Charlie Munger's 3 Categories of Investment: In, Out & Too Tough Investment Wisdom

126. DJCO Annual Meeting 2015: Part 4: Erudition 19-26

Erudition 19. The fact that my idea about the subject is unconventional doesn’t mean it is wrong.

As an operator of a business I am curious to hear what system you use to identify great investments.

We tend to look for easy decisions, but we find it very hard to find “easy decisions”. We found just barely enough and they had their own problems. So, I don’t have a system.

In the past you mentioned that you don’t want to use US hydrocarbon. I wonder if you could share your updated thoughts given the world is awash with oil, and there have been a lot of geopolitical developments as a result of it.

You will be surprised, but I haven’t changed my mind. I think that hydrocarbon reserves are one of the most precious assets that we have in the US. It is as precious as the soil in Iowa. Just because we can export that soil for pay doesn’t mean we should do it. I like the fact that we have hydrocarbon that we have in the ground. The fashion now, is to be independent and to use them up as fast as we can – I think it is insanity as a national policy. I am probably in 1% of those who think that way, but of course I am right. We are just lucky that we didn’t know about fracking earlier, otherwise we would be in trouble. It sounds like it makes sense to export extra oil we have, but it is not right thing to do. If we were like Japan, importing all the oil without having our own, we would feel exposed and in danger, and rightfully so. We would not have leverage against other countries because we would be dependent. The fact that my idea about the subject is unconventional doesn’t mean it is wrong – it just means that other people don’t think very well.

Erudition 20. China and US have to get along – they would each be out of their minds not to get along with each other. I think trade helps us. Of course it will hurt some people, but that is what manhood is – taking life as it is instead of whining all the time.

You mentioned the devastating effect technological change had on newspapers. Going forward, do you see any under-appreciated trends that might have same consequences for other industries?

One that affects young people – it is likely that they will face major catastrophes. I think we had a very favorable period. I don’t see how we bring back that age when an uneducated man could march ahead rapidly as long as we have free trade and worldwide competition. And I don’t want to stop a free trade with a big nuclear power of China. China and US have to get along – they would each be out of their minds not to get along with each other. I think trade helps us. Of course it will hurt some people, but that is what manhood is – taking life as it is instead of whining all the time.

Erudition 21. Technology & Internet Affect Newspapers and Television Differently.

One of the peculiar things that we see is the existence of negative yield on certain government bonds. What are your thoughts on that?

It has never happened before in my life. I remember 1.5% rates after World War II. It certainly surprised all the economists. It surprised people who created life insurance industry in Japan as they all went broke because they guaranteed 3% interest. It surprised everyone, including economists who pretend they knew it all along. I was flabbergasted when they became low, but when they get negative I became really flabbergasted.

You mentioned that getting into software business was difficult and solving problems of your customers is not easy. Can you talk about those challenges?

Every government department needs all kind of information. Their complicated systems interact with other systems, which is a very complex activity. This makes software more and more important. The government set its own way of doing business. The company like Microsoft was in a business somewhat similar to ours and even they find it difficult. But it is a huge market and the right idea is to serve the customer correctly.

Do you see any parallels between what is happening today with television and what happened to the newspaper industry?

With the newspaper it is easy – a revolutionary change in technology. Newspapers were power houses and very constructive parts of the local systems of the country. We lost all of that due to technology. Television is different. I am surprised how well television has survived in the world of internet and cable, but I am not sure I understand the situation well enough to predict what is going to happen next 25 years. Something puzzled me recently: our anniversary report came out recently and it created some buzz in China. Chinese people like elderly rich men. We are trying to be wise and that’s a Chinese system. But all of the sudden the buzz stopped. Here is what happened: one woman in China took $150K of her own money and created a documentary film. She streamed the film over the Internet, and it had 200 million viewers in a week. The documentary was about smog in China. This one woman whom no one ever heard of is changing the policy of China. That is a new world. That is a new source of power, which I can’t understand, but I know that it is different. What important is that in this case it was very constructive. China was dead wrong for allowing people to die 10 years early in Beijing because the air is so lousy. This is how I feel about the new media. I understood it better when people were buying newspapers. Murphy liked it when they all were black and white, there were only 3 of them, and he had a strong position. He didn’t welcome new competition. I don’t understand how they got so damn much information through the space at the same time. It’s too complicated and I don’t understand it. But at least I understand peanut butter (reaches out to a peanut butter candy).

Erudition 22. (On interest rate) I regarded all that as very weird: interest rates are going to zero, all the governments are printing money like crazy, and prices are going down. Of course I am confused. Anybody who is not confused doesn’t understand the situation very well.

Are there specific unintended consequences of the current interest rate environment?

