How to play a lottery?

I just loved this comment left on the freakonomics blog by another reader that I decided to post it here:-

“Do our economists play the lottery themselves, or do they consider it a tax on people who are bad at math?”

I found a way to play the lottery with positive expected winnings.

Every week I pick a bunch of numbers, and don’t buy any tickets. Every time my numbers don’t come up, I declare myself the winner of the $2 I didn’t spend on each ticket.

It’s an amazingly lucrative way to play.

Hypothetically it’s possible I could lose millions of dollars one day under this method. But I don’t lose sleep over it for the same reason I don’t lose sleep over the possibility of a meteor hitting my car.

- on 29 Jun 2007 at 9:23 pm # Mango

Portfolio Performance Update

Here is the update on the performance of my portfolio.

Not surprisingly, I underperformed in 2006-07 after overperforming for the last 5 years. I have been short on ideas in the Indian market.

It is not that I lost money during the year; on the contrary, I made 8% on the beginning value of the portfolio. But the indices did better - Nifty at 12% and Sensex at 16%.
My overall margin of over-performance for the 6 years is still way better at 316% 204% over Nifty and 288%176% over Sensex. The over-performance is a little over-stated since my portfolio includes dividends and the value of indices do not. However, the difference is still not significant, considering that the published annual dividend yield of Sensex during these years has ranged only between 1.13-2.61%, translating into 8%-14% difference at compounded rates. S&P CNX Nifty's dividend yield is at a wider range of 0.59%-3.18% translating into 4-20% difference in total.

It is disheartening to note that I have made only at government yield levels (National Savings Certificate and Public Provident Fund yield 8%) after taking the risks I have taken during the year. However, the consoling factor is that it is only 1 in 6 years.

Modified July 21st 2007

Wesco Financial - 2007 Meeting

CM started with a short speech on the confluence of factors in WB that contributed to Berkshire's success.
1. Mental aptitude
2. Extreme interest in the subject - there is no substitute
3. Early start
4. "Learning Machine" - avid learner. Lucky to be in a subject where he can learn effectively. It is more about learning the method of learning.
5. Decision making concentrated in one mind. Vs. Committees CM compared Singapore to USA in the pace of success.
6. Not being naive relates to mental attitude - by avoiding negatives like self-pity, envy, overspending income, being an extreme idealogue. This is maximisation of objectivity.
7. Reinforcement through rewards for good decision.
Some Mungerisms:
Quoting Will Rogers - There should be a better way to learn not to pee on an electric fence than actually doing it.
Irish Alzheimer's is when you forget everything except the grudges.
Quoting a German proverb - Man is old too soon, and too late smart
Sit on your ass and read
Academics & Learning:
Fatal disconnect of academics
pick up main ideas of each subject - for instance opportunity cost from economics
Checklist method of learning
Always invert
Sell yourself the best hour of the day
Accounting for derivatives
Marked to model and marked to market are different
Being rational
wonderful feeling to be right
even better to be trusted by others
Why Berky is not repeated
1.Simple - no advantage in being simple
2. Institutional reward system and hierarchy make it difficult
Investing in Commodities
POSCO is not, it is technology from Nippon Steel
Commodity business can be attractive at a price
Nature Vs Nurture
In a non-pathological environment, mostly pre-ordained by nature than people give credit for
Know your strengths
Don't be a prisoner to your talents
Inefficient Markets
1. Small Markets, or
2. Crazy People doing crazy things
Motivation
Wanted to be independent to make 'a man of himself'
Best from his list of human misjudgements in Poor Charlie's Almanack
Self serving bias - 'Little me wants it, why can't little me have it'
Opportunity cost
Best measure to look at life

Berkshire Hathaway – 2007 Meeting – Part Two

Views on:-

Right Margin of Safety:

WB - If we don’t understand something, we don’t try to compensate with a higher Margin of Safety. If you cannot see out what the business is going to be like for 5-10 years, do not invest in it.

Healthcare:-

WB – Berky would be interested in investing in a business with low frictional costs of distribution.

Intrinisic Value of Berky:-

WB – Should not be judged solely based on Book Value, but on use of retained earnings as well.

Derivatives:-

WB – There are valuation issues. Both sides of the same trade can value the same instrument differently and come up with different values. This is unusual.

Comments:- Usually, when a liability or a receivable is valued, the debtor and creditor always assign the same currency value to the transaction.

WB – Leverage and various forms of program trading are prevalent

Trade Vs. Buy & Hold:-

WB – Constant trading of assets can be an unhealthy practice. You have to understand human behavior to understand trading better.

CM – Bad results cannot be predicted with Gaussian distributions. The use of Beta and other statistical tools are prevalent because it is easy to teach and easy to compute.

Intrinsic Value: –

WB – Refers to Aesop’s fable – “A bird in hand is worth two in the bush”.

Global Warming:-

WB – Catastrophe exposures in insurance companies. Suggests that the US Govt. should err on the side of the planet.

CM – The effects of global warming can be tackled with capital.

Stocks Vs. Bonds:-

WB – Stocks are still a better investment than bonds

Small Funds:-

WB – High returns are possible for smaller funds compared to large

Sub-primes:-

WB - As long as the unemployment does not rise and inflation does not rise, its effects on the housing market will not affect the economy.

Volatility:-

WB - Volatility is not a good measure of risk. Use of Beta is not appropriate. Risk comes from not knowing what you are doing.

Management Quality and Integrity:-

WB – Look for direct and honest reporting

Filter of trust:-

WB – People give themselves away with the things they talk, the things they think are important

CM – Be especially suspicious when the proposals are too good to be true.

