In one sentence: Phil and Danielle report from the Daily Journal annual meeting, recounting how Munger moved Buffett from Graham's cigar butts to wonderful businesses, the lesson of Rick Guerin's leveraged returns and Bruce Berkowitz's forced selling, and Munger's advice to expect a 50% decline with equanimity.
Key ideas
- Munger's shift for Buffett. Graham's method, built in the Depression, bought baskets of companies below net cash, but by the late 1950s such cigar butts were hard to find. Munger urged buying good businesses at a fair price, which became "a wonderful company at a fair price beats a fair company at a wonderful price". Phil describes the fair price as still about half of value. [03:00–07:30]
- Focus, and fear as the entry point. Phil says Buffett and Munger, using Graham's valuation tools, concentrate on a few holdings and buy only when fear makes a business cheap. [06:00–07:30]
- Rick Guerin. A quiet partner at the Daily Journal who, after meeting Munger, applied the approach. Buffett's 1984 Columbia talk (Graham-and-Doddsville) reported Guerin's results. Phil quotes Buffett that the "dollar for 40 cents" idea either clicks at once or never does. Danielle pushes back, arguing that a little teaching goes a long way. [08:00–13:00]
- Leverage cuts both ways. Guerin's partnership turned $10,000 into about $2.2M over 19 years (about 33% a year compounded, per Phil's reading of a ValueWalk table), but with years of −42% and −34%. Phil says leverage is a way people with little money try to get started, but it increases risk and he doesn't recommend much of it. [13:00–17:00]
- Concentration versus the thimble. If it is raining gold, a 100-stock portfolio of 1% positions is a thimble. A focused portfolio of about 10 means that one mistake hurts more, so you must understand what you own. [15:00–16:00]
- Pabrai's "free lottery tickets". Buy well below value so that you have little downside if you're wrong. Phil and Danielle met Mohnish Pabrai at the meeting, and Phil recommends Pabrai's book The Dhandho Investor and his talks. [16:00–20:00]
- Munger on drawdowns. In paraphrase, expect to see a 50% decline several times, as Berkshire has, and conduct your life so that you can take it with equanimity. Phil adds that if it never happens, you aren't being aggressive enough. [20:00–22:00]
- Bruce Berkowitz and Fairholme (2010–2011). He concentrated about $18B in a few financial stocks. They halved when the 2011 panic hit, and clients withdrew, so he had to sell at lows instead of buying more. The stocks then rose strongly. The lesson: understand the business so you know it is the price that fell, and mind where your capital comes from. [22:00–24:30]
- The condo test. If you bought a condo for $600,000 that rented for $60,000 a year, you wouldn't panic if the price fell to $400,000 while the rent held. Think of a business the same way, but only if you know it as well as you know the condo. [24:30–28:00]
- A six-inch bar, not a six-foot bar. Choose simple businesses you can understand, be patient, and don't follow the crowd. Buffett's line that the market moves money from the impatient to the patient. [27:00–31:00]
How it maps to RuleOne
- The screen's margin-of-safety view is the "dollar for 50 cents" test. The event watch finds the fear that creates the chance.
- /holdings/ is where concentration shows up. Sizing positions so that a 50% drop in one is survivable, without forced selling, is the practical lesson from Fairholme.
- Phil's condo test is a good check before adding to a falling position: has the cash flow changed or only the price?
Buffett, Munger and Graham links
- Buffett, "The Superinvestors of Graham-and-Doddsville" (Columbia, 1984; published in Hermes and reprinted by many sources) is where the Guerin results come from. The "dollar for 40 cents" remark is paraphrased here from Phil's reading.
- Graham's net-net approach is in Security Analysis and The Intelligent Investor (chapter 7 and the net-current-asset material).
- Buffett's "when it's raining gold, reach for a bucket, not a thimble" is in his 2001 annual-meeting remarks and later letters, and Phil quotes it from memory.
- Munger's Daily Journal meetings are summarised by attendees online. The quote in this episode is from Phil's notes and is not verbatim.
Words to know
- Cigar butt: a cheap, low-quality company bought for the last "puff" of value (Graham).
- Leverage: borrowing to amplify returns, which also amplifies losses.
- Drawdown: a fall from a peak in the value of a holding or portfolio.
- Forced selling: being made to sell at low prices, for example because clients redeem.
Try this
Choose a holding or watch-list stock on /holdings/ and imagine its price halving tomorrow. Write whether the cash flow would change, whether you could add, and whether you would be forced to sell. If the answer is "forced to sell", your position is too large or your funding too fragile.
Check yourself
- How did Munger change Buffett's approach?
Answer
He moved him from Graham-style cheap, mediocre companies to wonderful businesses bought at a fair price, because cigar butts were getting scarce. - What did Fairholme's experience in 2011 teach?
Answer
A concentrated position can recover, but redemptions forced Berkowitz to sell near the lows. You need to understand the business and not be forced to sell. - What is the condo test?
Answer
If the rent (cash flow) is unchanged while the price falls, you wouldn't panic, and a business you understand should be treated the same way.
Short quotes
"Conduct your life so you can handle a 50% decline with equanimity." (Munger, as read by Phil, ~21:00, auto-transcribed, paraphrased)