For Warren Buffett, the cash option is priceless

The Globe and Mail - September 24, 2012
For Warren Buffett, the cash option is priceless

By BOYD ERMAN

The Oracle of Omaha's company has $41-billion sitting around earning negligible interest. But his method of investing does not make this a waste of funds

If holding cash in your portfolio for little return is driving you crazy, maybe it's time to look at it the way Warren Buffett does.

Mr. Buffett, the world's most successful (and richest) value investor, is sitting on almost $41- billion (U.S.) of cash at his Berkshire Hathaway holding company, the most in a year. Partly, that heap of greenbacks is a safety blanket. But it's something more. As with most matters Buffett, the strategy is more complicated than it looks, Alice Schroeder says.

She should know. The former Wall Street analyst may know more about Mr. Buffett than anyone outside his family and inner circle: She spent more than 2,000 hours with him while writing The Snowball: Warren Buffett and the Business of Life.

Ms. Schroeder argues that to Mr. Buffett, cash is not just an asset class that is returning next to nothing. It is a call option that can be priced. When he thinks that option is cheap, relative to the ability of cash to buy assets, he is willing to put up with super-low interest rates, said Ms. Schroeder, who followed Mr. Buffett for years before she became his biographer.

"He thinks of cash differently than conventional investors," Ms. Schroeder says. "This is one of the most important things I learned from him: the optionality of cash. He thinks of cash as a call option with no expiration date, an option on every asset class, with no strike price."

It is a pretty fundamental insight. Because once an investor looks at cash as an option – in essence, the price of being able to scoop up a bargain when it becomes available – it is less tempting to be bothered by the fact that in the short term, it earns almost nothing.

Suddenly, an investor's asset allocation decisions are not simply between earning nothing in cash and earning something in bonds or stocks. The key question becomes: How much can the cash earn if I have it when I need it to buy other assets that are cheap, versus the upfront cost of holding it?

"There's a perception that Buffett just likes cash and lets cash build up, but that optionality is actually pretty mathematically based, even if he does the math in his head, which he almost always does," Ms. Schroeder said last week in Toronto, drawing on knowledge gained during the five years she spent working on The Snowball.

Much of that time was spent on the couch in his office in Omaha, Neb., where she said nothing much happens but a lot of reading and thinking. In that time, and the hours spent digging through his files, she said she discovered that while Mr. Buffett likes to speak in folksy aphorisms, in fact, his investing is very complicated.

For someone driven by a quest to find things that are undervalued, as Mr. Buffett is, knowing the price of cash as a call option is the key. The "call premium" on the cash option is essentially the opportunity cost. It is the difference between what he can earn somewhere else and the nil return on holding cash, said Ms. Schroeder, addressing the crowd at the annual Investment Industry Association of Canada conference, after which she sat down for a Canadian exclusive interview.

 "There are times when he feels like that option premium is really cheap, compared to the intrinsic value of the option itself," she says.

The option theory of cash is something Mr. Buffett does not tend to get into when he is up on stage at his annual investor meeting, dishing out his homespun take on life and investing. That's probably because Mr. Buffett views himself as a teacher, and he wants to reach a broad audience, she says.

"Generally speaking, he likes to keep concepts simple," Ms. Schroeder says. "He says, 'I like to have all that cash around because you can use it.'"

However, it is a lesson that Ms. Schroeder said she wishes more people would learn. For many investors, there is a sense that holding cash is a cop-out. Investors who see their fund managers holding a lot of cash tend to think that they are not getting their money's worth, which is wrong, she says.
"If investors would realize that what they are paying for is someone to have the expertise to know when to buy a call option called cash, and move in and out of that, then perhaps there might be more value placed on that service." 

Buffett is a happy man. In the second quarter of this year, his firm, Berkshire Hathaway, made $6.4 billion in net profit, the most it has ever made in a three-month period

Warren Buffett’s firm just made the most money ever in a single quarter

 Tap to expand image

Warren Buffett is a happy man. In the second quarter of this year, his firm, Berkshire Hathaway, made $6.4 billion in net profit, the most it has ever made in a three-month period.  To put that in perspective, ExxonMobil made $8.8 billion and Apple made $7.7 billion in the same period—and they make oil and some of the world’s most beloved consumer devices, respectively.

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The firm’s profits in the second quarter were boosted by its stakes in other companies, as the share prices of most of the American companies Buffett invests like Wells Fargo have soared, and by gains from derivatives. US railroads, through the company it owns, BNSF, contributed almost $1 billion to the company’s bottom line. Berkshire’s more expensive Class A shares have risen 6% so far this year, and are worth more than $180,000 each.

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Berkshire Hathaway’s huge bump in earnings exceeds the $5.1 billion that the firm made in a single quarter back in 2005. And it’s a long way from 2009, when it posted its first quarterly loss in eight years during the financial crisis. Last year, Berkshire even acquired a beloved ketchup maker. “With Heinz, Berkshire now owns 8 1/2 companies that, were they stand-alone businesses, would be in the Fortune 500,” Buffett said in his last annual report. “Only 491 1/2 to go.”

http://qz.com/244132/warren-buffetts-firm-just-made-the-most-money-ever-in-a-single-quarter/

Could this be the crash we have all been waiting for?

A World Of Worry

There are plenty of reasons for stock markets to fall. The Ukraine crisis is intensifying, as the US and Europe sharpen up their sanctions. The eurozone is sliding ever closer to deflation, and today's manufacturing data disappointed (again). Argentina is in default. The IMF has been warning of a China bubble. The Middle East horrorshow is plunging new depths.

