The Sage from Omaha

Warren Buffett, a.k.a. the "Sage from Omaha", is generally regarded as the most successful investor of all time. Even at the young age of eleven, Warren was as fascinated with stocks as other boys his age were fascinated with model airplanes. It was at this age that Buffet bought his first stock, Cities Service preferred at $38/share. He bought six shares in total, three for him and three for his sister Doris. He watched his investment drop to $27/share and eventually rebound to $40. It was at $40/share that he sold. Directly after he divested, the shares skyrocketed to $200. This was Buffett's first lesson in patience and one that this eventual multi-billionaire would never forget.1 The remainder of this brief journey through the life of Warren Buffet is broken up into five distinct sections. The first section provides some background on Warren and his family. Next, the story of Buffet's higher education and introduction to Benjamin Graham will be discussed. Then, Buffet's chronology through the ranks of the business elite will be presented. The fourth section contains excerpts from Buffett's essays and annual reports to Berkshire Hathaway shareholders. The last section has acknowledgement notes and source information.

I.

Buffett's Formative Years

Warren Edward Buffet was born on August 30, 1930 in the small community of

Omaha, Nebraska. Howard Buffet, his father, was working for a local bank as a securities salesman, and his mother, already caring for Buffett's older sister Doris, mainly stayed at home. It was shortly before Warren's first birthday that his father, Howard, announced to the family that the bank he was working in had closed. The Depression

was beginning and the Buffetts were headed for hard times. It was soon after the bank closed that Howard told the family that he and his friend George Sklenicka were opening their own business, Buffett, Sklenicka & Co. To take advantage of the newly vacated space, they started their business in the same building, as the bank that Howard had recently worked for was once in. Howard would peddle "Investment Securities, Municipal, and Public Utilities, Stocks and Bonds" in this new business.2 By Warren's sixth birthday, his family's financial condition had vastly improved. His father was doing well in the firm and the Buffetts were able to move to a larger home in town. The bad times of the previous years were not discussed among the family later in life. However, it was these first five difficult years of Buffett's life that had a major impact on the young boy. He had decided at the early age of five that he would be "very, very rich". It would become a mantra for his existence. He knew with absolute certainty that he would achieve this objective and he scarcely stopped thinking of ways to accomplish that goal.3 It is difficult to overestimate the impact Warren's father had on him. Howard Buffett was a very religious man. He was fair and just. He tired to always encourage his children and help to guide them in their moralistic beliefs. Every week, Howard would drill his children in religious values. He taught an adult Sunday school class and was a member of the local school board. He was a creature of habit and a messenger of his faith. He reminded his kids that they not only had a duty to God but also to the community itself. He was known to say that "you are not required to carry the whole burden - nor are you permitted to put down your share". Howard was staunchly Republican and was convinced that Roosevelt was destroying the dollar. He would give

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his children precious coins and buy nice things for the house. He would even go so far as to buy canned goods and a farm for the family, which were both intended to be a refuge from the hellfire of inflation.4 Warren, or "fireball", as his father would affectionately call him, was not unlike most young boys admiring his father yet selectively internalizing his beliefs. Warren would not be nearly as conservative as his father was. Instead, Warren would actually turn out to be quite the opposite in political beliefs and in particular moral traits. Perhaps Warren's lack of spiritual faith, in distinct contrast to his father's, was the basis for his one overwhelming fear. Death. Warren was and I would imagine still is terrified of it. At his father's request, he would attend church and Sunday school, but it had no effect on him. In fact during the sermons, an astute observer could notice the young Buffett analyzing the life spans of the believers in the Bible. He would do this not out of boredom but instead to determine whether or not faith could be positively correlated to longer life spans. He concluded it was not.5 This example was used to illustrate Buffett's real "faith", which was in numbers. He absolutely loved them. He understood them. He felt comforted by their unyielding consistency. It was obvious that Warren did not like change. He was always quite comfortable with what he already knew and trusted. It was these characteristics that helped make Buffett such a great investor. Later in life, he would make a fortune dealing only in securities that he "knew" or was "comfortable" with. When Warren was eleven, his life went through a major change, and Warren did not like changes. His father Howard was elected to the U. S. Congress and was forced to move the family to Washington D.C. A few weeks after arriving in Washington, Warren

