Buffett: Portrait of an Artist
as a Young Man
(August 25, 1999) -- Warren Buffett was eleven years old when he bought his first stock, Cities Service preferred. He picked up 3 shares for himself and 3 for his sister at $38 apiece. The stock immediately dropped to $27. When it recovered to $40, he bailed out, with a $5 profit after commission. Shortly thereafter, Cities Service soared to $200 a share. The young Buffett thus received an early education in the fruits of long-term investing.
This story comes from Roger Lowenstein's Buffett: The Making of an American Capitalist (Doubleday, 1996), a splendid biography of the man sometimes called the "Oracle of Omaha" for the way he combines uncanny investment acumen with a heavy dose of casually irreverent folk wisdom, a kind of Will Rogers meets Ben Franklin.
Indeed, Buffett is generally considered the greatest investor of all time because he so skillfully joins a cold analysis of the "numbers" with an old-world emphasis on hard work, honesty, and character. He believes that investing involves entering into a partnership in which managers and owners share a mutual responsibility as well as a mutual interest. As chairman of Berkshire Hathaway (NYSE: BRK.A) and (NYSE: BRK.B), the publicly traded company that has served as his principal investment vehicle since 1969, he's cultivated precisely such partnerships.
Buffett looks for management that can deliver an attractive return on shareholder equity rather than growth at any cost since the goal is to create shareowner value rather than simply indulge the CEO's ego. But even in his wholly owned businesses, Buffett allows his managers complete autonomy in running the operations, providing general counsel only when they ask for it. He wants results, but he gets them mainly by demanding integrity and accountability. He abandons an investment only when good management still fails to make a business successful. And as in the well-publicized crisis at Salomon Brothers in 1991, Buffett is willing to shoulder the duty of cleaning house when management fails to meet his standards.
As a result of his investment success and of his insight into the financial world, Buffett's annual letters to Berkshire's shareowners have become required reading for many who agree with his roguish sentiments. His iconoclastic positions are legendary. For example, he thinks stock options for top executives are counterproductive since they allow CEOs to claim potentially vast rewards without sharing in capital risks borne by the stockholders. And he's said that capital gains on stocks held for less than a year should be taxed at 100%.
Buffett's unconventional wisdom follows from the way his early childhood experiences found a perfect intellectual embodiment in Ben Graham's method of value investing, first described in Security Analysis, the 1934 classic that Graham wrote with David Dodd. Yet, Buffett's genius follows from his ability to maintain his grounding in Graham while expanding his vision of what makes for a good investment. Over his career, Buffett's method has evolved so that he no longer looks merely for stocks that are inexpensive relative to their assets but for stocks that are reasonably priced relative to their growth prospects. Determining a company's potential for growth involves subjective evaluation of such intangible factors as the value of a consumer brand and the quality of its management, assets that simply didn't figure into Graham's analysis.
In many ways, Buffett's methods are of greater interest than his returns because they are so full of lessons for individual investors. That's because with few exceptions, nearly anyone could have engaged in the investments that Buffett has made. His huge stake in Coca-Cola (NYSE: KO), for example, was bought on the open market at a time when most analysts were too timid to say the stock was undervalued. Though he's had increasing access to Wall Street insiders and other powerful, well-connected people, his investments ultimately involve no special tips from either. Instead, he has relied on his own encyclopedic, indeed, legendary knowledge of publicly available annual reports, which he devours like pulp fiction.
Still, the returns justify the method. For its July cover story on Buffett, Business Week calculated that $10,000 invested in Berkshire when Buffett took over the company in 1965 would be worth $51 million now. The same amount invested in the S&P 500 index would be worth just $497,431.
But Buffett's performance was exceptional from the start. Between 1957 and 1966, the partnership Buffett managed delivered a 1,156% return (or 704.2% after deducting Buffett's share of the profits) versus just 122.9% for the Dow, according to Lowenstein. So a partner's theoretical $10,000 investment would have grown to $80,420 in less than a decade.
Operating in what he deemed a highly speculative and thus (for him) difficult investment climate, Buffett followed up that first decade of gains with a 36% return in 1967 and a 59% return in 1968. It was the "Go-Go" era, and the broader market was surging. Still, Buffett was continuing to lap the market's performance.
By May 1969, however, he had had enough. He confessed to his partners, "I am not attuned to this market environment, and I don't want to spoil a decent record by trying to play a game I don't understand just so I can go out a hero." So he announced he was dissolving the partnership, something few successful money managers ever do. Buffett spent the rest of the year liquidating the partnership's holdings. Yet, he still managed a 7% gain in 1969, much better than the 11% loss recorded by the Dow.
Though speculator George Soros, former Fidelity Magellan fund manager Peter Lynch, and British economist John Maynard Keynes are revered for their investing prowess, no investor rivals Buffett for putting together such a consistently outstanding record over so long a period. And Buffett's returns have come without a single down year and without taking excessive risks or employing much leverage. For the most part, his success has simply followed from intelligent, long-term investing in American businesses.
Given Berkshire's current market capitalization of nearly $102 billion, Buffett's 31.5% economic stake is now worth about $32 billion. Due to Microsoft's (Nasdaq: MSFT) stunning run, Buffett's personal wealth has now fallen well behind that of his sometimes golfing companion Bill Gates. Still, Buffett is among the world's wealthiest people.
If this litany of numbers seems excessive, it's only appropriate. As Lowenstein makes clear, Buffett himself was obsessed from an early age both with numbers and with making a lot of money. He was continually doing calculations in his head, often to the amazement of the various groups of "apostles" who would gravitate to him as he sat on front porches as a child or in leather chairs as a fraternity brother and simply explained all things financial.