Heard

In May, the FTSE 100 hit a peak of 6866. Right now, it trades at a three-and-a-half month low of 6644, some 3.2% off its peak.

That isn't a crash, yet.

But it still makes today a marginally more tempting to buy, say, a FTSE 100 tracker, as you are getting 3.2% more stock for your money.

And there could be more discounts to follow.

But the biggest bargains can be found in individual company stocks.

Big Names, Big Discounts

If you like buying stocks at bargain prices, today's wobbles have tossed up a host of big names at low prices.

Barclays (LSE: BARC) has seen its share price has fall nearly 25% to 225p since January. A string of scandals and regulatory investigations, falling investment banking profits, and the wider economic uncertainty have all dented confidence, but today's discount looks a great time to buy.

At 479p, oil major BP (LSE: BP) is down nearly 9% since late June, as its 20% stake in Kremlin-owned Russian oil company Rosneft leaves it more exposed to US and European sanctions than any other British company.

Two other FTSE 100 stalwarts, GlaxoSmithKline (LSE: GSK) and Tesco (LSE: TSCO), are down 16% and 30% respectively over the past year. Falling profits and the Chinese bribery scandal have torpedoed the Glaxo share price, while cash-strapped customers, cut-price German competition and a loss of strategic direction have sunk Tesco.

The FTSE 100 is falling, and could fall further still. But there's no need to hang around, there are already plenty of bargains to be had.

https://uk.finance.yahoo.com/news/stock-markets-falling-time-buy-134150048.html

101 Warren Buffett Ways to Close a Deal – Lessons from the World’s Greatest Dealmaker

101 Warren Ways to Close a Deal

Warren Way 1. Opportunity attracts money. “Money will always flow toward opportunity, and there is an abundance of that in America,” Buffett told his stockholders in 2011.

Warren Way 2. How to choose deals. Buffett to the Wall Street Journal: “It’s like when you marry a girl. Is it her eyes? Her personality? It’s a whole bunch of things you can’t separate.”

Warren Way 3. Integrity matters. “Somebody once said that in looking for people to hire, you look for three qualities: integrity, intelligence and energy,” Buffett told the Omaha World-Herald, long before he purchased the newspaper in 2011. “And if they don’t have the first, the other two will kill you.”

Warren Way 4. Avoid risky deals. “We’ve done better by avoiding dragons rather than by slaying them,” says Buffett.

Warren Way 5. On choosing deals. “I want to be in businesses so good that even a dummy can make money,” Buffett told Fortune magazine in 1988.

Warren Way 6. On price. Buffett is widely quoted as saying: “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”

Warren Way 7. Investment criteria in a nutshell. Here are Buffett’s views from his 1996 annual report. “Your goal as an investor should be simply to purchase, at a rational price, a part interest in an easily understood business whose earnings are virtually certain to be materially higher, five, ten and twenty years from now. Over time, you will find only a few companies that meet those standards— so when you see one that qualifies, you should buy a meaningful amount of stock.” Or in Buffett’s case, make a deal for the whole company.

Warren Way 8. Don’t let your deal-making reach exceed your grasp. “I don’t try to jump over seven-foot bars: I look around for one-foot bars that I can step over,” says Buffett.

Warren Way 9. Have the discipline of Ted Williams. From The Essays of Warren Buffett: “We try to exert a Ted Williams kind of discipline. In his bookThe Science of Hitting, Ted explained that he carved the strike zone into 77 cells, each the size of a baseball. Swinging only at balls in his ‘best’ cell, he knew, would allow him to hit .400; reaching for balls in his ‘worst’ spot, the low outside corner of the strike zone, would reduce him to .230. In other words, waiting for the fat pitch would be a trip to the Hall of Fame; swinging indiscriminately would mean a ticket to the minors.”

Warren Way 10. Don’t confuse price and value. “Price is what you pay. Value is what you get.”

Warren Way 11. Valuing a deal. “Valuing a business is part art and part science.”

Warren Way 12. Be wary of advice. “Never ask the barber if you need a haircut.”

Warren Way 13. Don’t mindlessly imitate. “You have to think for yourself. It always amazes me how high-IQ people mindlessly imitate. I never get good ideas talking to other people.”

Warren Way 14. Know the language of business accounting. “When managers want to get across the facts of the business to you, it can be done within the rules of accounting. Unfortunately, when they want to play games, at least in some industries, it can also be done within the rules of accounting.”

Warren Way 15. High IQ isn’t everything. “You should have a knowledge of how business operates and the language of business [accounting}, some enthusiasm for your subject, and qualities of temperament, which may be more important than IQ points.”

Warren Way 16. Hunting big deals. Author Janet Lowe reported in Warren Buffett Speaks that on a 2002 trip to Britain, Buffett told the U.K. Sunday Telegraph that he was looking for a “big deal” in that country. “We are hunting elephant…. We have got an elephant gun and it’s loaded.”

Warren Way 17. Think big or go home. At the beginning of an annual stockholders’ meeting, Buffett tapped the microphone to see if it was on: “testing… one million … two million … three million.”

Warren Way 18. Buffett admires frugality. “Whenever I read about some company undertaking a cost-cutting program, I know it’s not a company that really knows what costs are all about. Spurts don’t work in this area. The really good manager does not wake up in the morning and say, ‘This is the day I’m going to cut costs,’ any more than he wakes up and decides to practice breathing.”