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informed his parents he had trouble sleeping at night. He knew that this would worry his parents, and so he continued this charade until his parents agreed that he could move back to Omaha and stay with his grandfather and aunt. He was elated to return to Omaha, and it was while living with his aunt, who was a schoolteacher, that Warren was remembered as saying that he would be a millionaire by age 35. Coming from a young boy in eighthgrade, this was hardly believable, but to Warren it was plain and simple. He had no doubts. When asked why he wanted all that money, he responded, "It's not that I want money. It's the fun of making money and watching it grow." During his stay, Warren was also working for his grandfather at the Buffet & Son grocery store. It was there that Buffet saw for the first time the inner operations of a successful business. Importantly, and unbeknownst to Buffet, at that same store working as a stock boy on Saturday afternoons was Charlie Munger, who would eventually become Warren's primary business partner and vice-chairman at Berkshire Hathaway.6 Warren eventually joined his parents in Washington and remained there through his father's three terms as a Congressman. In Washington, Warren would harness his inherent business sense and entrepreneurial spirit into his own business. He began as a paperboy for the Washington Post. Warren was 13 at the time. His grades were mediocre in school, so his father threatened to pull him off the paper route. Quickly Buffett became an 'A' student. However, he was upset with life in Washington D.C., so he and a couple of friends ran away. It was an unsuccessful trip, and they were back the next day. Warren continued on his paper route and eventually expanded. He had a large pool of subscribers and attempted to expand his scope of products by adding magazines to his route. He filed and paid his own taxes from the age of thirteen and reportedly still

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does them himself today. He was so protective of his money that he would not even allow his parents to go near his profits. Every penny had to be there or something was amiss. While in high school, Warren and a friend began a new business Wilson Coin Operated Machine Company. Warren and his friend would rent out pinball ball machines to local barbershops and collect profits from its users. Buffet and his friend would act as if they were just workmen for the boss and tell the barbershops that the real boss was in the Mafia. This would limit complaints about old machines and make it look as if Warren was a simple yes-man. 7 Warren graduated from his high school in 1947 and was sixth in his class. When it was time to go to college, he decided on the nearby Wharton School of Finance and Commerce at the University of Pennsylvania. By the time he had left for college, he had delivered over 600,000 newspapers and made approximately $5,000. When he and his friend sold Wilson Coin, Warren pocketed an additional $600 in 1947 dollars.8 Warren was well on his way, but he was still lacking knowledge that could only be found in the mind of his eventual mentor, Benjamin Graham.

II.

Buffet's Education and the Impact of Graham

When Warren's father suggested that he attend the University of Pennsylvania,

Warren replied that "college would be a waste". After all, how many other sixteen-yearolds had two successful businesses reaping profits over $5,600? The correct answer was probably none. By the time Warren graduated from high school, he reportedly had read over a hundred business books. He felt that even though Wharton had a great reputation, there was little he could learn from the august university. However, he did reluctantly

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concede to his father and enrolled at Wharton in the fall of 1947. Warren soon found out that he was right and his father was wrong. Warren constantly complained that he knew more than his professors and that the program lacked in substance. His major annoyance was that his professors had fancy theories, but they offered little in the area of profit accumulation, which was what Warren craved. Warren felt that the program was too broad and general for his needs. To illustrate his point, Warren told an acquaintance that "all I need to do is to open the book the night before and drink a big bottle of Pepsi-cola and I'll make 100." Warren was known to spend a lot of his time at a securities firm in Philadelphia following stocks. At this point in his life he did not have a system in place for evaluation but that was soon to present itself.9 By the end of his freshman year, Warren was ready to leave Penn and go back home to Omaha. However, his father was able to convince him to stay another year and give Penn one more chance. As a sophomore in college, Warren began some new interests. He joined the Alpha Sigma Phi fraternity. He moved into their house during that year. Some readers might think that historically all fraternities and their members fit the now ever present stereotype of constant partying and bingeing. However, fraternities in that period were still of the sort that would wear a shirt and tie to dinners and sporting events. While Warren's fraternity was like most others that held parties, Warren was not the outgoing type. Following in his father's footstep, Warren was not one to drink alcohol or engage in promiscuous behavior. When his fraternity would throw beer parties on the weekends, Warren would sit on a couch in the main room and entertain the guests with lectures on the gold standard and various other market related concepts. The audience of fellow college students was said to be captivated by this young man. Remember, he was only

