals Major Flaw
"Europe will either have to come closer together or there will have to be some other rearrangement because this system is not working," Buffett said in an interview.

Asked whether the union would survive this crisis, Buffett said: "That's in doubt now."

He went on to say...

"17 countries in the world gave up the right to issue bonds in their own currency. That is 100 degrees away from being able to issue them in your own currency like the United States," he said.

Fundamentally different. Buffett said he doesn't like the region's debt but thinks European stocks are attractive:

European Stocks
"...I left an order to buy one European stock which we will undoubtedly be buying today and we'll probably be buying it tomorrow and the next day and next week and next month," Buffett said.

"I can think of a dozen European stocks that are quite attractive."

So Buffett thinks Europe is in for some serious difficulty yet not only is he buying stocks...he's buying European stocks.

Prior post on European stocks: Europe, The Dividend Mecca

Lousy macro yet favorable micro opportunities isn't at all inconsistent. It does set up an interesting tension between the macro approaches to investing, seemingly ever more popular, and good old-fashioned micro-level stock analysis.

Macro vs Micro
The macro-environment seemed very favorable in the late 1990s yet that turned out to be a very difficult to make long-term investments. The reason was simple: prevailing price levels for many individual securities were too high relative to intrinsic value.

The opposite is also true.

Things can seem, and in fact be, rather ugly (and potentially unstable in not foreseeable near term ways) at the macro level but, since prices are low, there's many attractive individual investments that should do just fine on a total return basis over a longer cycle.

These days, things are certainly a mess at the macro level, seemingly in an endless way, yet there is no shortage of attractive individual stocks. So, in the right spots, the micro looks fine even if the macro problems will probably go on for years. In fact, stock prices will likely eventually get even cheaper with just awful price action at times.

None of this stops high quality well run business franchises from creating value over the long haul.

One approach is to try and time this and buy when some of the darker clouds seem to have passed.

Another approach is to focus on price versus value and accept that the quotes may look terrible for quite some time.

As far as the first approach, I have no idea how to time things consistently well and know of few, if any, successful long-term investors who do.

On the other hand, I know of many successful investors who've built a track record focusing on price versus value. The discipline of paying a discount to value consistently well may not be easy but, at least by comparison, is doable with some patience, homework, and sound judgment.

Some may wait for the micro and macro to be aligned but I'm guessing the world will rarely, if ever, be that way. A day when the "sun is shining" at the macro level while prices of individual securities are cheap doesn't seem compatible.

You buy quality farmland during an extended drought.

You buy shares of a quality business when the world feels or is uncertain.

The price of even the best stocks could and probably will go much lower as the worst possible outcomes play out in Europe or otherwise. There is always a level of uncertainty ahead, little of which we can know about with any conviction.

The buy orders usually have to begin being placed when an understandable quality business is selling at a discount yet the world and market price action seems rather less than serene (understandable is in the eye of the investor, of course).

Having said that, those who can't stomach the price action should certainly avoid buying.

At this recent event hosted by Bloomberg on November 17th, the CEO of Blackrock (BLK) Larry Fink tells a story about being at an event with Warren Buffett when the markets were down and in turmoil. He said:

Fink Discusses Warren Buffett's Investment Strategy

"I was with Warren one time when the markets were absolutely falling out of bed, and he got up 2 or 3 times and was buying more stocks. So we all envy and look at Warren Buffett as a great investor, yet most people have no inclination to invest like him. We should be more like Buffett and think about how we can invest for a long cycle solution and if you do that you're going to have higher than normalized market returns." - Larry Fink

I understand why many try to wait until there is more certainty in the world. I mean, loss aversion is a powerful force. The fact is, it's unwise for an investor to buy unless he or she has a high level of conviction in the business they are buying shares in and the discount to plain value seems obvious.

Yet, when those favorable circumstances are in place (ie. stock seems clearly cheap and conviction level is high) but the investor holds off on buying out of concern for the very real possibility that stock prices will temporarily go lower, it can be a real mistake.

The risk of the stock going down temporarily usually ends up, understandably, being front of mind. Yet, what happens if the stock rallies and the chance to own enough shares at a discount disappears?

That's a separate but very real risk. It's certainly okay if a stock one lacks a strong conviction in "gets away" as it rallies to a higher price (a price that no longer provides an acceptable margin of safety).

On the other hand, miss the chance to own discounted shares of something that one has a strong conviction in due to fear of a temporary drop in price eventually cuts into long-term returns.

These errors of omission are expensive though most of us focus on the opposite. It inevitably happens to even the very best investors. Buffett has said that some of his biggest investing mistakes were errors of omission.

There are many seemingly inexpensive stocks right now but it's not possible to fully understand them all. Some stocks take years to figure out and even longer for a very good price to come along.

Shares of an understandable business, in terms of long-term risks and opportunities, selling at a plain discount to value tend to not come along all that often. At least that is the case for me.

With that in mind, if shares of some business I feel strongly about as a long-term investment is finally being offered by Mr. Market at a large enough discount, it's time to decisively buy a meaningful amount. After that the shares will often proceed to get even cheaper. That's a good thing in the long run.

Successful investing starts with buying an asset at a discount to estimated value and, if judged correctly, benefiting from the compounded long-term effects (5 or 10 years...preferably more) of what the asset itself produces. The near or medium term price action is only of interest if it provides an opportunity for more shares to be purchased by the owners at a discount from time to time (buybacks included).

Anyone primarily interested in near term price action will probably find most or all of this to be academic at best.

Adam

Related posts:
Buffett on Europe: Investing While Uncertain - Part II
Buffett on Europe: Investing While Uncertain
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