Warren Way 19. Deal making is a no-called-strike game. Buffett says, “You don’t have to swing at everything—you can wait for your pitch.” Buffett is fond of baseball and often uses the game to illustrate his philosophy. In deal making, you get to stand at the plate all day, and you never have to swing. Sometimes the best deals are the ones you don’t make.

Warren Way 20. On patience and baseball. “I’ve never swung at a ball while it’s still in the pitcher’s glove.”

Warren Way 21. Change is unavoidable. “It’s no fun being a horse when the tractor comes along, or the blacksmith when the car comes along.”

Warren Way 22. Choose quality. “It’s far better to own a portion of the Hope diamond than 100 percent of a rhinestone.”

Warren Way 23. Mediocre works too. “Never count on making a good sale,” says Buffett. “Have the purchase price be so attractive that even a mediocre sale gives good results.”

Warren Way 24. Management is key. “Management changes, like marital changes, are painful, time-consuming, and chancy.”

Warren Way 25. To thine own self be true. Think for yourself, and don’t get caught up in the herd mentality. “Would you rather be the world’s greatest lover and have everyone think that you are the world’s worst lover? Or would you rather be the world’s worst lover and have everyone think that you are the world’s best lover?” Warren Buffett has spent his life going against the herd.

Warren Way 26. Passion matters. Deal only with those who believe in their products and services. “I don’t want to be on the other side of the table from the customer. I was never selling anything that I didn’t believe in myself or use myself.”

Warren Way 27. You can’t make a good deal with a bad person. Every deal that Buffett makes is sealed with a handshake. Then the lawyers come in and memorialize the details. If you are closing a deal with a bad person, there is no contract in the world that will protect you.

Warren Way 28. Honesty is the best policy. “We also believe candor benefits us as managers: The CEO who misleads others in public may eventually mislead himself in private.”

Warren Way 29. Plan for rough roads ahead. “The roads of business are riddled with potholes; a plan that requires dodging them all is a plan for disaster.”

Warren Way 30. Nobody’s perfect. Don’t expect perfection from those you are making deals with or from yourself. Be willing to make mistakes now and then. Warren said, “I make plenty of mistakes and I’ll make plenty more mistakes, too. That’s part of the game. You’ve just got to make sure that the right things overcome the wrong ones.”

Warren Way 31. Learn from others. Buffett credits many people whom he has learned from along the way, such as his professor at Columbia Business School, Ben Graham, and his partner at Berkshire Hathaway, Charlie Munger. “You don’t have to think of everything. It was Isaac Newton who said, ‘I’ve seen a little more in the world because I stood on the shoulders of giants.’ There is nothing wrong with standing on other people’s shoulders.”

Warren Way 32. Research deals carefully. In 1994, Buffett said: “Look for the durability of the franchise. The most important thing to me is figuring out how big a moat there is around the business. What I love, of course, is a big castle and a big moat with piranhas and crocodiles.”

Warren Way 33. Top two rules. “Rule No. 1: Never lose money. Rule No. 2: Never forget rule No. 1.”

Warren Way 34. Character counts. “When you have able managers of high character running businesses about which they are passionate, you can have a dozen or more reporting to you and still have time for an afternoon nap.”

Warren Way 35. Beware the pathology of many big deals. The Harvard Business Review reported on a 1994 letter to Berkshire Hathaway shareholders in which Buffett commented on the ego of big deals. “Some years back, a CEO friend of mine—in jest, it must be said—unintentionally described the pathology of many big deals. The friend, who ran a property-casualty insurer, was explaining to his directors why he wanted to acquire a certain life insurance company. After droning rather unpersuasively through the economics and strategic rationale for the acquisition, he abruptly abandoned the script. With an impish look, he simply said, ‘Aw, fellas, all the other kids have one.’”

Warren Way 36. Research isn’t everything. “If past history was all there was to the game, the richest people would be librarians.”

Warren Way 37. Don’t think computers can do your thinking for you. “Beware of geeks bearing formulas.”

Warren Way 38. Don’t adopt sloppy deal-making habits. “Chains of habit are too light to be felt until they are too heavy to be broken.”

Warren Way 39. To the dealmaker goes the rewards. “I don’t have a problem with guilt about money. The way I see it is that my money represents an enormous number of claim checks on society. It’s like I have these little pieces of paper that I can turn into consumption.”

Warren Way 40. Invest in the company that you keep. “It’s better to hang out with people better than you. Pick out associates whose behavior is better than yours and you’ll drift in that direction.”

Warren Way 41. Every deal must be penciled out in advance. “You ought to be able to explain why you’re taking the job you’re taking, why you’re making the investment you’re making, or whatever it may be. And if you can’t stand applying pencil to paper, you’d better think it through some more. And if you can’t write an intelligent answer to those questions, don’t do it.”

Warren Way 42. There is risk in every deal. “Risk is part of God’s game, alike for men and nations.”

Warren Way 43. Premium had better mean special. “Your premium brand had better be delivering something special,” warns Buffett, “or it’s not going to get the business.”

Warren Way 44. Seek simplicity in deals. Don’t overcomplicate agreements. “The business schools reward difficult complex behavior more than simple behavior, but simple behavior is most effective.”

Warren Way 45. Deal making shouldn’t be difficult. “There seems to be some perverse human characteristic that likes to make easy things difficult.”

Warren Way 46. Be ready, but don’t force deals. “You do things when the opportunities come along. I’ve had periods in my life when I’ve had a bundle of opportunities come along, and I’ve had long dry spells. If I get an idea next week, I’ll do something. If not, I won’t do a damn thing.”