I think something that strange and that important is likely to have consequences. I think it is highly likely that people comfortably think they know the consequences down to the economic progression – none of them predicted this. Now they are going to know what will happen next? Again, the witch doctors. I regarded all that as very weird: interest rates are going to zero, all the governments are printing money like crazy, and prices are going down. Of course I am confused. Anybody who is not confused doesn’t understand the situation very well.

Erudition 23. (A reply on moats) One man came to Mozart and asked him how to write a symphony. Mozart replied: «You are too young to write a symphony». The man said: «You were writing symphonies when you were 10 years of age, and I am 21». Mozart said: «Yes, but I didn’t run around asking people how to do it».

What is the least talked about or most misunderstood moat?

You basically want me to explain you a difficult subject of identifying moats. It reminds me a story. One man came to Mozart and asked him how to write a symphony. Mozart replied: «You are too young to write a symphony». The man said: «You were writing symphonies when you were 10 years of age, and I am 21». Mozart said: «Yes, but I didn’t run around asking people how to do it».

Erudition 24. (On human nature) The one thing that surprises me all my life is how many people with high IQs do massively stupid things. This makes a world a very dangerous place, because your doctor or your investment manager can go crazy.

What surprised you the most about human nature?

The one thing that surprise me all my life is how many people with high IQs do massively stupid things. This makes a world a very dangerous place, because your doctor or your investment manager can go crazy. Here is an example: there was a doctor in California who was giving people an open heart surgery. He was thinking that everybody needs open heart surgery and he did a massive amounts of them. Well, I expect worst in human nature, but how can anyone be like that putting people at such risk? And why was it allowed to continue year after year? By the way, surgeries went wonderful, because nobody survives open heart surgeries better than a person who doesn’t need it at all. So, those are kinds of things that surprise me.

When do you think software would get to a point that it would reduce lawyers billable hours?

A: I wouldn’t hold my breath. I do think there is some trend to billings, and not only lawyers but also consultants, and accountants. But I think in law it is most obvious as I see clients insisting on a different system of compensation, because it has gone too far.

There is debate in China whether they should follow Singapore’s model given that Singapore is a much smaller country that had British legal system, which is very different from Chinese situation. Whats your opinion on it?

China adopted some parts of Singapore’s economic system. But the anti curruption part of China are right from Lee Kuan Yew’s book.

Erudition 25. Leveraging yourself too much is like taking all the safety margin out of the bridges.

How would you quantify the appropriate amount of debt used in different types of investments (Real Estate, Private Equity)?

I think it varies based on circumstances. The idea that companies take a lot of debt to buyback shares is not very compelling. Leveraging yourself too much is like taking all the safety margin out of the bridges.

What relationship do you think indexes will have with the companies they have big positions in?

The rise of indexes created a situation where public companies ended up with large owners who can’t sell. They will likely execute the power over the companies they have the stake in, but I doubt it is going to be intelligent execution.

Erudition 26. Force me to buy one big technology company I might choose Google. But do I understand value of their moat versus anybody else’s moat? The answer is no. By the way, anyone who will give you an answer is probably wrong.

What is your view on moats in technology industry? Do you think Google and Apple have long-lasting moats?

I am not an expert in moats of technology companies, because I don’t understand them. I do think that Google is a remarkable company, and if you put a gun to my head and force me to buy one big technology company I might choose Google. But do I understand value of their moat versus anybody else’s moat? The answer is no. By the way, anyone who will give you an answer is probably wrong.

Denmark is considered to be the happiest country in the world. Any thoughts on that?

It maybe true. It’s a safety net, it’s monolithic, it’s surrounded by advanced countries. If you are in a small group of people who you are closely identified with, you enjoy it better. That’s just the way human mind works.

Buffett’s part of shareholder’s letter was much more pessimistic. What did you think about it?

I liked it. It was very useful. CEOs don’t criticize themselves or their accountants, so someone had to do it. They all were awful, and everyone, including investment managers, went along with that. Valeant Pharmaceutical Company is ITT of the modern day, except that the guy is much worse than Harold Geneen.

20 years ago you mentioned that the most important invention is air conditioner. Has anything changed?

Internet, in my opinion, is more important. You saw what that woman in China was able to accomplish with the video she streamed online.

What separated Henry Singleton from other CEOs of conglomerate era?

He was a genius. Every time he took aptitude test he would score 800 and leave early. He was a very successful mathematician and played blindfold chess. He made a lot of money buying companies like anyone else was doing, and bought back stocks when they went out of favor. He was totally rational human being. What I found interesting about Henry Singleton is despite his educational profile and intellectual ability, Warren was much smarter at investing. Warren thought about investing all the time and because of that he ran rings around Singleton, who was a genius…and Warren is almost a genius.

We conclude the meeting on this note.

Source: http://www.valuewalk.com/2015/04/charlie-munger-daily-journal-2015-meeting-notes/