What are the biggest investing mistakes Warren Buffett has made and what can be learned from them?
- 1965 - bought control in of Berkshire Hathaway (BRK) a textile manufacturing business that he knew to be unpromising. Enticed because of cheap price. Doing this had worked in the past. But realizing by this time strategy was not ideal. Cigar butt approach only ideal if you're a liquidator as time is the enemy of mediocre businesses.
- Few years later - made cigar butt mistake again. Soon after BRK purchase, bought Hochschild Kohn, a department store, bought at significant discount to book value. Good management and hidden value/optionality in real estate and LIFO. Sold business three years later for same price paid. Fair price for wonderful company better than wonderful price for fair company - Munger knew this, Buffett had to learn.Every once in a while a marvelous business meets a one-time huge but solvable problem as was the case with AmEx and GEICO. But overall, done better when avoiding dragons than slaying them. Also, made mistakes because of not recognizing "institutional imperatives" of businesses. Made some expensive mistakes because ignored the power of this. These imperatives lead to 4 common/irrational behaviors of businesses. So BRK tries to look for companies that are aware of this. Also, made mistakes with regards to not associating with companies managed by people with decent economic characteristics.
- 1981 - If stock positions in publicly traded companies do not provide full value for BRK shareholders in terms of undistributed earnings, then there has been a mistake made with with regards to 1) management, 2) the future economics of the business or 3) the price paid. The second is the most common error and made it this year: made prediction on rosy future of aluminum business and got burned. Having a publicly traded position to trade out of can be a plus.
- 1988 - Missed some huge opportunities, errors of omission rather than commission. Not missing companies dependent on esoteric or high technology (Xerox, Apple) or brilliant merchandising (Wal-Mart). Don't have the competence to spot these guys early. But missed out on Fannie Mae, which was well understood. Decided to buy 30mm shares, $350-$450mm investment. But stopped buying after 7mm shares as price climbed. Blew out of position b/c of "distaste" for small positions. By 1991, had that position been taken, would of resulted in a $1.4bn gain.
- 1990 - Made $358mm convertible preferred in USAir Group. Made unforced error. Right when industry and post-merger issues caused problems. Should have known as most airline mergers followed by ops difficulties. Even with latter resolved, industry economics and pricing tactics in a commodity-type product makes it tougher to be smarter than dumbest competitor.
- 1991 - Had owned preferreds of Salomon Inc but had to get involved in Salomon Inc personally. Said in 1990 that USAir investment should be okay unless "industry is decimated" in next few years. Industry was decimated in 1991 with 3 airlines going bankrupt. Another 2 filed Chapter 11 couple months into 1992. Domino effect because Chapter 11 allows the airliners to operate at below industry costs (lower capital costs and funding losses via 363 asset sales). Solvent competitors hit with knockout blows because of ongoing fare-reductions maintained by those operating in Chapter 11.
- 1993 - Sold 10mm shares of Cap Cities at $63/share. Year-end 1994 was at $85.25/share, a difference of $222.5mm. This was a repeat mistake - bought in 1986 at $17.25/share after having sold it in 1978-1980 at $4.30/share.
- 1994 - $358mm preferred stock in USAir had dividend suspended. Competition protected from regulation. When deregulation occurred, disaster not immediate. But as lower cost carriers expanded, other legacy carriers started to cut fares. In unregulated commodity business, costs must competitive or death. Strength of high union salaries in bankruptcy court not understood. Wrote investment down to 25 cents on the dollar to $89.5mm. May have been tempted by seniority of security but still dumb.
- 1995 - Salomon preferreds' option to convert into common shares has not resulted in any value. $700mm security when bought in 1987, even then BRK had no insights with regards to the "future profitability of investment banking". DJI has doubled since 1987. 9% yearly coupon has made this unattractive. Unless converted, 20% matures each year from 1995-1999. Did not elect to convert 1st 20% and got $140mm put back. But 4 more chances to convert. Aside from Gillette, the preferreds have given no better after-tax returns than what would have been gotten in medium-term fixed income securities.
- 1996 - Early in the year tried to sell USAir preferreds for $335mm but no takers. But was lucky because it actually worked out due to accruing penalty dividends on arrearages that were eventually paid out in second half of year. By year-end worth $358mm and collected on amounts owed in second half.
- 1998 - Decision to sell McDonald's was a big mistake. Portfolio actions taken during the year decreased the gain for the year. Should not have done anything during market hours during the year.
I left the hedge fund industry a few years back to study the Berkshire Hathaway model with the goal of trying to replicate it. I've learned that the Berkshire model is a liability funding strategy in as much as it is an asset management strategy.
Most of us focus on the investing side, but the secret sauce to Buffett's immense wealth is his "deep value" funding strategy. One might call the investing strategy the hamburger patty. Of course, both the yummy sauce and perfectly-cooked meat are important in making an amazing $373 billion sandwich.
Here, I gave more of a bulleted list. These are my interpretations and critiques, many of which are evolving (i.e. will be incomplete or wrong). So, I am still learning.