Warren Way 47. All it takes is a few right deals. “You only have to do a very few things right in your life so long as you don’t do too many things wrong.”

Warren Way 48. Don’t overleverage yourself. “Only when the tide goes out do you discover who has been swimming naked.”

Warren Way 49. Beware the G-word in deal making. “I will tell you how to become rich. Close the doors. Be fearful when others are greedy. Be greedy when others are fearful.”

Warren Way 50. Make deals in areas you understand. In 2008, Buffett was asked by CNBC about his interest in making a deal with candy giants Wrigley and Mars. “Well, I understand a Wrigley or a Mars a whole lot better than I understand the balance sheet of some of the big banks. I know what I’m getting in this, and some of the larger financial institutions, I really don’t know what’s there.”

Warren Way 51. Take a long-term view when you make a deal. Buffett likes the adage: “Someone is sitting in the shade today because someone planted a tree a long time ago.”

Warren Way 52. Deals can take time. “No matter how great the talent or efforts, some things just take time. You can’t produce a baby in one month by getting nine women pregnant.”

Warren Way 53. Sellers of a business beware. From The Essays of Warren Buffett: “Most business owners spend the better part of their lifetimes building their businesses … In contrast, owner-managers sell their business only once—frequently in an emotionally-charged atmosphere with a multitude of pressures coming from different directions.”

Warren Way 54. Sometimes all you have to do is show up. When he was in college, Buffett read an item in the school newspaper that said that a $500 graduate school scholarship was to be awarded that day. Applicants should go to Room 300, and they could earn a scholarship to the accredited school of the student’s choice. “I went to Room 300 and I was the only guy who showed up. The three professors there kept wanting to wait. I said, ‘No, no. It was three o’clock.’ So I won the scholarship without doing anything.”

Warren Way 55. Pick your battles. Buffett learned this during his dealings with Salomon. “I could have fought harder and been more vocal. I might have felt better about myself if I did. But it wouldn’t have changed the course of history. Unless you sort of enjoy combat, it doesn’t make sense.”

Warren Way 56. Focus. Focus. Focus. From the biography The Snowball comes this tale from the day in 1991 when Buffett met and spent the Fourth of July with Bill Gates and his family. Buffett recalls: “Then at dinner, Bill Gates Sr. posed the question to the table: What factor did people feel was the most important in getting to where they’d gotten in life? And I said ‘Focus,’ and Bill [Bill Gates Jr.] said the same thing.”

Warren Way 57. Get your facts straight. “And the truth is, you are neither right nor wrong because people agree with you. You’re right because your facts are right and reasoning right. In the end, that’s what counts.”

Warren Way 58. Don’t compromise on your career. Don’t waste time with your time or your life. When it comes to your career, go for the deals you really want. “It’s crazy to take little in-between jobs just because they look good on your resume. That’s like saving sex for your old age.”

Warren Way 59. Definition of an ideal business. This is what Buffett looks for when he seeks a business to obtain. “The ideal business is one that earns very high returns on capital and that keeps using lots of capital at those high returns. That becomes a compounding machine.”

Warren Way 60. Love is the greatest return. From the Buffett biography The Snowball: “That’s the ultimate test of how you have lived your life. The trouble with love is you can’t buy it. You can buy sex. You can buy testimonial dinners. You can buy pamphlets that say how wonderful you are. But the only way to get love is to be lovable.”

Warren Way 61. Share the profits with your key players. Rock superstar Bono of U2 asked for 15 minutes of Buffett’s time at a corporate event. “I love music. But actually U2’s music doesn’t blow me away. What interests me is that Bono splits the revenue of U2 among four people absolutely equally.”

Warren Way 62. Set aside reserves for when deals go bad. “You absolutely never want to be in a position where tomorrow morning you have to depend on the kindness of strangers in the financial world. I spent a lot of time thinking about that. I never want to have to come up with a billion dollars tomorrow morning. Well, a billion I could.”

Warren Way 63. Have a little cash in reserve. “Cash combined with courage in a time of crisis is priceless.”

Warren Way 64. On good deal making and the snowballing effect. People from Nebraska know about snow and how to make snowballs. From the biography The Snowball: “The snowball just happens if you’re in the right kind of snow, and that’s what happened with me. I don’t mean just compounding money either. It’s in terms of understanding the world and what types of friends you accumulate. You get to select over time, and you’ve got to be the kind of person that the snow wants to attach itself to. You’ve got to be your own wet snow, in effect. You’d better be picking up snow as you go along, because you’re not going to be getting back up to the top of the hill again. That’s the way life works.”

Warren Way 65. Think for yourself. In graduate school, Buffett was amazed at how other students were willing to go with the flow of conventional wisdom. “I don’t think there was one person in the class that thought about whether U.S. Steel was a good business. I mean, it was a big business, but they weren’t thinking about what kind of train they were getting on.”

Warren Way 66. Price isn’t the be-all and end-all. From The Essays of Warren Buffett: “Price is very important, but often is not the most critical aspect of the sale.” Buffett looks hard at people issues and the terms of the deal.

Warren Way 67. Know the true value. In 1973, the market price for the Washington Post Company was $80 million, and the company had no debt. Buffett uses this as an example of a great deal. “If you asked anyone in the business what [the Post’s] properties were worth, they’d have said $400 million or something like that. You could have an auction in the middle of the Atlantic Ocean at 2:00 in the morning, and you would have had people show up and bid that much for them. And it was being run by honest and able people who all had a significant part of their net worth in the business. It was ungodly safe. It wouldn’t have bothered me to put my whole net worth in it. Not in the least.”