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seventeen at the time. He was able to get large groups to entertain question and answer sessions with him on any topic of interest. Warren knew it all. He had an unassuming air and was known to have a great wit and a self-deprecating humor. In the fall of 1949, Warren's fraternity brothers were shocked when he did not return to school. Instead, Warren transferred to a more familiar setting, the University of Nebraska at Lincoln.10 Warren was home again. At Nebraska, Warren was more in his element. He enjoyed being near his home and was once again feeling comfortable with his life. Being in a hurry to complete his degree to move onto more rewarding studies, so he took heavy academic loads to graduate early. In all it took him only three years to compete his undergraduate degree. While in Lincoln, he started another newspaper delivery service having local kids run the routes for him. The work was basically full time. By the time he graduated, he had saved over $9,800 in profits. He had yet to spend a dime. When he was done at Nebraska, he decided to apply to Harvard. Surprisingly to Warren, he was turned down. He wrote in a letter to a friend,
Those stuffed shirts at Harvard didn't see there [sic] way clear to admit me to their graduate school. They decided 19 was too young to get admitted and advised me to wait a year or two.

He would later write to the same friend,

To tell you the truth, I was kind of snowed when I heard from Harvard. Presently, I am waiting an application blank from Columbia. They have a pretty good finance department there; at least they have a couple of hot shots in Graham and Dodd that teach common stock valuation. 11

Buffett was a little coy in his letters to his friend. He had recently read Benjamin Graham's new book, The Intelligent Investor, while he was at the University of Nebraska. He had found the book to be quite captivating and was interested in discussing it more

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with Graham. Later, friends would remark that after Buffett had read Graham's book, "it was like he had found a god". Much to Warren's delight, he received a letter of acceptance that year in August and was on his way to Columbia to study with the master.12 Benjamin Graham was a professor at Columbia. He first hit the headlines when he and a fellow professor named David Dodd wrote a textbook entitled Security Analysis. It would become the seminal textbook in the field. After that book was completed, Graham would begin work on his own book called The Intelligent Investor. This book above all others would forever leave his mark among the elite in corporate finance/investing theories. Graham's approach to investing was quite different from those of his time. Most investors where statisticians and used speculation to prepare their decisions. Graham, however, had a simple premise. He would look for companies that were so cheap as to be free of risk. Graham and Dodd both would posit that when investing in securities, investors should concern themselves with the underlying business itself, not the stock movement. At a time when great minds like Gerald M. Loeb were pronouncing that stock picking had more to do with psychology then the business itself, Graham and Dodd were offering radical advice. Graham and Dodd said that the investor should focus on the assets of the business, cash flows, future prospects, etc. to derive the "intrinsic value" of the stock, which they believed was independent of its market price. An interesting concept they posited was that the stock market was not a "weighing machine" of the firm's value but it was instead a "voting machine" of what the fellow stock investors thought the actual value was. One could beat the market and reap profits by investing in firms that had a price well below its intrinsic value and trust that the

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market would correct itself to the appropriate values. However, assuming the prices of stocks were in fact below their true value, Graham and Dodd admitted that it would take an "inconveniently long time for the market to correct itself." Graham would add clarity to this concept in his Intelligent Investor. He would coin the phrase "margin of safety" as a way to ensure profit redemption. The premise was that the investor should insist on a very big gap between the quoted price and the actual intrinsic value, thus insuring you of profits regardless of how high the price rebounded.13 Graham would also encourage investors to pay no heed to the stock ticker. If the investment was sound and based on his principles, the volatility of the market shouldn't matter. Graham came up with another groundbreaking concept where investors had their "basic advantage" called Mr. Market,
Imagine that in some private business you own a small share that cost you $1,000. One of your partners named Mr. Market, is very obliging indeed. Every day he tells you what he thinks your interest is worth and furthermore offers either to buy you out or to sell an additional interest on that basis. Sometimes his idea of value appears plausible. Often, on the other hand, Mr. Market lets his enthusiasm or his hears run away with him, and the value he proposes seems to you a little silly.

