Warren Buffett annual letter to shareholders; 10 investment mantras for investors

By Moneycontrol News

Billionaire investor Warren Buffett released the latest edition of his annual letter to Berkshire Hathaway's shareholders in which he emphasized on future plans, investments, new accounting change, and inability to buy big companies.

Investors not just back in India but across the world laud his achievements as a trader/investor and dream to become like him by following his investment mantras.

Warren Buffett's newsletter is closely watched because apart from details about Berkshire's operations, there are many useful investing mantras and wisdom that can be drawn from the document which comes straight from Oracle of Omaha.

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About Berkshire Operations:

Berkshire’s gain in net worth during 2017 was USD 65.3 billion, which increased the per-share book value of both our Class A and Class B stock by 23 percent.

Over the last 53 years (that is, since present management took over), per share book value has grown from USD 19 to USD 211,750, a rate of 19.1 percent compounded annually.

Here is a list of top 10 investment lessons from Warren Buffett’s Letter to Berkshire Hathaway Shareholders:

To read this year edition:

http://www.berkshirehathaway.com/2017ar/2017ar.pdf

Importance of "Sensible purchase price":

In his letter to shareholders, Buffett said that our search for new stand-alone businesses continues. The key qualities we seek are durable competitive strengths, able and high-grade management, good returns on the net tangible assets required to operate the business, opportunities for internal growth at attractive returns; and, finally, it should be available at a sensible purchase price.

Berkshire Cash Pile swells to $116 billion:

Unable to find a suitable business for acquisition, Berkshire cash pile swells to USD 116.0 billion in cash and US Treasury Bills (whose average maturity was 88 days), up from USD 86.4 billion at year-end 2016.

This extraordinary liquidity earns only a pittance. “Our smiles will broaden when we have redeployed Berkshire’s excess funds into more productive assets,” Buffett said in his newsletter.

A diversified portfolio of US equities becomes progressively less risky:

Buffett in his newsletter highlighted that in any upcoming day, week or even year, stocks will be riskier – far riskier – than the short-term US bonds.

As an investor’s investment horizon lengthens, however, a diversified portfolio of US equities becomes progressively less risky than bonds, assuming that the stocks are purchased at a sensible multiple of earnings relative to then-prevailing interest rates.

Bonds could also be risky:

“Risk-free” long-term bonds in 2012 were a far riskier investment than a long-term investment in common stocks. At that time, even a 1 percent annual rate of inflation between 2012 and 2017 would have decreased the purchasing-power of the government bond.

It is a terrible mistake for investors with long-term horizons – among them, pension funds, college endowments and savings-minded individuals – to measure their investment “risk” by their portfolio’s ratio of bonds to stocks. Often, high-grade bonds in an investment portfolio increase its risk.

Making the right investment choice:

Buffett highlighted that he and his team stuck with big, “easy” decisions and eschew activity.

During the ten-year bet, the 200-plus hedge-fund managers that were involved almost certainly made tens of thousands of buy and sell decisions.

“We simply decided to sell our bond investment at a price of more than 100 times earnings (95.7 sale price/.88 yield), those being “earnings” that could not increase during the ensuing five years. We made the sale in order to move our money into a single security – Berkshire – that, in turn, owned a diversified group of solid businesses,” he said.

Fueled by retained earnings, Berkshire’s growth in value was unlikely to be less than 8 percent annually, even if we were to experience a so-so economy. “After that kindergarten-like analysis, Protégé and I made the switch and relaxed, confident that, over time, 8% was certain to beat .88%. By a lot,” added Buffett.

“The less the prudence with which others conduct their affairs, the greater the prudence with which we must conduct our own”

Berkshire will have plenty of opportunities to make very large purchases. In the meantime, Warren Buffett and his team will stick to a simple guideline: The less the prudence with which others conduct their affairs, the greater the prudence with which we must conduct our own.

Aversion to Debt:

Once a CEO hungers for a deal, he or she will never lack for forecasts that justify the purchase. Subordinates will be cheering, envisioning enlarged domains and the compensation levels that typically increase with corporate size.

Investment bankers, smelling huge fees, will be applauding as well. (Don’t ask the barber whether you need a haircut.) If the historical performance of the target falls short of validating its acquisition, large “synergies” will be forecast. Spreadsheets never disappoint.

The ample availability of extraordinarily cheap debt in 2017 further fueled purchase activity. After all, even a high-priced deal will usually boost per-share earnings if it is debt-financed.

“At Berkshire, in contrast, we evaluate acquisitions on an all-equity basis, knowing that our taste for overall debt is very low and that to assign a large portion of our debt to any individual business would generally be fallacious (leaving aside certain exceptions, such as debt dedicated to Clayton’s lending portfolio or to the fixed-asset commitments at our regulated utilities),” said the newsletter.

“We also never factor in, nor do we often find synergies. Our aversion to leverage has dampened our returns over the years. But Charlie and I (Buffett) sleep well. Both of us believe it is insane to risk what you have and need in order to obtain what you don’t need,” it said.

Buffett said that we held this view 50 years ago when we each ran an investment partnership, funded by a few friends and relatives who trusted us. We also hold it today after a million or so “partners” have joined us at Berkshire.

Investments:

Buffett list out fifteen common stock investments that at year-end had the largest market value. On its balance sheet, Berkshire carries its Kraft Heinz holding at a GAAP figure of USD 17.6 billion. The shares had a year-end market value of USD 25.3 billion, and a cost basis of USD 9.8 billion.

Performance comes, performance goes. Fees never falter

Let me emphasize that there was nothing aberrational about stock-market behavior over the ten-year stretch, Buffett highlighted in his newsletter talking about fund-of-fund performance.

“If a poll of investment “experts” had been asked late in 2007 for a forecast of long-term common-stock returns, their guesses would have likely averaged close to the 8.5 percent actually delivered by the S&P 500,” he said.

Making money in that environment should have been easy. Indeed, Wall Street “helpers” earned staggering sums. While this group prospered, however, many of their investors experienced a lost decade. Performance comes, performance goes. Fees never falter.

Focus on Business:

Charlie Munger and Buffett view the marketable common stocks that Berkshire owns as interests in businesses, not as ticker symbols to be bought or sold based on their “chart” patterns, the “target” prices of analysts or the opinions of media pundits.

“Instead, we simply believe that if the businesses of the investees are successful (as we believe most will be) our investments will be successful as well. Sometimes the payoffs to us will be modest; occasionally the cash register will ring loudly,” he said.

And sometimes, Buffett admits that he will make expensive mistakes. “Overall – and over time – we should get decent results. In America, equity investors have the wind at their back,” concludes Buffett.