Warren Way 68. Judging humans is imperfect at best. “There is no way to eliminate the possibility of error when judging humans.”

Warren Way 69. No bluffing. No kidding. “We don’t bluff. It’s not my style anyway. Over a lifetime, you’ll get a reputation for either bluffing or not bluffing. And therefore, I want it to be understood that I don’t do it.”

Warren Way 70. No pressure. “People tell me I put pressure on them. I never intend to. Some people like to apply pressure. I never do. It’s actually the last thing I like to do.”

Warren Way 71. Match your people to your principles. “I said we would have people to match our principles, rather than the reverse,” Buffett once mused. “But I found out that wasn’t so easy.”

Warren Way 72. Know what deals work for you and then focus on those deals. From The Essays of Warren Buffett: “Charlie [Munger] and I frequently get approached about acquisitions that don’t come close to meeting our tests: We’ve found that if you advertise an interest in buying collies, a lot of people will call hoping to sell you their cocker spaniels. A line from a country song expresses our feeling about new ventures, turnarounds, or auction-like sales: ‘When the phone don’t ring, you’ll know it’s me.’”

Warren Way 73. Give something back when the dealing’s done. “What better can you do with money,” Buffett told USA Today, “than to help thousands of people change their lives in a very, very positive way?”

Warren Way 74. Support success. “I like to back success,” Warren told USA Today in 2012. “I like things that change people’s lives.”

Warren Way 75. Think long term. “Our favorite holding period is forever.”

Warren Way 76. Folly is your deal-making friend. Economic fluctuations create motivated sellers who are willing to discount. “Profit from folly rather than participate in it.”

Warren Way 77. You can’t hurry love or deals. From The Essays of Warren Buffett: “In the search, we adopt the same attitude one might find appropriate in looking for a spouse: It pays to be active, interested, and open-minded, but it does not pay to be in a hurry.”

Warren Way 78. Deals begin at home. Buffett encourages his shareholders to buy from company-owned businesses. “Remember,” he told shareholders at the annual meeting, “anyone who says money can’t buy happiness simply hasn’t learned where to shop.”

Warren Way 79. Cash in and out determines value. From The Essays of Warren Buffett: “In Theory of Investment Value, written over 50 years ago, John Burr Williams set forth the equation for value, which we condense here: The value of any stock, bond or business today is determined by the cash inflows and outflows—discounted at an appropriate interest rate—that can be expected to occur during the lifetime of the asset.”

Warren Way 80. On the future of deal making. “Human potential is far from exhausted, and the American system for unleashing that potential—a system that has worked wonders over two centuries despite frequent interruptions for recessions and even a Civil War— remains alive and effective.”

Warren Way 81. It’s never too soon to be talking about money. As told in The Essays of Warren Buffett, Buffett is crystal clear on what he is looking for when he looks for companies: “An offering price (we don’t want to waste our time or that of the seller by talking, even preliminarily, about a transaction when price is unknown).”

Warren Way 82. Be wary of projections. In 1982 Warren said, “While deals often fail in practice, they never fail in projections.”

Warren Way 83. Don’t trust financial projections. From The Essays of Warren Buffett: Why potential buyers put much stock in financial projections baffles Buffett, but he keeps in mind the story of the man with an ailing horse. “Visiting the vet, he said: ‘Can you help me? Sometimes my horse walks just fine and sometimes he limps.’ The vet’s reply was pointed. ‘No problem—when he’s walking fine, sell him.’”

Warren Way 84. Be thankful for a free press. “The smarter the journalists are, the better off society is.”

Warren Way 85. Deal what you know. Buffett says you need to love the deals you make and leave the others alone. “There are all kinds of businesses that Charlie [Munger] and I don’t understand, but that doesn’t cause us to stay up at night. It just means we go on to the next one.”

Warren Way 86. Dealmakers beware. From The Essays of Warren Buffett: “Talking to Time magazine a few years back, Peter Drucker got to the heart of things: ‘I will tell you a secret: Deal making beats working. Deal making is exciting and fun, and working is grubby. Running anything is primarily an enormous amount of grubby detail work … deal making is … romantic, sexy. That’s why you have deals that make no sense.’”

Warren Way 87. Be opportunistic. “You do things when the opportunities come along,” says Buffett.

Warren Way 88. Do your homework. “Risk comes from not knowing what you are doing,” says Warren.

Warren Way 89. Pay attention to trends. Read, read, and read some more about trends that could affect your deal. In 2008, Buffett shared this story in a CNBC interview. “Well, I’ve got a son that’s a farmer. He’s a very happy fellow. They used to tell the story out here in Nebraska about the farmer that won the lottery, and they sent a television crew out to see him. And the television interviewer said, ‘You know, you’ve just won twenty million dollars in the lottery, what are you going to do with it?’ And the farmer said, ‘Well, I think I’ll just keep farming until it’s all gone.’ Well, that was the situation in farming until the last year or so, but it’s a different world now.” The moral of the story is pay attention to trends. Thanks to advances in fuels like ethanol, farming is as much about energy these days as it is about food.

Warren Way 90. Marry your fortunes well. Buffett once said: “Our situation is the opposite of Camelot’s Mordred, of whom Guenevere commented, ‘The one thing I can say for him is that he is bound to marry well. Everybody is above him.’”

