This past weekend, I made my annual trek to Omaha for the Berkshire Hathaway shareholders meeting. Once again, the wisdom imparted by Warren Buffett and Charlie Munger was well worth the trip, not to mention the spectacle of 40,000 doting stockholders enthusiastically appreciating every word from the Sages of Omaha.
The first topic of discussion was Goldman Sachs and its SEC lawsuit over failure to reveal counterparty positions for the guarantee of a collateralized mortgage obligation by an insurance company. The transaction was arranged by Goldman so that a hedge fund could bet against the underlying mortgage bonds by purchasing only the guarantee (a/k/a credit default swap) and collecting under it when the bonds went into default.
In defense of Goldman, Warren cited Berkshire Hathaway’s own guarantee of a multiple state bond obligation a couple of years ago at the request of Lehman Brothers. Berkshire neither knew nor cared about the positions of counterparties in that transaction because counterparties are always taking different positions; rather it was concerned about making a good investment. Warren said that the insurance company in the Goldman transaction was in the business of guaranteeing debt issues and should not have recourse claims just for making a bad investment decision. He said that the allegation against Goldman in and of itself should not permanently damage its reputation. Charlie said that were he at the SEC, he would have voted with the minority position against bringing the lawsuit.
Ironically, the SEC lawsuit against Goldman is to the financial benefit of Berkshire which holds $5 billion of Goldman’s 10% preferred stock. In view of the lawsuit, federal regulators are unlikely to permit Goldman to retire its preferred stock any time soon, and meanwhile Berkshire will continue to enjoy its hefty 10% dividend which is far greater than other yields currently available in the marketplace for investments of similar quality.
Financial Institution Regulation
On the subject of financial institution regulation, Charlie was the most outspoken in calling for new regulations to provide for a simpler and safer conduct of business by major financial institutions. His position is that the government regulatory system has been so permissive and the behavior of the financial institutions so excessive that regulations need to be changed. He said that were he in charge, his regulatory changes would make Paul Volcker “look like a sissy.” Charlie is similarly in favor of regulating the derivatives market.
Warren described Berkshire’s $63 billion derivative position as safe and at a level of only 1% of the derivative exposure of some other institutions. He explained that language in pending legislation would not require Berkshire to post collateral unless Berkshire Hathaway was found to be dangerous to the financial system, a highly unlikely event.
Greece and Sovereign Debt
On the subject of Greece, Warren advocated always to distinguish between countries which borrow in their own currencies and countries like Greece and many others which do not. Countries which borrow in their own currencies do not default; they run their money printing presses. Generally, he has become bearish on the ability of currencies to maintain their value because of all the government deficit spending and increase in indebtedness. He thinks that prospects for significant inflation have increased not only in the U.S., but around the world. As for Greece, he said, “I don’t know how the movie is going to end, and I try not to go to movies like that.”
Warren has prepared for two yet to be named successors, a Chief Executive Office and a Chief Investment Officer. Berkshire’s future CEO is widely regarded to be David Sokol, the highly regarded CEO of MidAmerican Energy Holdings Company, Berkshire’s utility subsidiary. As for Berkshire’s future CIO, Warren said that his current four candidates are not all the same as last year, and that those under consideration performed well in 2009. He pointed out that Berkshire’s investments are in outstanding, well-managed companies, and that the Berkshire Hathaway board of directors would have plenty of time to choose a good CIO should something happen to him.
Berkshire Hathaway has only 21 employees at headquarters. Subsidiary managers are held accountable, but they run their businesses with a minimum amount of direction from Omaha. Warren does require a letter from his managers indicating who they feel should be their successor, and he requires them to call about anything questionable that comes up. While other companies may engage in questionable activities, even if it is generally accepted practice such behavior is not acceptable at Berkshire Hathaway, and managers are required to report any such activity to Warren himself.
Stocks continue to be Warren’s choice of investments as compared with cash which returns practically nothing and bonds for which interest rate risk has increased. He believes that the next generation of Americans will live better than the current one, and he is generally optimistic about the future. And if we do get into trouble, he says not to blame the Federal Reserve System, but to blame Congress.
Business as Usual
So for Berkshire Hathaway, it is business as usual, more difficult because Berkshire has such large amounts of cash to deploy, but the same in terms of seeking to purchase good companies with strong management and wide moats at discounts to intrinsic value. Warren is still following the investment principles set forth by his Columbia University professor Benjamin Graham in The Intelligent Investor. Sounds like a formula for continued success.