I am back from Buffett’s Omaha. Every year I come back feeling supercharged for the year ahead. This year was no different. From morning till night I had the pleasure of sharing and debating ideas with investors from all over the world. Though I did not plan it this way, the first day I had dinner with value investors/friends from the UK, on the second from Germany, and on the third from Spain. I have at least a dozen stock ideas to research and new thoughts to process.Charlie Munger, in his usual brilliantly succinct manner, spit out a few terrific zingers at the Berkshire meeting: “If an investment comes with a high commission, don’t even read the prospectus [run away]” and “Prostitution is a step up for compensation consultants” and “If short-term performance is something that turns you on, you should not be in this room.” Watch this interview with Munger. He is too old (88) and too rich to try to be politically correct – he is very refreshing.
Seek out people who disagree with you
While answering a question on his political views and their impact on Berkshire (see question 13), Buffett said something that really resonated with me, though for a different reason: “If you are going to choose your friends and your investments if they agree with you, you are going to have a very peculiar life.”
I have a dentist friend. He was born in Russia, moved to Israel when he was 7, spent 20 years in Germany, and then moved to Denver about 10 years ago. He is extremely smart, very well-read, and a thoughtful person. His multi-continent background gives him a unique perspective on things. However, I have yet to meet a person with whom I disagree more about US and global politics. In the past I used to get angry at him. After one of our regular debates, I’d sometimes go into avoidance mode for a few months. His disagreements were passionate but also well-thought-out and backed up with facts and his own theories.
Last winter he invited to me to go skiing with him. Overall he is a pleasant person, but I was a bit hesitant – it is a two-hour drive each direction from Denver to the mountains. Four hours of disagreements in one day? But I went along, and instead of disagreeing with him I started to listen. I tried to identify the specifics of our disagreement, what assumptions both of us were making. And then tried to focus the discussion on these more precise points of disagreement. In the end we each learned from the other. Our views have not changed much (political views are like religion beliefs, nearly impossible to change), but this summer we are going to go off bicycling together, and I am looking forward to it.
This applies to investing as well. When you are long a stock you are naturally trying to seek out investors who have the same opinion, and naturally stay away from those who have contrary views. Instead, we should try to do the opposite, seeking out smart people who, after doing their research (a very important point), came to a different conclusion from ours. This point is a bit more nuanced. If I talk to a momentum growth investor about Xerox, I know exactly why he’ll be avoiding it; there is no momentum in the stock price. His view will bring me very little insight. However, the perspective of a smart fundamental investor who’s done thorough research but arrived at a different conclusion might be very valuable. When we find someone who disagrees, we need to identify exactly where the differences in opinion lie (assumptions, new/missing important data points, etc.) and then methodically and objectively try to refute those points. If you cannot, maybe you are not as right as you thought you were.
I’ve seen Jim Chanos do this. When he presents an idea he’ll say, “Bulls make the following assumptions…” and he’ll impartially spell them out; and then he’ll go, “But here is why we think they’re are wrong” (or the results are not achievable etc.). Speaking of Jim, he was interviewed in the Graham and Doddsville newsletter. I really liked this interview, because it went deep into Jim’s unique investment process. He also recently participated on an investment panel on China at the Milken Institute. It is worth watching.
The budget deficit is a stimulus
In answer to a question, Buffett said something along the lines of “When government runs a 10% deficit, it is a stimulus, though nobody calls it that.” But the bond market will not let us run 10% deficits forever. Unless an unlikely miracle happens and, due to super economic growth, we fill in that hole, taxes will have to go up, government spending will have to be cut, and/or money will have to be printed. It is hard for me to see how the current (artificially set by the Fed, insanely low) long-term interest rates will stay there. As Buffett mentioned, elimination of the deficit will be destimulating, so the future may hold a weird combination of low real growth and still-high interest rates.
China = post-bubble Japan?