The key was that the investor could take advantage of Mr. Market's daily quote or choose to ignore it because Mr. Market would always return with a new one. 14 A smart investor was able to see past Mr. Market's manic-depressive moments and analyze whether the business being quoted had really changed or whether perhaps Mr. Market was acting up again. Buffett was fascinated by these concepts and would build his fortune off of Graham and Dodd's basic techniques. Buffett became Graham's greatest pupil ever. In his twenty-year tenure at Columbia, Graham awarded only one A+ in his investment course and that belonged to Warren Buffett. When it came time to graduate, Buffett was uncertain as to where he

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would work. His father and Graham both recommended that Warren not pursue a career on Wall Street. He agreed. He instead tried to get a position working with Graham as a broker in Graham's own investment service. Much to his surprise, Graham turned him down. His reasoning was not because Buffett wasn't qualified but because at that time, Wall Street did not allow Jews into their firms. Graham thought that was unfair, so he promoted his own policy of no Gentiles allowed. Graham was not being prejudice, but instead wanted to give Jews their own opportunity to find work at his firm. So Buffett decided to return back to Omaha and work for his father at his father's brokerage firm.15 Buffett had returned to Omaha, but he was not through with Graham.

III.

Buffett's Rise
After working for his father a few years, Buffett received a call from his mentor,

Graham. The religious barriers on Wall Street were dropped and Buffett was welcome to join Graham at his partnership. It was during this time with Graham that he would really see Graham's concepts in work. Buffett utilized Graham's concepts of intrinsic value and margin of safety masterfully. In fact, he was forced to follow Graham's tenets so steadfast that Buffett began to realize that he did not always agree with his mentor. Graham would always look for "cigar butts". Cigar butts were firms that were down and out but perhaps still had one more "puff" of value left in them. Buffett began to realize that he was not quite as risk-averse as Graham. They both said that the main goal of the investor is to not lose money, but Buffett thought that Graham was missing opportunities with firms that did not exactly fit the cigar butt model. While Buffett still credits Graham with his success, he was able to see that there was profit opportunities beyond the strict

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Graham model. Warren felt that Graham was too quantitative. Graham's technique required that you set quantitative measurements of stock price, intrinsic value and margin of safeties to determine whether the investment was sound. Where Graham and Buffett differed was that Buffett was able to price the intangibles of a firm, such as brand loyalty, intellectual capital, etc.16 Graham would not incorporate these into his models because it was too subjective and open to human error. While Warren understood that errors could be made, he had what all investors need - confidence. Warren knew he was right and was willing to stake money on that. He did not feel it was risky because the analysis was on his side. In 1956, when Graham decided to retire from investing and fold the partnership, Buffett was on his own at last. Even during his time working for Graham, Buffett was choosing investments for three partnerships. Remarkably, he was able to outperform Graham's brokerage firm every year that he worked for him. This helped build his already strong confidence. When Graham retired, Buffett moved back to Omaha. It was here that he formed his first investment firm, the Buffett Partnership. Warren would use the principles that he gained from both Graham and Dodd, coupled with his own investment philosophies to consistently outperform the market every year. Through his continued success, he attracted large sums of capital from local Omaha residents as well as some contacts he had made while away in college up north. It was with this capital that he would make the investment that would serve as the catalyst for his future multi-billion dollar fortune. He bought an old textile firm called Berkshire Hathaway. He used profits and cost cutting techniques at Berkshire Hathaway to allow him to invest more and more into the market. By the end of the 1960s, which in market terms was the Go-Go period, Buffett

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Partnership had grown immensely. He had achieved his goal of beating the market every year and had made fortunes for his investors. However, he felt that due to the recent bull market, there was little opportunity for him and so he felt it best to liquidate the partnership. He would sell all of his holdings except Berkshire and Diversified.17 By 1974, Buffett was back in the market. He had sat out long enough. Warren felt that the recent bear market had taken stock prices well below many firm's actual intrinsic values. He remarked as to how he felt about the market's recent valuation scheme, "I feel like an oversexed guy in a whore-house. This is the time to start investing." Investing is exactly what he did. He would make a lot of money investing in firms, such as The Omaha Sun, Washington Post, GEICO, Blue Chip, and Diversified Retailing. This was the rebirth of Buffett, and it was the last time that he would sit on the sidelines of the investment industry. There were periods of time in the future where he would put money in bonds as opposed to stocks if he felt the market was overvalued, but for the most part he has remained active to this day looking for attractive investments in firms. He would eventually become a major shareholder in many firms that are everyday household names, including Coca-Cola, ABC, Walt-Disney, and Salomon Brothers. He has never under performed the market in any year and for many years he was the richest man in the world, until Bill Gates came along.18

IV.

Excerpts from the Sage

Below are selected excerpts by category from essays that Warren Buffett has

written to the shareholders of Berkshire Hathaway in their annual reports. As a reminder, Charlie Munger is an old friend and business partner with Buffett at Berkshire.