Warren Way 91. Dealmaker beware. From The Essays of Warren Buffett: “We believe most deals do damage to the acquiring company. Too often, the words from HMS Pinafore apply: ‘Things are seldom what they seem, skim milk masquerades as cream.’ Specifically, sellers and their representatives invariably present financial projections having more entertainment value than educational value.”

Warren Way 92. Don’t do deals just to do deals. Buffett says, “We don’t get paid for activity, just for being right.”

Warren Way 93. Complex calculations are not necessary. “If calculus or algebra were required to be a great investor, I’d have to go back to delivering newspapers,” admits Buffett. “I’ve never seen any need for algebra. Essentially, you’re trying to figure out the value of a business.” His uncommon gift for closing a deal is common sense. Simple mathematics and a logical brain are what you need in order to withstand the emotions of deal making, because emotions can get in the way of closing a deal.

Warren Way 94. Keep your promises. From The Essays of Warren Buffett: “When we tell John Justin that his business (Justin Industries) will remain headquartered in Fort Worth, or assure the Bridge family that its operation (Ben Bridge Jeweler) will not be merged with another jeweler, these sellers can take those promises to the bank.”

Warren Way 95. Have fun doing the deals. “We enjoy the process far more than the proceeds.”

Warren Way 96. If you smell a bad deal, do what you can to get out gracefully. “Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks.”

Warren Way 97. Invest in the deals that turn you on. Buffett says it pays to specialize in areas that interest you. “Why not invest your assets in the companies you really like? As Mae West said, ‘Too much of a good thing can be wonderful.’”

Warren Way 98. Think for yourself. “My idea of a group decision is to look in the mirror.”

Warren Way 99. Be honest in your deal making. Buffett told his son Howard: “It takes 20 years to build a reputation and five minutes to ruin it. If you think about that, you’ll do things differently.”

Warren Way 100. Put away the rose-colored glasses. Be optimistic about deal making, but be realistic, too. From The Essays of Warren Buffett: “In the production of rosy scenarios, Wall Street can hold its own against Washington.” Hope for the best, but prepare for the worst in your deal.

Warren Way 101. Predicting the future. Buffett: “In the business world, the rearview mirror is always clearer than the windshield.” Nobody knows for certain what is going to happen down the road.


http://onlinesuccesscentre.com/2013/03/101-

Stock market bubbles - A brief history

“Money, again, has often been a cause of the delusion of multitudes. Sober nations have all at once become desperate gamblers, and risked almost their existence upon the turn of a piece of paper.”

- Charles Mackay, Extraordinary Popular Delusions And The Madness Of Crowds, 1841.

Economic bubbles are great examples of societies failing to learn from previous mistakes. Time and time again something comes along that seems too good to be true and it inevitably turns out that it is. People invest in their masses and the more who invest, the higher the price rises, drawing more people in until eventually the bottom falls out and people lose a lot, sometimes everything.

Bubbles in nature are simple, perfect and beautiful. Investment bubbles can seem the same way at the beginning – perfect and so beautifully simple. You put money in and it grows, what could be easier or more rewarding than that? Nature’s bubbles are incredibly delicate though and are all destined to eventually pop, gone forever. Economic bubbles are the same, but it takes a while for people to see how fragile they are, often not before it is too late.

Outlined below are 4 major bubbles from the past 400 years, taking in bubbles surrounding individual companies, whole industries and entire national economies.

Tulip Mania

One of the earliest examples of a bubble occurred in the Dutch Republic in the 1630s. It concerned the trade of tulip bulbs, or more specifically the trade of agreements to buy tulip bulbs, essentially what we would refer to as futures contracts today.

Tulips flower in mid-Spring, with their bulbs becoming dormant and ready for harvesting around June. The bulbs stay dormant until September, after which they must be planted. This meant that the sale of bulbs could only occur between June and September, with agreements to buy bulbs (rather than the bulbs themselves) changing hands the rest of the year.

New varieties of stripy petalled tulips started to appear in the early 1630s and as they popularity grew speculators started to move in. By 1636 contracts for single bulbs were changing hands for many multiples of average yearly salaries, with some contracts changing hands dozens of times a day. Many people made huge fortunes having never even laid eyes on the tulip bulbs their agreements were backed by.

Trade was not confined to financiers and bankers, many regular people were drawn into the whirlwind of sky-rocketing prices, believing that the rich from all over the world would soon be coming to Holland to pay huge sums for tulips and that demand would never cease.

Bulb prices peaked in February 1637 with reports of a single bulb being purchased for 100,000 (florins the equivalent of around £1million in today’s money) then dipped suddenly, after which trading quickly ground to a halt, financially ruining huge numbers of people.

It’s worth noting that short selling was a practice banned in the Dutch Republic at the time, making it very hard for investors to re-coup any losses as the tulip prices started their inexorable decline.

The South Sea Bubble

Around 75 years later, in 1711, the South Sea Company was founded in Britain, ostensibly as a monopolistic trading company for commerce with South America. The company never did much trade in that regard though due to the Spain’s grip on the continent and the ongoing War of Spanish Succession. Instead, the company was used as a vehicle for consolidating Britain’s national debt. Those whom the nation owed a monetary debt were given shares of equal value in the newly formed company with a dividend (paid by the government, rather than the company).

This resulted in potentially lower returns for the holders of the relatively risk free national debt, but turned an illiquid market liquid, allowing the debt to be freely traded as shares.

In 1719 a scheme was hatched for the South Sea Company to take on moregovernment debt in return for shares, around £2.5million worth. Such was the success of this refinancing that the government decided to repeat the process, hoping to pass over most of the national debt, approximately £31million.

