Wednesday, January 4, 2012

Warren Buffett: "Hyperkinetic" Investment Managers

From the 1986 Berkshire Hathaway (BRKa) shareholder letter:

"We should note that we expect to keep permanently our three primary holdings, Capital Cities/ABC, Inc., GEICO Corporation, and The Washington Post. Even if these securities were to appear significantly overpriced, we would not anticipate selling them, just as we would not sell See's or Buffalo Evening News if someone were to offer us a price far above what we believe those businesses are worth.

This attitude may seem old-fashioned in a corporate world in which activity has become the order of the day. The modern manager refers to his 'portfolio' of businesses - meaning that all of them are candidates for 'restructuring' whenever such a move is dictated by Wall Street preferences, operating conditions or a new corporate 'concept.' (Restructuring is defined narrowly, however: it extends only to dumping offending businesses, not to dumping the officers and directors who bought the businesses in the first place. 'Hate the sin but love the sinner' is a theology as popular with the Fortune 500 as it is with the Salvation Army.)

Investment managers are even more hyperkinetic: their behavior during trading hours makes whirling dervishes appear sedated by comparison. Indeed, the term 'institutional investor' is becoming one of those self-contradictions called an oxymoron...

Despite the enthusiasm for activity that has swept business and financial America, we will stick with our 'til-death-do-us-part policy. It's the only one with which Charlie and I are comfortable, it produces decent results, and it lets our managers and those of our investees run their businesses free of distractions."

Warren Buffett wrote the above in an era when the average holding period for stocks was in the 2 to 3 year range. These days, the average holding period is more like a few months. So if Buffett saw market participants as hyperkinetic, whirling dervishes back then what does he think now?

Roughly 25 years ago, Buffett said he expected to keep the three primary holdings permanently. Here's what happened to those three stocks:

-In 1995, Walt Disney Co. (DIS) offered to buy Capital Cities/ABC, Inc. and closed on the deal in early 1996. Berkshire received cash and Disney stock in exchange for the 20 million Capital Cities/ABC shares owned by Berkshire (cost basis $ 345 million but worth around $ 2.5 billion at the end of 1995).  The Disney shares were only held for a few more years. The Walt Disney Co. shares haven't done much in the decade plus since they were sold, but the business has done just fine. Another case where business value had to "catch up" to a bloated price to earnings ratio.

-Also in 1996, Berkshire purchased the remainder of GEICO's stock they did not already own causing the company to be converted into a wholly-owned subsidiary.

-Washington Post (WPO), of course, remains in the Berkshire equity portfolio.

So Buffett and Munger may often go in with the intention to own something "forever".  At least so far, for two out of the three that's what has happened. In fact, by buying the remaining shares of GEICO the commitment to GEICO as a long-term investment has been only increased.

Naturally, over a longer time frame, something unforeseeable comes along like the Disney-Cap Cities/ABC deal where the buyer wants the business and is willing to pay a price for the shares that is attractive enough to the seller.

It's not that selling never makes sense. If the moat deteriorates to where the economics become very unattractive (especially if a large percent of net worth), or cash is needed to fund the purchase of an unusually attractive investment, sometimes a sale makes good sense. Yet, a bias toward not selling once you own shares of a good business (or an entire business, of course) minimizes frictional costs, and potential mistakes, while allowing the long-term effects of compounding to benefit long-term owners.

Adam

Long position in BRKb established at lower prices
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