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Fiduciary Duties and Management in General19

Although our form is corporate, our attitude is partnership. Charlie Munger and I think of our shareholders as owner-partners, and of ourselves as managing partners. (Because of the size of our shareholdings we are also, for better or worse, controlling partners.) We do not view the company itself as the ultimate owner of our business assets but instead view the company as a conduit through which our shareholders own the assets. Our long-term economic goal is to maximize Berkshire's average annual rate of gain in intrinsic business value on a per share basis. We do not measure the economic significance of performance of Berkshire by its size; we measure by per-share progress. We are certain that the rate of per-share progress will diminish in the future - a greatly enlarged capital base will see to that. But we will be disappointed if our rate does not exceed that of the average large American corporation. We use debt sparingly and, when we do borrow, we attempt to structure our loans on a long-term fixed-rate basis. We will reject interesting opportunities rather than over-leverage our balance sheet. This conservatism has penalized our results but it is the only behavior that leaves us comfortable, considering our fiduciary obligations to policyholders, lenders and the many equity holders who have committed unusually large portions of their net worth to our care. (As one of the Indianapolis "500" winners said: "To finish first, you must first finish.") We feel noble intentions should be checked periodically against results. We test wisdom of retaining earnings by assessing whether retention, over time, delivers shareholders at least 41 of market value for each 41 retained. To date, this test has been met. We will issue common stock only when we receive as much in business value as we give. This rule applies to all forms of issuance - not only mergers or public stock offerings, but stock-for- debt swaps, stock options, and convertible securities as well. We will not sell small portions of your company - and that is what the issuance of shares amounts to - on a basis inconsistent with the value of the entire enterprise. You should be fully aware of one attitude Charlie and I share that hurts our financial performance: Regardless of price, we have no interest at all in selling any good business that Berkshire owns. We are also very reluctant to sell sub-par businesses as along as we expect them to generate at least some cash and as long as we feel good about their managers and labor relations. Nevertheless, gin rummy managerial behavior (discard your least promising business at each turn) is not our style. We would rather have our overall results penalized a bit than engage in that kind of behavior.

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We will be candid in our reporting to you, emphasizing the pluses and minuses important in appraising business value. Our guideline is to tell you the business facts that we would want to know if our positions were reversed. We owe you no less. We also believe candor benefits us as managers: The CEO who misleads others in public may eventually mislead himself in private. References to EBITDA make us shudder - does management think the tooth fairy pays for capital expenditures? We're very suspicious of accounting methodology that is vague or unclear, since too often that means management wishes to hide something. And we don't want to read messages that a public relations department or consultant has turned out. Instead, we expect a company's CEO to explain in his or her own words what's happening. Charlie and I think it is both dangerous and deceptive for CEOs to predict growth rates for their companies. They are, of course, frequently egged on to do so by both analysts and their own investor relations departments. They should resist however because too often these predictions lead to trouble. At our annual meetings, someone usually asks, "What happens to this place if you get hit by a truck?" I'm glad they are still asking the question in this form. It won't be too long before the query becomes: "What happens to this place if you don't get hit by a truck? The requisites for board membership should be business savvy, interest in the job, and owner-orientation. Too often, directors are simply selected because they are prominent or add diversity to the board. That practice is a mistake. Furthermore, mistakes in board selecting directors are particularly serious because they are so hard to undo: The pleasant but vacuous director need never worry about job security. Our prototype for occupational fervor is the Catholic tailor who used his small savings of many years to finance a pilgrimage to the Vatican. When he returned, his parish held a special meeting to get his first-hand account of the Pope. "Tell us," said the eager faithful, "just what sort of fellow is he?" Our hero wasted no words: "He's a forty-four medium." We intend to continue our practice of working only with people whom we like and admire. This policy not only maximize our chances of good results, it also ensures us an extraordinarily good time. On the other hand, working with people who cause your stomach to churn seems much like marrying for money - probably a bad idea under any circumstances, but absolute madness if you are already rich. My conclusion form my own experiences and from much observation of other businesses is that a good managerial record (measured by economic returns) is far more a function of what business boat you get into than it is of how effectively you row (though intelligence and effort help considerably, of course, in any business, good or bad). Should you find
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yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks. A common result is the use of the stockholder's money to implement the charitable inclinations of the corporate manager, who usually is heavily influenced by specific social pressures on him. Frequently there is an added incongruity; many corporate managers deplore governmental allocation of the taxpayer's dollar but embrace enthusiastically their own allocation of shareholder's dollar. Of course, stock options often go to the talented, value-adding managers and sometimes deliver them rewards that are perfectly appropriate. (Indeed, managers who are really exceptional almost always get far less than they should.) But when the result is equitable, it is accidental. Once granted, the option is blind to individual performance. Because it is irrevocable and unconditional (so long as the manager stays with the company), the sluggard receives rewards from his options precisely as does the star. A managerial Rip Van Wrinkle, ready to doze for ten years, could not wish for a better incentive system.