After this, in early 1720, the already bloated company set about putting rumours about of the potential riches to be gathered in South America using their monopoly. The speculators dove straight in, boosting the share price from £120 to £550 by May. The company itself started lending money to speculators to buy shares in order to artificially inflate the price. By early August the share price had nearly hit £1,000 and it came time for the company to reclaim the money it had lent.

Many speculators were only able to pay back their debts by selling their South Sea shares, causing a sudden drop in the share price. Many investors who had bought near the top on credit were now sorely out of pocket, forcing them to sell their holdings for a loss and forcing the price down even further. By the end of the year the share price had fallen to £100 with many investors bankrupt or nursing serious dents to their fortunes.

Wall Street Crash

As the 1920s drew to a close in the USA the Great Depression was kicked off by the largest stock market crash in US history. The Dow Jones Industrial Average peaked at just over 381 points on 3 September 1929, but by 13 November had hit 198, a fall of 42%. By 8 July 1932 the Dow had slipped down to just above 41 points, a slide of over 91% from its high. What happened?

As with the two examples outlined above, the bursting of the bubble was preceded by rife speculation, first by financial professionals, but soon by an increasing proportion of the general populace.

Technological advances created new products, companies and industries in the 1920s and generated a mood of optimism. Many Americans became stockholders who had previously never dabbled in the markets. As prices started to rise and paper profits rose accordingly many borrowed money to invest in shares or took on large margins to maximise profit. At one point more money has been loaned for purchasing shares than there was hard currency in the country, over $8billion.

Panic selling started on Black Thursday, 24 October 1929, with the ow dropping 11% in one day. This was followed by two further major falls, 13% on 28 October and 12% on 29 October. Margin calls came in and speculators, both financiers and private individuals lost huge sums of money.

The Dot Com Bubble

An entirely new industry sprang up in the late 1990s consisting of companies focussed on the internet, collectively known as dot coms. In a strange twist to the standard bubble arc, investors were seemingly unfazed by the lack of profit these companies showed, in fact some companies would go to initial public offering having only ever made large losses.

A large number of these companies were focussed on rapid growth in the new industry, putting profits as a secondary requirement to be fulfilled further down the line. The mantra of the day was “get large or get lost”. investors bought into this in a way that would unlikely ever have done in other, more established industries. As with the examples above, the speculators moved in and share prices began to rise and rise.

The US Federal Reserve increased interest rates significantly between mid 1999 and early 2000 causing the US economy to slow down. In turn, dot com share prices began to falter. Many companies were listed on the NASDAQ Composite which peaked at 5,048.62 on 10 March 2000 falling to only 1,114.11 on 9 October 2002.

Future bubbles

History has shown us the same pattern repeated in each of the bubbles above. New ideas creating initial optimism and wealth but turning to depression and severe hardship as things get out of control. Doubtless this pattern will be repeated again in the future, probably many times.

It is often hard to see the signs of a bubble until it is too late, but if you take a step back and look at recent developments in new ideas like Bitcoin, or the seemingly endless rise in London house prices you might see certain correlations. Keep an eye out and invest wisely.

“In the present state of civilization, society has often shown itself very prone to run a career of folly from the last-mentioned cases. This infatuation has seized upon whole nations in a most extraordinary manner.” - Charles Mackay, 1841

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How Britain’s greatest physicist lost a fortune

How (not) to invest like Sir Isaac Newton

How does George Soros dealt with asset bubbles?

“When I see a bubble forming I rush in to buy,” he said. In January 2010 he declared gold to be the “ultimate asset bubble” shortly after he built up a £400m stake in the metal.

He had sold most of it by March 2011, at a handsome profit – and comfortably before the bubble popped in September of that year.

Not everyone can pull off the same trick; some clever people have lost a lot of money by failing to get out before everyone else. Some very clever people indeed, actually: one investor who lost a fortune this way was Britain’s greatest physicist, Sir Isaac Newton.

Newton was a victim of the South Sea Bubble, one of the most famous boom-and-busts in history – in fact, it was the one that gave rise to the very term “bubble”.

As the graph above shows, he initially did just what Mr Soros would do centuries later – invest early and then sell after making excellent returns very quickly. But Newton made the mistake of re-entering the market much closer to the peak, and then hanging on even after the bubble had burst, selling only once the price had collapsed to well below his buying price.

Newton reportedly lost £20,000, equivalent to about £3m in today’s terms.

The South Sea Company was an unusual business. Founded in 1711, it was promised a monopoly on trade with Spanish South American colonies by the British government in exchange for taking over the national debt raised by the War of Spanish Succession. However, the trade concessions turned out to be less valuable than hoped.

In January 1720, when the company’s shares stood at £128, the directors circulated false claims of success and fanciful tales of South Sea riches and in February the shares rose to £175.

The following month the company convinced the government to allow it to assume more of the national debt in exchange for its shares, beating a rival proposal from the Bank of England. With investor confidence mounting, the share price had climbed to about £330 by the end of March.

The South Sea Company was part of a wider flurry of speculation on the stock market, however.

Newly floated firms were seen as appearing like bubbles; 1720 was sometimes known as the “bubble year”. In June, Parliament, at the behest of the South Sea Company, passed the Bubble Act, which required all shareholder-owned companies to receive a royal charter.

The South Sea Company received its charter, perceived as a vote of confidence in the company, and at the end of June its share price reached £1,050.

But investors started to lose confidence in early July and by September the shares had plummeted to £175, devastating investors.

