Wednesday, March 02, 2011

Buffett's interview with Becky Quick on CNBC

Warren Buffett had a three hour interview on CNBC today.

Becky Quick, the lead interviewer, is also one of the journalists that leads the question and answer period of the Berkshire Hathaway Annual meeting.

This secgment was particularly interesting. I particularly liked his response to Joe Kernan's question about whether there are moments to be in non-financial assets (he meant commodities).

Buffett's answer is to suggest that true investment is about purchasing an asset, it could be a business, or a farm, rental real estate, or a fixed income security, that pays you income over time, irrespective of the price for which the asset could be sold. In this sense, investors do not need the market, and they do not have to worry about market prices, because the income from the underlying asset, whether through operating income or dividends, is sufficient to provide a satisfactory return. If the market is also willing to pay high prices for that income, the capital gain is gravy. This is the sense in which investing is business-like. If you own a McDonalds franchise, you don't spend your time wondering what the market price of the franchise is, you spend your time worrying about how to improve the performance of the business - as measured by the income that it throws off.

Commodities, by contrast are speculation in Buffett's view. While he admits there is nothing wrong, immoral or bad about speculation, it is NOT investing, since the asset itself, whether it be gold, silver, cotton or oil, does nothing for the purchaser directly. Instead, the purchaser has to hope that someone else will pay more in the future. In that sense, it is a bet on future attitudes towards the commodity in question.

His description of gold, a current favorite, is hilarious. Note he contrasts the value of gold with the universe of other assets that could be had for the amount equivalent to the market cap of gold (price per ounce x all ounces outstanding). Not said, but I think intended, is that assets such as farmland and businesses which have pricing power are no worse an inflation hedge than gold. True enough, earnings multiples may decline, but as income rises, risk of capital loss from inflation should be muted. Meanwhile, unlike the commodity, the farm does not have to be sold to provide income, so market price fluctuations are not really a big problem.

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