Lessons For Indian Investors From Investing Failures

Of Warren Buffet
By Niraj Kumar

We learn wisdom from failure much more than from success – Samual Smiles

My primary objective behind writing this article is to help retail and common investors
make their own financial decisions and learn from investing failures of one of the all time
greatest investor in financial market history, Warren Buffet. As per Forbes 2010 list of
world richest individuals , Warren Buffet (with net worth of $47 billion ) and George
Soros (with net worth of $13 billion ) are perhaps only individuals among top 50 (It is
also interesting to know six indian among them whose combined net worth of $ 113
billion is almost about 10 % of India GDP of $1.31 trillion though all of them earned or
inherited most of their fortunes through business other than financial market) to earn their
fortune almost entirely by exploiting the inefficiencies of global financial markets though
their style of exploitation may be slightly different. It may not be entirely coincidental
that both of them are almost same age (79 years) and USA citizens (More about it on
some other article).

Warren Buffet is definitely among most talked and written about financial personalities
in recent memory ( his holding company Berkshire Hathaway Inc annual report among
most widely read annual report by global investment community) and perhaps in entire
human history but contrary to popular believe major chunk of his fortunes created
through purchase of businesses rather than stocks. Most part his stock buying is
substantial (with holdings of more than 10 % of the company in question which allowed
him to participate in financial and other strategic decision of the company) and during
period when most of those companies are going through temporary period of crisis
(which allowed him to extract better investment deal from companies with assured return
substantially higher than generally available to common stock investors through dividend
payments) Also stage of American economy and financial market during major part of
his investing career has profound effect on his investing success. Perhaps what
differentiates most of investors (including me) from Warren Buffet apart from his
financial acumen is his simplicity of thought, patient, preservenss, emotional intelligence,
foresight, ability to learn from past mistakes and wisdom of others like Graham, ability to
adopt his investment style as per changing realities of financial market and for most part
commit money only to businesses which falls within his areas of competencies. Also like
most of financial investor during his investing career of over five decades, his financial
investment decisions have turned out failure as many times as its turn out success though
successful one is most widely reported, followed, liked and believed by most of investing
community.

Warren Buffet and some of his most successful investments

To support my above assertion let us looks at some of his most successful security
investment decisions which are hold in his holding company portfolio for many years.

Table 1.1: Some of Berkshire Hathaway most successful investments

(Source: Berkshire annual report 2000, 2005, 2007, 2009)
(All Data is normalized to cost price as appear in 2000 annual report to enable multi year
comparison to take care of buys and sales during the period in question)
Company Percentage Cost of
of Purchase Market Value (in millions $)
Company (in 2000* 2005 2007 2009
Owned millions $
as in
2000
annual
report)
American 12.2 1470 8329 7802 7887 6143
Express
Company
The Coca 8.4 1299 12188 8062 12274 11400
-Cola
Company
The Gillette 3 600 3468 3694 4339 2355
Company
(Latter P &
G Company
after
acquisition
of Gillette)
The 18 11 1066 1322 1367 NA
Washington
Post
Company
Wells Fargo 5.7 319 3067 692 437 389
& Company
Others 6703 9501 Not Not Not
Relevant Relevant Relevant
Total 10402 37691 30475 19875 17725
Common
Stocks

*: Mention increase in market value from time of buy. Some of buys like Washington
Post happened in 1970’s while some other like Coca-Cola, Gillette happens in mid 80’s
& early 90’s.
As can be seen from table 1.1 above most of his very successful and multi-bagger
investments of 1970’s and 80’s and early 90’s like washington post, coca-cola, gillette ,
wells fargo, american express from 2000 onwards has not shown any significant
appreciation(actually almost all of them have suffered significant decline in value in last
10 years). Also cost of common stocks investment for Berkshire in year 2000 was
around $ 10.4 billion which has increased to around $ 15.94 billion in 2005, $ 39.25
billion in 2007 and around $ 34.6 billion in 2009, so significant new money was invested
in stock holdings during 2005 and 2009 (more than $ 20 billion) which was not
generated through gain in securities and profit bookings but free float cash available from
his holding company reinsurance and other cash flow generating businesses which
subsequently turn out to be one of the most difficult period for security investment in
American history and consequently may be not a wise investment decision in hinder
sight.
Indian investor can draw following lessons from above discussion:
Lesson # 1: No company even with high quality management, products and services
can successfully grows its business and market share successfully over decades
continuously and at some point of time it is likely to decline or hit upper limits of its
growth potential. So investors never wed for life to a security investment and
analyze the size and future growth potential of the business before making their
potential investment decisions.

Lesson # 2: It is highly unlikely for any investor to make a living out of security
market investment because there is hardly anybody who was able to do that
successfully by depending on such activities alone (including Warren Buffet).
However working in financial industry as professional is altogether a different ball
game. So involve yourself in real business activities which contribute to growth of
Indian economy and not rely on speculation as a way of living because in long run it
may not likely to succeed.

Lesson # 3: Stages of Indian economy and security market has important bearing on
investment success and considering current economy scenarios and market
conditions it is not likely that in next decade Indian investor as a class can able to
generate and preserve value of their investment (after adjusting for inflation) like
they did in last decade (during 2000-10) so diversify your investments significantly
in other financial instruments including debt and commodities.

Lesson # 4: Nobody can time the market entry/exit successfully most of the times
even with insiders information on state of economy in general, so focusing on
business fundamentals of companies may be more worthwhile than trying to time
the market.

