Buffett’s margin of safety keeps him ahead of the crazies

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In 2003, I went over to Warren Buffett’s house. Well, I was in a cab in Omaha and the cab driver asked me if I wanted to drive by Warren Buffett’s house. We drove up to an ordinary suburban block. There was a big guy standing in the driveway of the house on the corner. He was looking at us. “That’s Buffett’s house,” the cab driver told me. “He doesn’t usually have a bodyguard there but all the crazies come out of the woodwork this weekend, know what I’m saying?”

Yes. I do. The next morning at 5:30am I went to wait outside the convention centre. There were about 3,000 people there ahead of me. Somebody was serving Krispy Kreme doughnuts. The man in front of me finished his doughnut, took his napkin and started scribbling numbers on it. “When you do your sum of the parts analysis of Berkshire Hathaway,” he asked me out of the blue, as if I carried that particular analysis around with me everywhere, “what do you come up with?”

At some point, I forget what time it was but the sun had risen, the doors opened and everybody started screaming and rushing in. About 20,000 people rushed to find the best possible seats to watch Mr Buffett and Charlie Munger, his second in command, teach their investment wisdom. First, though, was the shareholders’ meeting. One shareholder raised his hand and wanted to vote on letting Berkshire B shareholders have some determination alongside the A shareholders about where Berkshire’s charity donations should go. Mr Buffett gave his reasons why it would be unfair for the A shareholders and then asked if anyone wanted to second the proposed rule in order for a vote to occur. Out of the 20,000 shareholders there, nobody raised a hand.

Then the Q&A followed for the rest of the day. I remember at one point Mr Munger got riled up and started insisting people bury their valuables in their back yards before the government seized them.

Mr Buffett quietened him down. Later, at an after-party, I ran into someone who bought 200 shares of Berkshire Hathaway in 1976 when it must still have been a pink sheet company. He sold half his shares a year later for a nice 100 per cent gain. Nice until you realise that the other 100 shares went on to be worth more than $8m.

Yes, the crazies were a long way from home that weekend. At that time I decided to do a serious study of Mr Buffett’s investing. Not just the stuff you can read in the books – successful stock picks, such as Coca-Cola, the Washington Post, and so on – but the tiny microcap liquidations that Mr Buffett is fond of doing when nobody is looking, or the Pipes (private investments in public equity), or the merger arbitrage plays that he has been making since his hedge fund days in the 1960s, before he adopted Berkshire as his main vehicle. I ended up finding enough material for a book, Trade Like Warren Buffett, which delves into Buffett as trader instead of Buffett as long-term value investor

It describes the various trading techniques Mr Buffett used during the periods when he made his greatest percentage gains in net worth. This is opposed to the pure buy and hold value investing that he has to practise now, because the $50bn he carries around has made him too inflexible.

I also make it a point to study the holdings of the investors who potentially make up the next generation of so-called “Superinvestors of Graham and Doddsville”. For instance, I follow Seth Klarman at the Baupost Group, who once wrote a book with a title taken from Warren Buffett’s favourite phrase, Margin of Safety. The book sells for $800 on Ebay. Some of his holdings (which I own) include QLT, a biopharma company, and USA Mobility – both are declining businesses but boast great cash flows and balance sheets.

I also follow Mohnish Pabrai (whom I interviewed in my book). He recently made a brilliant call on steel company USAP, which has had a nice run so far this year and still trades at an earnings multiple of just 11. There is also value investor Carlo Cannell, who tends to look for businesses with steady cash flows, little debt, and lots of cash in the bank. Some of his current picks include MapsInfo (which I own) and FundTech (which I don’t). And, finally, I follow Buffettesque investor Ken Shubin Stein of Spencer Capital, particularly his largest position, Resource America (I own it) which is a Berkshire-Hathaway-like company that he feels is deeply undervalued.

This year’s Berkshire Hathaway annual meeting is coming up at the weekend. If you go, please send me some good stories about it. I miss the insane asylum.

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