Saturday, May 12, 2007

Conversation Between Buffett and Munger

read it somewhere, sorry no link. Personally I really agree with what he said.

"On the housing market woes, Buffett noted how Berskshire’s housing-related businesses are getting hit. Unlike many overeager investors today, who feel compelled to run into burning buildings by buying flaming housing-related stocks on the theory that the worst is over, Buffett offered a contrary view: “My guess is that it continues for quite a while.”

No elaboration on how long is “quite a while.” But these guys think in glacial terms. Long-term is a lifetime. Therefore, “quite awhile” could mean at least “years.”

On the private equity bubble - which involves so-called private equity firms raising huge pools of money and then borrowing a lot more to buy whole companies - Buffett noted a great flaw in the scheme. Private equity firms have a “great compulsion to invest quickly.” That way, they can go out and raise another fund and keep the fees coming in. Basically, private equity firms are paid for activity, not results. And the nature of the business means that we won’t know who is successful until many years have passed.

Buffett said the “score card is lacking.”

On management compensation schemes, Buffett put the issue in perspective: “There are more problems from having the wrong management than having the wrong compensation structure. It’s more important to have the right people.”

On the record level of corporate profits in America, Buffett acknowledged the all-time high. He noted it is a weird world we live in where companies are getting 20% returns on tangible capital in a world where the long-dated T bond is yielding 4.75%. “At the moment, Corporate America is living in the best of all worlds.” History shows that these episodes don’t last.

Munger added that much of the record profit growth stems from the massive financial center, a fact that “has no precedent.”

On the best way to become a better investor, Buffett advised: “Read everything you can… after that, you have to jump in the water.” He said the difference between investing with play money and investing with real money is like the difference between reading a romance novel and doing something else.

On the health care mess, Munger said: “It’s too tough.” Buffett added: “We look for easy problems.” That may sound like a cop-out to some, but it is the core of a brilliant idea about the nature of good investing. Buffett commented how their success is not because their winners were any bigger than anyone else’s. It’s that they managed to avoid big setbacks. He mentioned a guy who was smart 99 times out of 100, but that 100th time did him in. Gotta avoid that.

On derivatives, Buffett noted how derivatives increase leverage - a “largely invisible leverage.” That could make a crash or downturn even worse, like adding gasoline to a fire. This is one of the big risks in the market today - the heavy derivative use by many firms. These instruments are untested in a crisis. We really don’t know how they will act or what they will cause people to do.

Buffett invoked the ‘87 crash as an act of forced selling. “We may not know where the danger begins or ends” with regard to derivatives. Munger added that the accounting for these instruments was deficient. People are getting paid for profits in which they are taking huge risks, like the proverbial picking up pennies in front of a steamroller"

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