Saturday, February 28, 2009

What I learned from Warren Buffett’s Most Recent Letter to Shareholders

Warren Buffett’s iconic letter to shareholders has been published on Berkshire Hathaway's website. The legendary chairman of Berkshire Hathaway has been writing this annual letter for more than 32 years. In it he summarizes the performance of the various businesses that make up the portfolio of his conglomerate. The Oracle of Omaha often gives insight on his decision making process, when making investments.

Of particular importance to me were his words on his reduction of stakes in Johnson and Johnson (JNJ), Procter and Gamble (PG) and Conoco Phillips (COP):

"On the plus side last year, we made purchases totaling $14.5 billion in fixed-income securities issued by Wrigley, Goldman Sachs and General Electric. We very much like these commitments, which carry high current yields that, in themselves, make the investments more than satisfactory. But in each of these three purchases, we also acquired a substantial equity participation as a bonus. To fund these large purchases, I had to sell portions of some holdings that I would have preferred to keep (primarily Johnson & Johnson, Procter & Gamble and ConocoPhillips). However, I have pledged – to you, the rating agencies and myself – to always run Berkshire with more than ample cash. We never want to count on the kindness of strangers in order to meet tomorrow’s obligations. When forced to choose, I will not trade even a night’s sleep for the chance of extra profits."

I speculated before that one reason why he might be selling solid dividend stocks such as Johnson & Johnson and Procter and Gamble could be that they haven’t fallen as much as the broader market, which makes them ideal for Buffett to deploy the funds in other beaten down sectors. Another reason could be that he needs to raise as much cash as possible, in order to participate in other preferred stock or fixed income deals, where he could earn a 10%-15% annual dividend yield, with very favorable terms for his company. Ordinary investors do not however have the purchasing power to participate in such favorable deals at this time.

Buffett also spend several pages discussing derivatives and shortcomings of the Black Scholes option-pricing model.

Full Disclosure: Long JNJ, PG

Relevant Articles:

- Should you follow Warren Buffett’s latest moves?
- Warren Buffet's Luxury Dividends at Tiffany’s
- Warren Buffett – The Ultimate Dividend Investor
- Procter & Gamble (PG) Dividend Stock Analysis

4 comments:

  1. Good post there. I came across a few other reports of his annual letter this weekend, and I am surprised at Buffett admitting that he made mistakes on purchasing ConocoPhilips at its peak, and also investing in Irish banks.

    I can see how it would be easy to get caught up in oil in the last couple of years given the demand and supply situation, but for someone that does not believe in debt leveraging, I am very surprised at his investment in banks, particularly Irish banks that were possibly only second to the US and UK in making risky loans.

    http://www.businessweek.com/ap/financialnews/D96KQ9VG0.htm

    HIS OWN MISTAKES

    Buffett wrote he "did some dumb things in investments" in 2008.

    "Last year I made a major mistake of commission (and maybe more; this one sticks out). Without urging from Charlie or anyone else, I bought a large amount of ConocoPhillips stock when oil and gas prices were near their peak. I in no way anticipated the dramatic fall in energy prices that occurred in the last half of the year.

    "I still believe the odds are good that oil sells far higher in the future than the current $40-$50 price. But so far I have been dead wrong. Even if prices should rise, moreover, the terrible timing of my purchase has cost Berkshire several billion dollars.

    "I made some other already-recognizable errors as well. They were smaller, but unfortunately not that small. During 2008, I spent $244 million for shares of two Irish banks that appeared cheap to me. At yearend we wrote these holdings down to market: $27 million, for an 89 percent loss. Since then, the two stocks have declined even further.

    "The tennis crowd would call my mistakes 'unforced errors.'"

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  2. I am disappointed that JNJ was sold in favor of what is being held now.

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  3. Nice sleuthing, but personally I think he just saw more value on the crazy terms he's been able to get on his most recent investments.

    For instance, he sold some ConocoPhilips, but that has really fallen, which sort of undermines the 'held their value' theory.

    It's a tough time for dividend investors, if they invested in financials.

    You might be interested in a post I did recently on how a UK-based dividend portfolio has fared in the bear market:

    http://monevator.com/2009/02/23/how-the-bear-market-hit-the-high-yield-portfolio/

    I still have to check out how the income is held up (I know, the whole point but it's so difficult) but I'd estimate it's fallen 10-20%.

    Good luck as ever! :)

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  4. check the point and figure graphs....wallstreet is gaming you ..and there will be a double bottom retest--and the calmity will be used to make a nother run up higher or lwoer....watch the emas and the earnings..

    ReplyDelete

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