Daily Journal 2019 AGM Meeting Video and Notes

Some spent Valentine’s Day with their partner after winning them over with roses and chocolates. Others (understandably so) went to see our favorite 95 year-old Charlie Munger talk about business, investing, and life for 2 hours. This year, CNBC taped the Daily Journal AGM on February 14, 2019.

Below are some of our notes:

  • The Daily Journal’s newspaper business is earning approximately $1m pretax but will decline for the foreseeable future. The other side of the business is software that automate courts processes from different jurisdictions around the world. This software business is very difficult because it involves dealing with different bureaucracies and is very customer service centric, but can also be an enormous market. On the flip side, most big companies aren’t interested in it because it is so difficult to do. Main competitor is Tyler Technologies which is a large public company.

  • In the world of disruption this and innovation that, we thought this quote was notable: “The idea of taking on the whole world when the Chairman is 95, the Vice Chairman is 89, and the Chief Executive is 80 and uses a cane – it’s a very peculiar place.”

  • Munger discussed a large investment fund company, which created a new fund with every manager’s best idea. While it sounded great in theory, it turned out poorly, even though they tried it many times. Why did it fail? Why wouldn’t an intelligent group of people coming together with their best ideas result in success?

  • Munger does not answer, but he later gives a hint: if anyone asked Buffett every year for his best ideas, he might only have 1 or 2, and if you followed just those you would do very well.

    • Our thoughts: An individual’s best idea might not be the best overall idea, particularly since most fund managers specialize in certain industries that might not be attractive altogether (never mind office politics). Therefore, the best ideas get drowned out and watered down.

  • On education - “By the way, my definition of being properly educated is being right when the professor is wrong. Anyone can spit back what the professor tells you. The trick is to know when they are right and they are wrong.”

  • Active Investing VS Passive – “If everyone did index investing it won’t work but for another considerable period index investing is going to work better than active stock picking where you try to know a lot. Now a place like Berkshire Hathaway or even the Daily Journal we have done better than average. Why has that happened? And the answer is pretty simple; we tried to do less. We never had the illusion that we could just hire a bunch of bright young people and they would know more anybody about canned soup and aerospace and utilities and so on and so on. We never had that dream. We never thought we could get really useful information on all subjects, like Jim Cramer pretends to have. We always realized that if we worked very hard we could find a few things where we are right and that a few things were enough and that was a reasonable expectation. That is a very different way to approach the process. If you had asked Warren Buffett the same thing that this investment counsel had did, “give me your best idea this year”, you would have found it worked perfectly. He wouldn’t try to know a whole lot, he would give you one or two stocks. He had more limited ambitions.”

  • Investment management business - Munger thinks most fund managers get basically paid to do nothing vs ETFs. Fund managers might say their job is to save their clients from actively trading. Munger agrees they are probably still saving some people from the “hustling stock broker.” But it is very peculiar that the whole profession is paid to do that. Despite lots of IQ in there, they typically can’t outperform indexes.

  • Munger views the industry’s rationalization as a state of denial. No solution he can think of, but noted that admirable value investors just quit instead of staying in denial.

  • Told the story of an old woman in Omaha that sold her soap company in the 30s during Great Depression. She had a big mansion and $300k. She split most of the $300k into 5 stocks, of which 3 were GE, Dupont and Dow, and bought some muni bonds. She just figured electricity and chemicals were an up and coming thing, then just didn’t do anything after that. When she died in the 1950s, she had $1.5m (probably around ~10% CAGR since she was living off the muni bonds).

  • Peter Kaufman always says “If the crooks only knew how much money you could make by being honest, they would behave differently.” Warren says “Always take the high road because it’s never crowded.”

  • Daily Journal: Could have easily raised prices during Great Recession because of all the foreclosure notices. Should they have raised prices? No, not the right way to run a business especially if you’re already rich.

  • Similar to Vitreous Glass when their customers were struggling in from 2008 through the early 2010s.

  • Someone asked if you look at banks with $1b+ of assets up to the super-regional banks, there are around ~250, and asked are there 1-2 that might be good buys? Munger answered yes.

  • What made the Buffett/Munger partnership so successful? Two talented people working well together.

  • China’s stock market: Some very smart people are starting to wade in.

