Reflections on 2011 Berkshire Hathaway Shareholder Letter

(BRKA) Berkshire Hathaway’s 2011 Shareholder Letter is out and was posted this past weekend. Like most value investors, I spent some time reading it. While I don’t feel it contains any nuggets of wisdom that Buffett has not already imparted over his long career, it is still important to learn to look at investments through his eyes. Investing is supposed to be simple. Discipline and common sense goes a long way towards ensuring long term success. That is what Buffett does so well, and that is what we should all strive for.

We will skim over the details of his portfolio and the announcements he made about his successor and instead focus on some of the key teachings in the letter that I feel most investors should pay heed to

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On the Housing Market Recovery

It is all too easy to get lost in the data such as foreclosure rates, unsold inventory, # of mortgage applications, interest rates, etc. It is important to look at the big picture. Demographics is a powerful force and the sheer fact that the number of household formations outpace the new home construction today will eventually chew up the existing inventory and jump start the housing market. Buffett seems to think that this will happen sooner rather than later.

Another thing he did not mention in the letter about the housing is that as the single family home purchases have declined, multi family homes and apartments have been in their own mini-bubble. In many markets, owning a home with a mortgage is now becoming a overwhelmingly better option than renting. It is time to bet on the housing recovery and get out of the rental real estate market.

Share Repurchases Can Hurt Existing Shareholders

If the management repurchases shares above the intrinsic value of the company, the existing shareholders are worse off. The company could have better used that capital in other ways, even paying out a dividend. The problem is that often times, the management continue to feel that their shares are undervalued even when that may not be the case. So consider any share repurchases with a critical eye. It is not always something to cheer about.

For example, I have earlier panned the management of Zix Corporation for indulging in share repurchases of an overvalued stock

If You are a Net Buyer of Stocks, Bet on the Prices to Go Down

If a stock is a great value at the current price, it is an even better value at a lower price. When the prices go down, you should be buying more. This of course depends on your investment horizon and the conviction you have in your investment thesis (as well as available capital). The trick here is to view your investment as a long term investment, which I am sure my readers already do.

Intrinsic Value can Exceed the Book Value

Most of us value investors are often much more conservative and we take pains to figure out all the situations where the book value may be overstated so we can adjust for these. In doing these exercises, we may end up missing situations where the book value is understated. Again, it pays to keep an open mind when analyzing stocks.

Buy Stocks and Real Estate, Not Bonds or Commodities

Well, he mentioned Gold, but I consider Gold similar to any other commodities and Buffett’s arguments hold equally true to other commodities (perhaps more so as grains, livestock, etc are perishables, while gold is not). The main point is that a good investment continues to add and create more value over time. Gold and bonds do not, whereas stocks and real estate do. If you are investing for long term wealth creation, you need to buy stocks.

Risk versus Volatility

I wrote a piece earlier outlining the difference between risk and volatility. Buffett, of course, does a better job of explaining this. The risk, at its very simplest, is the possibility that you will lose money in an investment over time. If you do your homework and you are confident that the investment will be profitable, the fact that the stock price dips tomorrow is just volatility and not risk and should be none of your concern.

If you have not yet read the letter, I suggest you do so. If you have other teachings from this edition that you want to point out, please do it in the comments below so we can have a good discussion :-)

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