Corporate Finance and Investing20

Whenever Charlie and I buy common stocks for Berkshire's insurance companies we approach the transaction as if we were buying into a private business. We look at the economic prospects of the business, the people in charge of running it, and the price we must pay. We do not have in mind any time or price for sale. Indeed, we are willing to hold a stock indefinitely so long as we expect the business to increase in intrinsic value at a satisfactory rate. When investing, we view ourselves as business analysts - not as market analysts, not as macroeconomic analysts, and not even as a security analyst. Our approach makes an active trading market useful, since it periodically presents us with mouth-watering opportunities. But by no means is it essential: a prolonged suspension of trading in the securities we hold would not bother us. Eventually, our economic fate will be determined by the economic fate of the business we own, whether our ownership is partial or total. Ben's Mr. Market allegory may seem out-of-date in today's investment world, in which most professional and academicians talk of efficient markets, dynamic hedging and betas. Their interest in such matters is understandable, since techniques shrouded in mystery clearly have value to the purveyor of investment advice. After all, what witch doctor has ever achieved fame and fortune by simply advising, "Take two aspirins"? The value of market esoterica to the consumer of investment advice is a different story. In my opinion, investment success will not be produced by some arcane formulae, computer programs or signals flashed by the
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price behavior of stocks and markets. Rather as investor will succeed by coupling good business judgement with an ability to insulate his thoughts and behaviors from the super-contagious emotions that about the marketplace. In my own efforts to stay insulated, I have found it highly useful to keep Ben's Mr. Market concept firmly in mind. To evaluate arbitrage situations you must answer four questions: (1) How likely is it that the promised event will indeed occur? (2) How long will your money be tied up? (3) What chance is there that something better will transpire - a competing takeover bid for example? And (4) What will happen if the event does not take place because of anti-trust action, financing glitches, etc.? The other way we differ from some arbitrage operations is that we participate in transactions that have been publicly announced. We do not trade on rumors or try to guess takeover candidates. We just read newspapers, think about a few of the big propositions, and go by our own sense of probabilities. In my opinion, the continuous 63-year arbitrage experience of GrahamNewman Corp., Buffett Partnership, and Berkshire illustrates just how foolish the Efficient Market Theory is. Naturally the disservice done to students and gullible investment professionals who swallowed EMT has been an extraordinary service to us and other followers of Graham. In any sort of a contest - financial, mental, or physical - it's an enormous advantage to have opponents who have been taught that it's useless to even try. From a selfish point of view, Grahamites should probably endow chairs to ensure the perpetual teaching of EMT. An investor cannot obtain superior profits from stocks by simply committing to a specific investment category or style. He can earn them only by carefully evaluating facts and continuously exercising discipline. Investing in arbitrage situations, per se, is no better a strategy than selecting a portfolio by throwing darts. The strategy we've adopted precludes our following standard diversification dogma. Many pundits would therefore say that the strategy must be riskier than that employed by more conventional investors. We disagree. We believe that a policy of portfolio concentration may well decrease risk if it raises, as it should, both the intensity with which an investor thinks about a business and the comfortlevel he must feel with its economic characteristics before buying into it. In stating this opinion, we define risk, using the dictionary terms, as "the possibility of loss or injury." Academics like to define investment "risk" as the relative volatility of a stock or portfolio of stocks - that is, their volatility, as compared to that of a large universe of stocks. Employing databases and statistical skills, these academics compute with precision the "beta" of a stock - its relative volatility in the past - and then build arcane investment and capital-allocation theories around this calculation. In their hunger for a
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single statistic to measure risk, however, they forget a fundamental principle: It is better to be approximately right than precisely wrong. If you are a know-something investor, able to understand business economics and to find five to ten sensibly priced companies that possess important long-term competitive advantages, conventional diversification makes no sense for you. It is apt simply to hurt your results and increase your risk. I cannot understand why an investor of that sort elects to put money into a business that is his 20th favorite rather than simply adding that money to his top choices - the businesses he understands best and that provide the least risk, along with the greatest profit potential. In the words of the prophet Mae West: "Too much of a good thing can be wonderful." In addition, we think the very term "value investing" is redundant. What is "investing" if it is not the act of seeking value at least sufficient to justify the amount paid? Consciously paying more for a stock than its calculated value - in the hope that it can soon be sold for a still-higher price - should be labeled speculation (which is neither illegal, immoral nor - in our view - financially fattening). Should you choose to construct your own portfolio, there are a few thoughts worth mentioning. Intelligent investing is not complex, though that it is far from saying that it is easy. What an investor needs is the ability to correctly evaluate selected businesses. Note the word "selected": You don't have to be an expert on every company, or even many. You only have to be able to value companies within your circle of competence. The size of that circle is not very important; knowing its boundaries, however, is vital. To invest successfully, you need not understand beta, efficient markets, modern portfolio theory, option pricing, or emerging markets. You may, in fact, be better off knowing nothing of these. That, of course, is not the prevailing view at most business schools, whose finance curriculum tends to be dominated by such subjects. In our view, though, investment students need only two well-taught courses - How to Value a Business, and How to Think About Market Prices. Your goal as an investor should simply be to purchase, at a rational price, a part interest in an easily-understandable business whose earnings are virtually certain to be materially higher five, ten and twenty years from now. Over time, you will find only a few companies that meet these standards - so when you see one that qualifies, you should buy a meaningful amount of stock. You must also resist the temptation to stray from your guidelines: If you aren't willing to own a stock for ten years, don't even think about owning it for ten minutes. Put together a portfolio of companies whose aggregate earnings march upward over the years, and so also will the portfolio's market value.

