Warren Buffett’s Berkshire Hathaway Inc.’s 2018 Annual Shareholders Letter was released last Saturday morning. This letter has been required reading for me for as long as I can remember. There are always lessons to be gleaned from his letter which can help all of us to be better investors and smarter financially.
Below are my comments, followed by selected portions of Buffett’s writings (in italics) from the 2018 Berkshire Hathaway Annual Letter.
WWM: It is clear that Buffett realizes that not all of his investments will succeed. He knows that many of the companies, or trees as he refers to them below, will not be able to adapt and be successful in the future.
- Buffett: Investors who evaluate Berkshire sometimes obsess on the details of our many and diverse businesses – our economic “trees,” so to speak. Analysis of that type can be mind-numbing, given that we own a vast array of specimens, ranging from twigs to redwoods. A few of our trees are diseased and unlikely to be around a decade from now. Many others, though, are destined to grow in size and beauty.
Buffett knows that having ample cash on hand is critical for Berkshire, but is important to our clients as well. We often stress to clients that having many years of their annual withdrawal needs in fixed income should enable them to be able to sleep better at night.
- Berkshire held $112 billion at year-end in U.S. Treasury bills and other cash equivalents, and another $20 billion in miscellaneous fixed-income instruments. We consider a portion of that stash to be untouchable, having pledged to always hold at least $20 billion in cash equivalents to guard against external calamities. We have also promised to avoid any activities that could threaten our maintaining that buffer.
- Berkshire will forever remain a financial fortress. In managing, I will make expensive mistakes of commission and will also miss many opportunities, some of which should have been obvious to me. At times, our stock will tumble as investors flee from equities. But I will never risk getting caught short of cash.
Berkshire Hathaway grew in value during the 1970s through the early part of this century based on Buffett’s stock investments in many large US companies, as well as the success of its vast insurance companies. During most of this century, he has focused more on buying large companies outright, as well as making many opportunistic investments during times of crisis, such as during the financial meltdown of 2008-09. Now he has had to focus more on stock purchases again, due to the higher prices of buying companies outright.
- In the years ahead, we hope to move much of our excess liquidity into businesses that Berkshire will permanently own. The immediate prospects for that, however, are not good: Prices are sky-high for businesses possessing decent long-term prospects.
- That disappointing reality means that 2019 will likely see us again expanding our holdings of marketable equities. We continue, nevertheless, to hope for an elephant-sized acquisition.
Buffet does not try to make predictions or forecasts on the short term direction of stock prices, and does not pay attention to other short term issues, such as the Federal Reserve and economists. We agree with this approach!
- My expectation of more stock purchases is not a market call. Charlie (Munger) and I have no idea as to how stocks will behave next week or next year. Predictions of that sort have never been a part of our activities. Our thinking, rather, is focused on calculating whether a portion of an attractive business is worth more than its market price…
- Charlie and I do not view the $172.8 billion…. (their 15+ top stock investments) as a collection of ticker symbols – a financial dalliance to be terminated because of downgrades by “the Street,” expected Federal Reserve actions, possible political developments, forecasts by economists or whatever else might be the subject du jour.
Due to their large insurance business, Berkshire has built up huge cash and investment reserves, called float, which is the excess of premiums paid to them greater than the claims they have paid out. Berkshire is well prepared with funds for a major insurance loss, as we want you to be prepared for stock market declines. Both will occur. You just don’t know when a huge insurance loss or market decline will occur or the cause, in advance.
- As I have often done before, I will emphasize that this happy outcome (the build up of insurance float) is far from a sure thing: Mistakes in assessing insurance risks can be huge and can take many years to surface. (Think asbestos.) A major catastrophe that will dwarf hurricanes Katrina and Michael will occur – perhaps tomorrow, perhaps many decades from now. “The Big One” may come from a traditional source, such as a hurricane or earthquake, or it may be a total surprise involving, say, a cyber attack having disastrous consequences beyond anything insurers now contemplate. When such a mega- catastrophe strikes, we will get our share of the losses and they will be big – very big. Unlike many other insurers, however, we will be looking to add business the next day.
In his letter, Buffett tells how he started with his first stock investment in 1942. He emphasizes the importance of savings and the compound effect of the long term growth of US companies, despite political and other challenges over the decades. He attributes some of his success to “The American Tailwind,” but hopes there are bright futures worldwide and stresses that we all benefit if countries around the globe “thrive.”
- If my $114.75 (in 1942) had been invested in a no-fee S&P 500 index fund, and all dividends had been reinvested, my stake would have grown to be worth (pre-taxes) $606,811 on January 31, 2019 (the latest data available before the printing of this letter). That is a gain of 5,288 for 1.
- Those who regularly preach doom because of government budget deficits (as I regularly did myself for many years) might note that our country’s national debt has increased roughly 400-fold during the last of my 77-year periods. That’s 40,000%! Suppose you had foreseen this increase and panicked at the prospect of runaway deficits and a worthless currency. To “protect” yourself, you might have eschewed stocks and opted instead to buy 3.25 ounces of gold with your $114.75.
- And what would that supposed protection have delivered? You would now have an asset worth about $4,200, less than 1% of what would have been realized from a simple unmanaged investment in American business. The magical metal was no match for the American mettle.
- Our country’s almost unbelievable prosperity has been gained in a bipartisan manner. Since 1942, we have had seven Republican presidents and seven Democrats. In the years they served, the country contended at various times with a long period of viral inflation, a 21% prime rate, several controversial and costly wars, the resignation of a president, a pervasive collapse in home values, a paralyzing financial panic and a host of other problems. All engendered scary headlines; all are now history….
- Charlie and I happily acknowledge that much of Berkshire’s success has simply been a product of what I think should be called The American Tailwind. It is beyond arrogance for American businesses or individuals to boast that they have “done it alone.” The tidy rows of simple white crosses at Normandy should shame those who make such claims.
- There are also many other countries around the world that have bright futures. About that, we should rejoice: Americans will be both more prosperous and safer if all nations thrive. At Berkshire, we hope to invest significant sums across borders.
- Over the next 77 years, however, the major source of our gains will almost certainly be provided by The American Tailwind. We are lucky – gloriously lucky – to have that force at our back.