How to avoid losing a fortune in bubbles

The simplest way to avoid losing money in a bubble is not to invest in any asset in which you suspect a bubble is forming. But as the example of Newton illustrates, this can be easier said than done. The temptation to join in, especially if you tell yourself that you will “sell before the bubble bursts”, can be irresistible.

If you do buy into the latest hot investment, one homespun piece of advice is to sell when even the taxi drivers are talking about it. 

http://www.telegraph.co.uk/finance/personalfinance/investing/10848995/How-not-to-invest-like-Sir-Isaac-Newton.html

A new approach to investment by John Slater

How to invest like Jim Slater – and beat the market by a factor of 20

The veteran investor's stock-picking formula outperformed spectacularly when he invented it 50 years ago. Here are four stocks that pass his tests today

Jim Slater: 'I was convinced that the stock market winners of the past would have some common characteristics' Photo: PA

By Richard Evans

12:09PM BST 23 Jun 2014

52 Comments

"It is only necessary to be 6 inches taller than the other people in a room to see above everyone’s heads.”

This is Jim Slater’s recipe for investing success – that if you concentrate on learning about a particular aspect of investment, you can quickly become more knowledgable about it than “the other people in the room”.

You will then make better choices – and bigger profits.

Mr Slater, who chose undervalued growth stocks as his specialism, called this approach “the Zulu principle” (the name of his most famous book) because he noticed how quickly his wife became, relative to most people, an expert on Zulus after reading a magazine article on the subject.

“It occurred to me that if she had then borrowed all the available books on Zulus from the local library, she would have become the leading expert in the county,” he said.

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So when he decided to learn about the stock market after an illness that he feared might end his career as a company executive and force him to find another source of income, he researched the subject exhaustively before he bought his first share.

“At the time there were two weekly investment magazines, The Stock Exchange Gazette and the Investors Chronicle,” Mr Slater said. “I bought two years’ back copies of both and read through them page by page.

“I was convinced that the stock market winners of the past would have some common characteristics. If, with the benefit of hindsight, I could develop a formula based on these characteristics, I was sure that I would be able to make my fortune.”

Once he had come up with his system, he put it to the test in a stock-tipping column in The Sunday Telegraph, titled “The Capitalist” (pictured), which began in 1963. In two years his tips rose by 68.9pc, against just 3.6pc for the wider market.

^{The first of Jim Slater's Sunday Telegraph columns under the pseudonym of 'The Capitalist', March 3 1963}

• Click here to enlarge to picture

So what was his system?

First, he preferred small companies to large ones. “Mammoth companies rarely double their market capitalisation in a year. “In contrast, small companies often do this and more,” he said, summarising this analysis neatly in the phrase “elephants don’t gallop”.

Then he came up with a means to determine which small companies with good growth prospects were undervalued. Most investors are familiar with the “price to earnings” or p/e ratio, which shows how much you have to pay for each £1 of profit made by a company (so a smaller figure signifies that you are buying profits cheaply). Mr Slater took it a stage further to work out when investors were buying growth cheaply.

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He devised the “Peg” ratio, which is the p/e figure divided by the annual growth rate of the company. For example, a share with a P/E ratio of 20 but growing at 25pc a year would have a Peg of 0.8.

Investors should seek shares with a Peg of less than 1 but ideally below 0.75, Mr Slater said, combined with a p/e (on the basis of forecast profits for the current year) of less than 20. The company should also be able to show consistent growth in profits in at least four out of five years.

In the first “Capitalist” article, he outlined a few other requirements. These included a dividend yield of at least 4pc; that the most recent chairman’s statement must be optimistic; that the company must not be vulnerable to exceptional factors; that it shouldn’t be family controlled; and that the shares should have votes.

Mr Slater also suggested watching out for directors selling shares or large debts, while cash flow should exceed profits.

FOUR SHARES THAT MEET JIM SLATER’S TESTS

Mr Slater’s system works on measurable data, so it is possible to replicate and apply it to the stock market today. This is what the boffins at stockopedia.com have done – in fact, the website’s “Jim Slater” stock screen is its most popular.

It is also successful, returning 47.7pc in capital gains over the past 12 months and more than 90pc over the past two years, compared with 7pc and 23pc, respectively, for the FTSE 100.

Twenty shares currently make it through the Slater screen, but we have decided to focus on four. These stocks are also held in the fund run by Mr Slater’s son, Mark – the MFM Slater Growth fund.

Trifast

p/e ratio 17.4

Peg ratio 0.6pc

Market value £141m

Trifast makes and distributes industrial fastenings (such as nuts and bolts). It recently completed the acquisition of an Italian rival.

Utilitywise

p/e ratio 17.8

Peg ratio 0.4

Market value £212m

A utility cost management consultancy. High energy prices are expected to stimulate demand for its services.

Pressure Technologies

p/e ratio 16.5

Peg ratio 0.4

Market value £105m

Pressure Technologies is an engineering company that specialises in high-pressure devices. A boom in the deep-water oil and gas market could boost sales; the Slater Growth fund is a buyer.

Galliford Try

p/e ratio 11

Peg ratio 0.55

Market value £897m

The house-builder and construction business could benefit from momentum in the property market, supported by the Government’s Help to Buy scheme and the wider economic recovery.

^{Jim Slater}

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http://www.telegraph.co.uk/finance/personalfinance/investing/shares/10914962/How-to-invest-using-Jim-Slaters-stock-market-formula-and-beat-the-market-by-a-factor-of-20.html