Friday, November 6, 2009

Interview With Alice Schroeder: One Big Misconception About Buffett

Motley Fool media maven Chris Hill recently had a chance to talk with Buffett biographer Alice Schroeder

Opportunity knocks 
Chris Hill: Your book was published in the fall of 2008, right about the time that the financial markets were collapsing. What is your take on how the last year has played out for Warren Buffett?

Alice Schroeder: Yeah, it has been an exciting year. My book was published on the day of the largest point loss in the history of the Dow Jones Industrial Average. (Laughs.)

Hill: Now, Alice, is that a cause-and-effect thing?

Schroeder: (Laughing.) I don't think so. It certainly was not something that I was excited about, but with Warren, in many ways it has been a characteristic year for him, because he is an opportunist, more so than is usually publicly described. In the book, you see over and over that he is very flexible in adapting to changing circumstances. He is sitting in his office in Omaha, the phone rings and the fly comes into the spider's web, and all these deals come to him, and he is grabbing the most attractive, whether it is Goldman Sachs (NYSE: GS) or GE(NYSE: GE) or Constellation Energy (NYSE: CEG) or something else. He has had a great year doing that sort of thing.

Where you saw some mistakes made, and this is very interesting, is that starting in 2003, he began to forecast that derivatives were financial weapons of mass destruction, and he could clearly have this unfolding vision of the disaster ahead. He began warning of it a little more vividly, and certainly in our conversations from '06 forward, and yet he did not actually see it coming or how bad it would be.

So that in 2007 and early 2008, and after Bear Stearns was bought by JPMorgan Chase(NYSE: JPM), he actually made some business commitments then that would express a lot of optimism about the stock market right before the huge collapse came. He made a bet onConocoPhillips that was the biggest stock loss Berkshire has ever had, right as oil prices were at their peak. And then when Bear Stearns fell, he thought he was doing some cherry picking and buying some cigar butts in the credit default swap market, and they turned out to be things that he lost a lot of money on because they weren't cheap.

So he is not infallible. But the margin-of-safety concept that he talks about all the time, which is to leave room for error and always make sure that you are not reaching for a price when you buy, saved him, and that is something that has happened for decades. He will say, rule No. 1, don't lose money; rule No. 2, don't lose money. The margin of safety is, when you do lose, you just don't lose that much.

Misconceptions and surprises 
Hill: You spent a lot of time with him. What most surprised you about him as you were writing this book?

Schroeder: The big surprise was to see how he turns the women around him into these maternal figures -- that a man who was 26 years older than me would be relating to me like a kid. It was really interesting. And this is true with all the women around him. I had to really resist it as an author because (a) I am not his mother, and (b) I was there to report and to be objective. But he didn't have a great childhood, and he didn't have the kind of mother that you would want, so he is sort of always looking for that. He is quite vulnerable. That was a big surprise.

Hill: Do you think that is the biggest misconception about him? His vulnerability?

Schroeder: I think in the personal side, yes. On the business side, I think the biggest misconception about him is that he is a "buy and hold forever investor." He has never said that, but people take little snippets and slices of things that he said, and they turn them into mantras or slogans. I think that people have made a mistake of pulling a few words or a sentence or two here and there and treating that as an all-weather investing technique. It doesn't really work because Warren himself is quite opportunistic, and he does trade and he does adapt. So anybody who thought that you could buy four or five big-cap growth stocks at a fair price and then you could just sit back and just go to sleep -- that has not worked out very well, and he would be the first to say so.

Buffett's big snowball 
Hill: For the benefit of people who have not yet read the book, where did you come up withThe Snowball?

Schroeder: The Snowball is from a saying of Warren's about life being like a snowball. It is really a metaphor for compounding, for the way that things tend to grow at an exponential rate when they are rolling forward over time. So his money has obviously been like a huge snowball, but it also refers to relationships and to knowledge and all the different things that tend to grow and layer upon each other.

Hill: To get a snowball, you need the right conditions. I think a lot of people think of Warren Buffett as a self-made man. Is that how he views his success?

Schroeder: It is not. He would describe himself as almost entirely a creature of luck, […] having been born in the United States from a family that valued education and encouraged him in his entrepreneurial investing efforts, and also having been born at a time when his investing talents could be put to work in an extremely cheap stock market. Those factors almost overwhelmed anything else that could have happened.

I do believe that in The Snowball, you will see how hard he worked, and so I [tend] to think that he is downplaying his own efforts [a little]. I do believe that people succeed based on a balance of their own efforts and their circumstances, but I think he is right to emphasize the circumstances here, because he was very fortunate.

Hill: Let's get back to the snowball that Warren Buffett is pushing. Where do you think he is pushing it next? Where do you think he is going over the next couple of years?

Schroeder: Well, one time I went out to dinner with him at Gorat's, and Marge Lauren, who is the widow of one of his earliest partners, came by and said hello. After she left the table, he said to me, "That woman is the reason I run Berkshire Hathaway the way I do, because her entire finances depend on me. Every dime she has is in Berkshire Hathaway stock." He said, "I am trying to run Berkshire so that for a generation after I am gone, it will still be healthy and fundamentally a sound company." He said, "Beyond that, there's really not much I can do, but I can try to set it up so that the businesses that Berkshire buys and the way its capital is structured and the fundamental pieces of Berkshire have enough longevity to carry on. And there are no guarantees, but that is what I am trying to do."

I believe that he is always looking at the risk profile of Berkshire Hathaway and trying to take out risk, build in conservatism, make sure that the assets are accounted for in a way that they are not going to end up later being worth less than they appear to be on the books, and in effect create that thing that isn't a perpetual motion machine, but that will keep going. He likes to say that a cardboard cutout should be able to run the company. That's an unattainable ideal, but he really wants people to look at it after he is gone and say, this man created something sustainable.