2018 Year-End Value Investing Note - Use your own compass

Investing-wise this year was likely exciting for you - it was for us. Whether you owned Canadian oil and gas stocks (yikes), were riding the marijuana train, or just paying plain old large caps swinging 20% month-over-month, your portfolio was likely… movin’. Of course there are those that bet their life savings on Bitcoins (yuck) or CryptoKitties (at least cute) and were hoping to pay their rent with it must have had even more excitement (but are likely not readers here).

2018 Lesson - Have your own compass

Recently we mentioned Guy Spier, friend of Mohnish Pabrai and manager of the Aquamarine Fund.

He is quite a prolific speaker but according to himself he is “probably best known for having lunch with Warren Buffett”. Back in 2008 he (along with Mohnish) paid $650,100 to have lunch with Warren Buffett (as part of the annual charity lunch auction). You can read his thoughts about the lunch here - https://observer.com/2015/12/my-lunch-with-warren-buffett-changed-my-life

His key takeaway was this:

The most memorable piece of wisdom that Warren shared that day was about the need to live by an “inner scorecard,” instead of worrying how others think of you. He illustrated this by asking: “Would you prefer to be considered the best lover in the world and know privately that you’re the worst—or would you prefer to know privately that you’re the best lover in the world, but be considered the worst?” It was clear that he operates entirely according to his inner scorecard, living and investing in ways that perfectly suit his personality and his values. For me, this was his greatest lesson.

2018 was a wild ride. And as we go through waves of fads, booms and busts it is important to have a central compass. The core theme of my own investing to date is having to go against the grain to find things that truly are cheap and not just a value trap. Of course, some out there rode Bitcoin and marijuana into the sunset and of course I wish them the best on their beach adventures. But I know I wouldn’t have been “right” or “wrong” but just lucky if I made money on those. And that’s just fine with me.

“It’s not greed that drives the world, but envy.” - Warren Buffett

Guy Spier 101

Guy Spier gives a good overview of his views on value investing in a 2016 talk and we definitely recommend you take a look. This was at the Ben Graham Centre for Value Investing.

Priceless: The Myth of Fair Value (and How to Take Advantage of It) Book Review

How much would you pay to rent a condo in downtown Toronto? How about the U.S. island of Saipan (a fun little island 7,800 miles from Washington D.C.)? You probably can only give a reasonable answer to at most one of these places, and even then you would probably answer it with a question like “In what neighborhood?”.

Like most, you would start looking at comparables. What is the going rate these days? According to BNN, the average monthly rent in Toronto is about $2,166, while googling around about Saipan finds places for $500. “Oh this must make sense from a supply and demand standpoint”. Maybe.. If you sat down and compared 4 or 5 condos in either one of these markets you could make a reasonable decision about which is the best value compared to the others.

But what about the fact that you’re starting at $2,166 or $500? As you will learn when you read Priceless: The Myth of Fair Value (and How to Take Advantage of It): , humans are q) very good at understanding relative value but are horrible about understanding absolute value, and 2) we can be easily misled about what “absolute’ value is.

“Put it this way, our ratio-based senses are eminently reasonable. There is an Achilles’ heel. The price of being so acutely sensitive to ratios and contrasts is a relative insensitivity to the absolute.”

As we talk about frequently on this blog, humans are terribly fallible, and we are particularly fallible to incentives and prices. Charlie Munger (Vice-Chairman of Berkshire Hathaway) even has this as his #1 Standard Cause of Human Misjudgement!

“Number 1: Under-recognition of the power of what psychologists call ‘reinforcement’ and economists call ‘incentives.’ Well you can say, “Everybody knows that.” Well I think I’ve been in the top 5% of my age cohort all my life in understanding the power of incentives, and all my life I’ve underestimated it. And never a year passes but I get some surprise that pushes my limit a little farther.”

For the full story on Munger’s List see - http://www.canadianvalueinvestors.com/behavioural-finance/

When talking about investing, being as conscious as you can be of how prices work and can influence you and others is extremely important – both from understanding what a business is worth and understanding the actual business and its model.

The author William Poundstone has done a great job of putting together the foundations. It provides entertaining overview of the beginnings of Behavioral Economics, covering Ward Edwards, credited as one of the founders of behavioral decision theory, to Amos Tversky and Daniel Kahneman, the creators of the Prospect Theory. It also gives numerous case studies of how people as a whole can be consistently manipulated (and how even if you are aware of this you can still be susceptible).

For example, the book covers numerous examples of anchoring, such as the ID Number experiment by University of Virginia psychologist Timothy Wilson (“basic anchoring effect”).