On a different topic, The (UK) Telegraph has a fairly bleak article on the sorry state of the Chinese economy, which is coming to resemble the Japanese post-bubble economy at an increasing rate. Here are some scary excerpts, with my comments:
- “China’s electricity output – watched religiously by bears – slumped in April. It is up just 0.7pc over the last year.” – This number is the hardest to cook. The rate of growth has been declining for a few months.
- “State investment in railways has fallen 44pc, with an accelerating downward lurch over recent months. Highway construction has dropped 2.7pc.”
- “The Yangtze shipyards tell the tale. Caixin magazine said eight of the 10 largest builders in the country have not received a single new order this year.”
- “Housing sales slumped 25pc in the first quarter, testimony to the zeal of regulators. This has since fed into a drastic fall in new building.… floor place under construction fell 28.3pc in April.” – The housing market is extremely important for Chinese federal and local governments – see next data point.
- “Land sales provide 70pc of tax revenue to local authorities and 30pc to the central government.”
- “The People’s Bank said new loans fell from $160bn in March to $108bn in April. Non-conventional lending seized up altogether. Trust lending fell by 96pc, bankers’ acceptance bills by 90pc.”
- “Yes, consumer price inflation is 3.4pc – though falling – but consumption is a third of GDP. Fixed investment is 46pc, and here prices have dropped 3.5pc in six months. Export prices have dropped 6.6pc.” This is not a dynamic and healthy economy; its growth was completely predicated on large-scale fixed-income investment. Though it looks like the Chinese government has succeeded at fighting inflation, the system is so addicted to stimulus/construction that if they don’t restart building more empty cities and bridges to nowhere, the economy will stall. It is a no-win situation. (Is it already stalling?)
I had the pleasure to participate (third year in a row) on the Value Investing Panel at Creighton University. Bruce Greenwald – charismatic, brilliantly smart Columbia University professor – was on the panel as well. Bruce and I had a lively debate about the usefulness of discounted cash-flow analysis. I realise that for civilians (non-finance geeks) this disagreement is like two paleontologists arguing about dinosaurs’ procreation habits. You can watch it in its entirety (scroll to the bottom of the page – the video is horrible but the audio is fine).
While in Omaha I was interviewed by Yahoo! Breakout’s Matt Nesto. We talked about Facebook, Microsoft, and Electronic Arts. We were outside of Borsheim’s, a large jewelry store owned by Berkshire Hathaway. There were probably a few thousand people who could not wait to buy jewelry and get their hands on free booze and food.
A year ago I did a 90-minute lecture at Johns Hopkins University in DC on China and Japan. It has finally made its way to YouTube.
I was going send out an article in this email, but this is already too long – I’ll save it for next time.
And this is a good time to start a new a new tradition: at the bottom of each email I’ll include a link to my favourite music clip (I’m a classical music fan, so don’t get too excited).
My parents always loved classical music; in fact I don’t remember them listening to any other music. When mum put me to sleep she’d employ her favourite record, Rachmaninov’s Piano Concerto Number 2. I think Rachmaninov is dear to me because it brings out memories of childhood and my mother.
When I came to United States I discovered a young Russian pianist (he is now a few years older), Evgeniy Kissin. He was a child prodigy. I’ve heard many pianists play Rachmaninov, but his interpretations touch me the most. Here is the Rachmaninov Piano Concerto No. 2 with Evgeniy Kissin (part 1-1, part 1-2, part 2-1, part 2-2, part 3-1, part 3-2).
Vitaliy N. Katsenelson, CFA, is Chief Investment Officer at Investment Management Associates in Denver, Colo. He is the author of The Little Book of Sideways Markets (Wiley, December 2010). To receive Vitaliy’s future articles by email, click here or read his articles here.
P.S. Watercolor “European City. Evening.” is by my father Naum Katsenelson
Investment Management Associates Inc. is a value investing firm based in Denver, Colorado. Its main focus is on growing and preserving wealth for private investors and institutions while adhering to a disciplined value investment process, as detailed in Vitaliy Katsenelson’s Active Value Investing (Wiley, 2007) book.
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