Discount Rates:-

CM – Just because you can measure something doesn’t mean it is the controlling variable.

Inflation Protection:-

WB – First level of protection, earning power

Second, owning good business with pricing power defined as the customers willingness to give up current income for use of its products

Railroads:-

WB – Vs Trucking – cost of fuel affects trucking 4X more than railroads and there is not much capacity addition in railroads.

Self-Development:-

In response to the question of a 10 year old girl who wants to earn money

CM – Sell yourself the best hour of the day and sell only the rest to others.

Investments:-

WB – Do not own a business with a weakening competitive edge.

Dollar:-

WB – Bearish without any significant policy changes on the part of US.

Cm – Weakening dollar not resulting in higher inflation is a surprise.

Good Board of Directors:-

WB –

1. Have the right CEO
2. The CEO does not over-reach.
3. Independent judgement on big acquisitions.

Berkshire Hathaway - Meeting Notes Part I

The meeting opened with the cousin Jimmy Buffett playing the Berkshirehathawayville version of his song.
WB announced his plan for a cartoon series for children to impart financial education in an enjoyable manner.
The Q1 2007 results were posted with WB explaining that insurance rates have come down recently, but the effect will start showing up in a couple of quarters or so due to a lag effect in rates ratcheting down. He offerd caution on cat. insurance and mentioned that over a long term berky would be expect to break-even in tnis business and still come ahead because of its ability to manage float and generate float income.
He brought up the issue of a high accounts receivable by 7 billion than normal due to the Equitas deal closing in April.
Views on:-
Private Equity
* Funds invested are locked in. It's hard to get out for the investor.
* Fund Managers are compelled to invest since it is in their interest to earn more fees by generating more funds. They cannot go back to investors with surplus funds in hand.
* Trigger for the slow down could be junk bond yield spreads going up higher hampering leverage.
Overseas investments
WB has no bias against. Low holdings not reported in annual report. Reporting limit threshold of 3% in Europe a deterrent.
Executive Compensation
* Ratcheting and envy at play
* Non-independent comp committees.
* Compensation should be based on controllable factors. For instance, extraction cost based comp for an oil executive, not oil prices. Factor should be relevant as well.
Interest rates
* Credit contraction as a result of higher rates.
Contraction as was historical is not probable. Fed not likely to orchestrate a credit crunch. Follies of excess liquidity may bring about unhealthy legislation.
High Corporate profits
WB - Share in GDP getting higher, labor's share down It is not likely to persist.
CM - Share of financials is higher is the causw. Investment banks etc earning abnormal profits. Historically high consumer credit is also the reason.
Naked Shorting
WB welcomes shorters, sees it as a money making opportunity by lending stocks.
It is a hard position to take.
Gambling
* Excitement seeking is the underlying.
* Tax on ignorance - making it easier to gamble is preying on ignorance, not the job of a govt that serves people.
How to become a good investor
* Read everything you can
* Fill your minds with ideas, sort out the good ones
* Jump into investing. Reading about investing and actually doing it is as different as reading a romance novel and actually doing "something else".
* WB has same thought pattern as when he was 19 abt investments
CM - Rationalise - "What do you own and why do you own it?"
WB - Write an essay on why you would buy the company at the price

Sum of Parts

Here is the story of an interesting trade that I closed at the end of last month. I was running my screens the first weekend of March and encountered this stock. Here are the vitals:-
Price to Book - 1.2
Price to Earnings - 2.0
This meant that you could get more than 40% return on this stock just from earnings. It seemed too good to be true!!! I dug further on this stock - Thermodynetics(TDYT) and found that they had reorganised after the end of the last fiscal and now owned only one subsidiary. The subsidiary - Turbotec - is listed in the London AIM market and has been trading at GBP 0.70. TDYT owns 56.32% of Turbotec. On a per share valuation basis, this puts the value of the investment in subsidiary at USD 2.44. There were no other major liabilities on the balance sheet. The stock was trading at around USD 1.65. I didn't know much about the industry segment TDYT was in - heating, cooling and refrigeration applications.
I immediately placed an order and ended up with shares averaging 1.68 in the next two weeks. As is my practice for such trades, I immediately placed a sell order - good till cancelled
- at my target price of USD 2.40. The order executed at the end of the month. A good return of 36.6% in less than a month's time!!!

Damn Right: Behind the Scenes with Berkshire Hathaway Billionaire Charlie Munger

I was interested to know more about Charlie Munger after reading the almanac. The opportunity presented itself in the form of this book. I had read Janet Lowe's Warren Buffett Speaks: Wit and Wisdom from the World's Greatest Investor some years ago as well.

A few things about Charlie comes out:-
* Love of books - biographies and other non-fiction
* Great thinking ability
* Charlie's personality hidden behind the curmudgeonly shell
* Social Responsibility through support of various causes like abortion rights and health care

Even an accomplished author like Janet Lowe is unable to do justice and unravel the life, thoughts and business history of the complicated personality of Charles Thomas Munger. The book is divided into various chapters, not so much in a chronological fashion. There are some of his speeches reproduced in the appendix as well.

Buffett 2006 Letter

The 2006 annual letter from Berkshire Hathaway Chairman Warren E. Buffett makes an interesting read (Tell me something new!!!)

I was attracted to where he explains about the Equitas deal where Berkshire re-insures Equitas against upto $13.9 billion claims for securities and cash of $7.12 billion. Assuming the 10.4% return of S&P 500 as laid out in the letter, they will break-even in 6-7 years and changing the return to 21.6%, the break-even would be in 3-4 years. In Buffett's estimate, the payout period for the $13.9 billion is as long as 50 years. Just one word to describe the deal - ingenious!!!!!!!!!!!