Beating the market and Warren Buffet

S & P 500 index is one of the most popular index used in USA market to benchmark
investment return and success (Like sensex and nifty used in Indian market) and in first
page of Berkshire annual report Warren Buffet lists comparisons of his annual returns
w.r.to S & P 500 index from 1965 onwards. As per this report S & P index has grown
with CAGR (Compound Annual Growth Rate) of 9.3 % while investment in Berkshire
share has grown with CAGR of 20.3 % (This should not be confused with return of its
security investment only and includes profit from its various businesses as well. Rs 1
invested in Berkshire in 1965 should have grown to Rs 4340 in 2009 while with index it
should have grown to 54 during the period ). To put this figure in prospective for Indian
investors, Wipro (a leading Indian IT Service company) has grown with CAGR of around
18 % and Tata group has grown with CAGR of around 13 % during the same period.
There is no doubt that Berkshire returns during period is spectacular to say the least
however between 1999 to 2009, Berkshire has grown with CAGR of 7.58 % only, which
is less than long term S & P index average CAGR of 9.3 %. Also most of the gain of
Berkshire has come from avoiding steep decline in value of its portfolio during bear
markets of 2002 and 2008 and not from major gain during bull period of 2003 – 07 (in
comparison to S & P index). Actually Buffet portfolio has gained by 10 % in 2002 (while
S & P was declined by 22.1 %) and in 2008 declined by 9.6 % (in comparison to S & P
decline of whopping 37 %).

Lesson # 5: It is almost impossible to beat the market over long period of time and
even Buffet find it difficult to achieve this feat. So for most investors investing in
Index fund may be best choice over long term. Also yearly return of portfolios may
be small but compounding over long period of time is what causes actual creation of
wealth. To put this in prospective if every human in year 1600 had foresight to
invest only Rs 1 and should have grown that amount to CAGR of only 5 % (by
passing to their next generations off course) that amount should have more than 48
crore in 2010 and no person in the world should have been poor today. This also
tells us how difficult it is to pass even small amount of wealth through generations
or grow the money consistently over long period of time (This can be a good advise
for our politicians , businessman, bureaucrats and greedy promoters who indulge in
corruption at the expense of country and common investors in false hope of
amassing wealth for their future generations)

Warren Buffet and some of his most unsuccessful investments

Warren Buffet investment record is spectacular however like most of investors many of
his investments after purchases have turned into failures.

Table 1.2: Some of Berkshire Hathaway most unsuccessful investments

Company Year of Cost of Market Remarks

Purchase Purchase Value at
(in millions time of exit
$) (in millions
$)
Salomon Inc 1988-90 700 1700 Salomon Inc is among
 leading investment
companies of wall street in
1970s and 1980s came
close to bankrupty in early
1990’s and latter acquired
by Citigroup in 1998
General Re 1998 22000 Not After Buffet buy by paying
Available 22 billion $ its business has
but continuously declined from
definitely premium collected of 8.6
significantly billion $ in 2000 to 5.7
less than its billion $ in 2009. During
acquisition whole this period this
cost of 22 acquisition is mostly in loss
billion $. with combined loss of
May be around 5.7 billion $.
currently
valued
around 10-
12 billion $
only.
NetJets 1998 725 Still hold by NetJets is in aeroplane
Berkshire leasing business and still
owned by Berkshire but in
last 10 years it has not able
to achieve expected profit
and during 2009 posted a
loss of 700 million $.
Pier 1 Imports 2004 150 30 (Started Pier 1 is a furniture retailer.
selling in Buffet bought this stock at
2005) price of 20 $ in 2004 and
by 2007 this stock was
quoting at less than 5 $ per
share
ConocoPhilips 2006-07 2741 1926 ConocoPhilips is an oil
producing company. Buffet
has started investing when
oil prices are close to its
peak of around 140 $ per
barrel which dropped to
around 35 $ in 2008. So
also Its share price has
dropped in value by more
than half after Buffet buy
and he eventually started
selling it from second half
 of 2008.
Freddie Mac 1996 333 3170 (selled Buffet has existed from this
in 2000) company in 2000 however
in 2008 this housing
finance giant was in brink
of bankruptcy and was
bailed out with huge
federal package to avoid it.

Contrary to the popular believe Buffet investment decisions has also turned out in major
failures fortunately for him most of his mistakes came in latter period and at the
beginning of his investing career. Buffet has relatively dream run of investment success
during 1980 -95 which is incidentally also one of the best period for American financial
market and economic growth. Also in last decade his portfolio churning ratio was quite
high and he has existed many of his investments within relatively short period of time
and not able to hold it for long term as many of us like to believe.

Lesson # 6: Never invest in commodities or commodities related stocks like mining,

metal, oil etc close to peak of economic cycle or when they are available at close to
peak of their historical valuations otherwise it may lead to major loss in your
investment value (like ConocoPhillips for Buffet)

Lesson # 7: While investing base your investment decisions on your analysis and
understanding of business fundamentals of the company and don’t loose heart if
some of your investments turn out to be bad and be quick to recognize and exit such
investments at the earliest favorable opportunity.

To conclude financial market is a very complex and futuristic system whose predictions
based on past history for investment purpose always carry some amount of risk and
Indian investors should make their investment decisions in financial market based on his
risk profile and by analyzing & learning from past mistakes of investment gurus like
Warren Buffet.