“Wilson and company tried to find out how subtle a ‘background’ anchor could be. In one experiment, volunteers were given questionnaires with adhesive notes attached. Written on each sticker was a four-digit ‘ID Number” between 1928 and 1935. One group of participants was required simply to copy this number onto the questionnaire. They were then asked to estimate the number of physicians in the local phone book. The average estimate was 221 doctors.

The important thing here is that the ID code was just a number that happened to be there, not a meaningful part of the problem. Other groups were given slightly different instructions that caused them to pay a little more attention to the ID number. Some were told to note whether the ID number was written in red or blue ink (on the pretext that this would determine which page of the questionnaire to fill out). For these people the average answer was 343 doctors. A split second’s extra attention to the number has raised the estimate 55%. (All the ID numbers were big. As anchors they would have pulled the estimate up). Another group was asked to note whether the ID number was in the range of 1920 through 1940 (they all were)….This group [averaged] 527. One group was asked [first] whether the number of physicians…was greater or less than their ID number, and then give their estimate of the number of physicians. This group’s average was 755….

The researches later asked some participants whether they thought their judgements might have been influenced by the ID number of the adhesive sticker. The answer, overwhelmingly, was no.”

Another fun example is the Beer Problem posed to university students by Joel Huber and Christopher Puto, then a professor and grad at Duke University’s school of business.

“Joe Sixpack is reaching for a brew on the market shelf. There’s a premium beer that costs $2.60, and a bargain brand that’s only $1.80. The premium beer is “better”…rated at 70 out of 100 in quality, while the bargain brand is only 50. Which should Joe buy?….The students preferred the premium beer by a 2-to-1 margin….

Another group chose among three beers, the two above and a third with a rock-bottom price of $1.70 and a quality rating in the basement (40). Yet it affected what they did choose. The proportion of students choosing the original bargain beer rose to 47%, up from 33%. The existence of the super-cheap beer legitimized the bargain beer.

In another set of trials, the three choices were the original bargain and premium beers, and a super-premium beer. Like many upscale products, this was much more expensive ($3.40) and only a little better in quality (rated 75). 10% said they’d choose the super-premium beer. An astonishing 90% chose the premium beer. Now nobody wanted the bargain beer. It was like pulling the string on a marionette. Huber and Puto found they could make students want one beer or the other, just by adding a third choice that few or no one wanted.

There are numerous examples of every day life things that can be adjusted to change your decision. The book covers restaurant menus, strategies used by luxury goods companies like Prada, lawsuits, and even negotiation strategies. It also includes some techniques on how to avoid falling for these traps, like Antidotes for Anchoring where you force yourself to Consider the Opposite, or the Buddy System – techniques that can be applied to analyzing companies.

As we here focus (primarily) on understanding businesses, the real question always comes down to “how much is the business worth?” In turn, it’s worth doing everything you can to understand how humans think of prices.  

If you like this book it would also be worth checking out Misbehaving: The Making of Behavioral Economics by Richard Thaler.

Saturday Morning Video - Petter Johansson: When you make a choice, are you really sure you know why?

When you make decisions, you like to believe you made them for a reason. This is particularly true of investing. I bought this stock for rational reasons, right?

We recommend watching this TED Talk by Petter Johansson, which discusses Choice Blindness. His experiments explore that our rationale for the decisions we make might not be as strong as we would like to believe, and that we can actually end up justifying opinions that we didn't even make (as you will see in the video).

So what this [first] experiment shows is, OK, so if we fail to detect that our choices have been changed, we will immediately start to explain them in another way. And what we also found is that the participants often come to prefer the alternative, that they were led to believe they liked.
So first of all, a lot of what we call self-knowledge is actually self-interpretation. So I see myself make a choice, and then when I’m asked why, I just try to make as much sense of it as possible when I make an explanation. But we do this so quickly and with such ease that we think we actually know the answer when we answer why. And as it is an interpretation, of course we sometimes make mistakes. The same way we make mistakes when we try to understand other people. So beware when you ask people the question “why” because what may happen is that, if you asked them, “So why do you support this issue?” “Why do you stay in this job or this relationship?” — what may happen when you ask why is that you actually create an attitude that wasn’t there before you asked the question.

Of course, when you're investing, you need to remember you are fallible. That's why we here believe 1) You have to be very careful how you frame questions when learning about something from someone and 2) document your own decisions and reflect on your answers later, and 3) use a checklist whenever possible (see Checklist Manifesto).

The first principle is that you must not fool yourself and you are the easiest person to fool.
— Richard Feynman