I must admit that I don’t always thoroughly read the annual reports of the stocks I actually own, but I religiously read the annual report of Berkshire Hathaway as soon as it is published. With all the turmoil in the financial markets, I was anticipating this year’s report more eagerly than usual and Warren Buffet did not disappoint. You can find the entire report here and I strongly encourage you to read it in its entirety (it is only 25 pages long and lucidly written, as always).
- Buffet acknowledges that we are facing unprecedented economic times and Government did not have an option – it had to take action on a massive scale. If you recall, the intervention came for criticism over bailouts but Buffet reminds us: “Like it or not, the inhabitants of Wall Street, Main Street and the various Side Streets of America were all in the same boat.”
- He suspects that the intervention will “almost certainly bring on unwelcome aftereffects” with inflation a likely consequence.
- Buffett is optimistic that America will overcome the latest obstacle like it has done many times before. “America’s best days like ahead.”
- He cautions readers from leaping to conclusions about stock market returns based on current economic conditions. “We’re certain, for example, that the economy will be in shambles throughout 2009 – and, for that matter, probably well beyond – but that conclusion does not tell us whether the stock market will rise or fall.”
- “Beware of geeks bearing formulas”, Buffet often likes to say. The huge losses in mortgage-backed securities are a direct result of investors, rating agencies and Wall Street extrapolating the loss experience of a past housing market with modest price appreciation and negligible speculation to a diametrically different market.
- Buffett calls his purchase of ConocoPhillips when oil and gas prices were at a peak “a major mistake of commission”. Berkshire purchased fixed-income securities in Wrigley, Goldman Sachs and General Electric and sold some of investments in Johnson & Johnson, Proctor & Gamble and ConocoPhilips.
- From underpricing risk, the market has swung completely the other way and is now overpricing it. In fact, Buffett goes as far as calling a bubble in US treasuries and reiterates the point he made in a New York Times Op-ed: “Clinging to cash equivalents or long-term government bonds at present yields is almost certainly a terrible policy if continued for long. Holders of these instruments, of course, have felt increasingly comfortable – in fact, almost smug – in following this policy as financial turmoil has mounted. They regard their judgment confirmed when they hear commentators proclaim “cash is king,” even though that wonderful cash is earning close to nothing and will surely find its purchasing power eroded over time.”
- Buffett shows that the Black-Scholes formula for pricing options can produce absurd results if it is applied to extended time periods.
The entire archive of Buffet’s letter to shareholders is available here.