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V.

Source Notes and Acknowledgements

To conclude this apologetically brief journey through the life of Warren Buffett, I

need to acknowledge my sources. If your appetite for Buffett has only been whetted, I would suggest two remarkable sources that I used throughout my research. The first source written by Roger Lowenstein is called Buffett: The Making of an American Capitalist. The book is biographical in context and was used to provide the information regarding the first three sections of the preceding report; e.g. Buffet's Formative Years, Buffett's Education and the Impact of Graham, etc. The second source is called The Essays of Warren Buffett: Lessons for Corporate America, selected, arranged and introduced by Lawrence A. Cunningham. This was the primary source used for the fourth section called Excerpts from the Sage. Warren Buffett with possible co-authorship of Charlie Munger wrote the essays contained in this book. I would advise that any who are interested in furthering their knowledge of Warren Buffett including his investment advice to read both of these books. The biography should be read first to enhance your understanding of Mr. Buffett. Then, the essays will make more sense due to their contextual relevance in your thoughts.

Disclaimer: Any and all excerpts from essays written by Warren Buffett were and are to be used only for educational purposes as stated by the exception to copyright infringement known as "Fair Use", where this author's intention was noncommercial, non-compensatory, and was solely educational in nature.

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END NOTES (sources)

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Lowenstein, Buffet: The Making of an American Capitalist. Lowenstein, Buffet: The Making of an American Capitalist. 3 Lowenstein, Buffet: The Making of an American Capitalist. 4 Lowenstein, Buffet: The Making of an American Capitalist. 5 Lowenstein, Buffet: The Making of an American Capitalist. 6 Lowenstein, Buffet: The Making of an American Capitalist. 7 Lowenstein, Buffet: The Making of an American Capitalist. 8 Lowenstein, Buffet: The Making of an American Capitalist. 9 Lowenstein, Buffet: The Making of an American Capitalist 10 Lowenstein, Buffet: The Making of an American Capitalist 11 Lowenstein, Buffet: The Making of an American Capitalist 12 Lowenstein, Buffet: The Making of an American Capitalist 13 Lowenstein, Buffet: The Making of an American Capitalist 14 Lowenstein, Buffet: The Making of an American Capitalist 15 Lowenstein, Buffet: The Making of an American Capitalist 16 Lowenstein, Buffet: The Making of an American Capitalist 17 Lowenstein, Buffet: The Making of an American Capitalist 18 Lowenstein, Buffet: The Making of an American Capitalist 19 Cunningham, The Essays of Warren Buffett: Lessons for Corporate America 20 Cunningham, The Essays of Warren Buffett: Lessons for Corporate America

19 Joe Stout, November 2001