FACTBOX: Highlights of Warren Buffett's annual investors' letter
(Reuters) - Berkshire Hathaway Inc, Warren Buffett's insurance and investment company, barely broke even in the fourth quarter because of losses on derivatives contracts tied to the stock market.
While Berkshire's results are closely monitored by investors, Buffett's annual letter is equally anticipated.
Below are some selected comments from the letter available here :
ON THE 2008 FINANCIAL CRISIS
"As the year progressed, a series of life-threatening problems within many of the world's great financial institutions was unveiled. This led to a dysfunctional credit market that in important respects soon turned nonfunctional. The watchword throughout the country became the creed I saw on restaurant walls when I was young: "In God we trust; all others pay cash."
THE CREDIT MELTDOWN
"By the fourth quarter, the credit crisis, coupled with tumbling home and stock prices, had produced a paralyzing fear that engulfed the country. A freefall in business activity ensued, accelerating at a pace that I have never before witnessed. The U.S. -- and much of the world -- became trapped in a vicious negative-feedback cycle. Fear led to business contraction, and that in turn led to even greater fear."
"Most of the Berkshire businesses whose results are significantly affected by the economy earned below their potential last year, and that will be true in 2009 as well. Our retailers were hit particularly hard, as were our operations tied to residential construction."
MAKING MOVES IN THIS MARKET
"During 2008 I did some dumb things in investments. I made at least one major mistake of commission and several lesser ones that also hurt. I will tell you more about these later. Furthermore, I made some errors of omission, sucking my thumb when new facts came in that should have caused me to re-examine my thinking and promptly take action.
"Additionally, the market value of the bonds and stocks that we continue to hold suffered a significant decline along with the general market. This does not bother Charlie and me. Indeed, we enjoy such price declines if we have funds available to increase our positions. Long ago, Ben Graham taught me that 'Price is what you pay; value is what you get.'
"Whether we're talking about socks or stocks, I like buying quality merchandise when it is marked down."
"Our long-avowed goal is to be the 'buyer of choice' for businesses -- particularly those built and owned by families. The way to achieve this goal is to deserve it. That means we must keep our promises; avoid leveraging up acquired businesses; grant unusual autonomy to our managers; and hold the purchased companies through thick and thin (though we prefer thick and thicker).
"Our record matches our rhetoric. Most buyers competing against us, however, follow a different path.
"For them, acquisitions are 'merchandise.' Before the ink dries on their purchase contracts, these operators are contemplating 'exit strategies.' We have a decided advantage, therefore, when we encounter sellers who truly care about the future of their businesses."
"As we view GEICO's current opportunities, Tony (Nicely) and I feel like two hungry mosquitoes in a nudist camp. Juicy targets are everywhere."
"From year to year, Ajit (Jain)'s business is never the same. It features very large transactions, incredible speed of execution and a willingness to quote on policies that leave others scratching their heads. When there is a huge and unusual risk to be insured, Ajit is almost certain to be called.
"Ajit came to Berkshire in 1986. Very quickly, I realized that we had acquired an extraordinary talent.
"So I did the logical thing: I wrote his parents in New Delhi and asked if they had another one like him at home. Of course, I knew the answer before writing. There isn't anyone like Ajit."
"At that time, much of the industry employed sales practices that were atrocious. Writing about the period somewhat later, I described it as involving 'borrowers who shouldn't have borrowed being financed by lenders who shouldn't have lent.'
"To begin with, the need for meaningful down payments was frequently ignored. Sometimes fakery was involved. ('That certainly looks like a $2,000 cat to me' says the salesman who will receive a $3,000 commission if the loan goes through.) Moreover, impossible-to-meet monthly payments were being agreed to by borrowers who signed up because they had nothing to lose. The resulting mortgages were usually packaged ('securitized') and sold by Wall Street firms to unsuspecting investors. This chain of folly had to end badly, and it did."
OWNING A HOME
"Home ownership is a wonderful thing. My family and I have enjoyed my present home for 50 years, with more to come. But enjoyment and utility should be the primary motives for purchase, not profit or refi possibilities. And the home purchased ought to fit the income of the purchaser.
"The present housing debacle should teach home buyers, lenders, brokers and government some simple lessons that will ensure stability in the future. Home purchases should involve an honest-to-God down payment of at least 10 percent and monthly payments that can be comfortably handled by the borrower's income. That income should be carefully verified.
"Putting people into homes, though a desirable goal, shouldn't be our country's primary objective. Keeping them in their homes should be the ambition."
MUNICIPAL BOND INSURANCE
"When faced with large revenue shortfalls, communities that have all of their bonds insured will be more prone to develop 'solutions' less favorable to bondholders than those communities that have uninsured bonds held by local banks and residents. Losses in the tax-exempt arena, when they come, are also likely to be highly correlated among issuers. If a few communities stiff their creditors and get away with it, the chance that others will follow in their footsteps will grow. What mayor or city council is going to choose pain to local citizens in the form of major tax increases over pain to a far-away bond insurer?
"Insuring tax-exempts, therefore, has the look today of a dangerous business -- one with similarities, in fact, to the insuring of natural catastrophes. In both cases, a string of loss-free years can be followed by a devastating experience that more than wipes out all earlier profits. We will try, therefore, to proceed carefully in this business, eschewing many classes of bonds that other monolines regularly embrace."
"Without urging from Charlie or anyone else, I bought a large amount of ConocoPhillips stock when oil and gas prices were near their peak. I in no way anticipated the dramatic fall in energy prices that occurred in the last half of the year. I still believe the odds are good that oil sells far higher in the future than the current $40-$50 price. But so far I have been dead wrong. Even if prices should rise, moreover, the terrible timing of my purchase has cost Berkshire several billion dollars.
"I made some other already-recognizable errors as well. They were smaller, but unfortunately not that small. During 2008, I spent $244 million for shares of two Irish banks that appeared cheap to me. At yearend we wrote these holdings down to market: $27 million, for an 89% loss. Since then, the two stocks have declined even further. The tennis crowd would call my mistakes 'unforced errors.'"
"Derivatives are dangerous. They have dramatically increased the leverage and risks in our financial system. They have made it almost impossible for investors to understand and analyze our largest commercial banks and investment banks. They allowed Fannie Mae and Freddie Mac to engage in massive misstatements of earnings for years. So indecipherable were Freddie and Fannie that their federal regulator, OFHEO, whose more than 100 employees had no job except the oversight of these two institutions, totally missed their cooking of the books."
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