SPENCE Asset Management

The Ball and the Scoreboard March 2009

According to Forbes magazine’s scoreboard about a year ago, Warren Buffett was the wealthiest man in the world. How did Mr. Buffett get there? More than 98% of Buffett’s net worth is tied up in the shares of Berkshire Hathaway common stock.

We are reminded that over the years, Berkshire has become a diversified holding company with equity interests in other large companies such as Coca Cola, Procter & Gamble, and American Express as well as wholly owned concerns including companies in the business of selling shoes, encyclopedias, candy, insurance, furniture, newspapers, vacuum cleaners, and jewelry.

Since 1965, it is hard to imagine making a better investment than Berkshire Hathaway shares. We can infer that the majority of business decisions made by Warren Buffett and Co-Chair Charles Munger were outstanding. But by no means has their “ride” to prosperity as major Berkshire Hathaway shareholders been a smooth one. There have been many sickening share price declines along the way. According to Andrew Kilpatrick in his book, Of Permanent Value, The Story of Warren Buffett:

• During the market downturn of 1973-74 Berkshire shares fell 56% from their high.
• During the 1987 market downturn Bershire shares plunged 25% from their high.
• During the 1990-1991 downturn Berkshire shares fell 49% from their high.
• During 1998-2000 Berkshire shares dropped 49% from their high.

With feelings of permanent nausea substituting for permanent value during the last eighteen months, we thought it might be timely to re-check the latest data and see what has happened to Mr. Buffett’s wealth since December 10, 2007 when Berkshire Hathaway common stock traded at a high of $149,200 per share.

In early March of 2009 Berkshire shares were changing hands at $70,050.01 each, which represents a 53% decline since the all-time peak.

We think there are valuable lessons to be learned from studying the historical performance pattern of Berkshire Hathaway shares. Many people consider Warren Buffett and Charles Munger to be the two greatest investors who ever lived. In times like these when it seems the markets will never perform well again, it is particularly important to realize IF you had been fortunate enough to have purchased Berkshire shares a long time ago, your experience would have been successful, but not “easy.” If you had invested in 1973, 1987, 1990, 1998 or 2007, you would have had to endure sickening plunges in the value of your Berkshire Hathaway shares almost immediately. Even if you had gotten in on the proverbial “ground floor” and invested in Berkshire shares all the way back in 1965, when Buffett first took over the reigns of command, and held until today, it is clear that tremendous patience would have been required for long term success.

Will the shares of Berkshire Hathaway recover? Only time will tell. The stock market and for that matter, life, offer no guarantees. However, it is safe to say that the performance pattern of Berkshire Hathaway shares from 1965 until 2009 represents one of a very few “best case scenarios” where common stocks are concerned. At the end of February we read Mr. Buffett’s most recent letter to shareholder’s to see what the great teacher had to say about the latest turmoil. Below is an excerpt we find meaningful: “Amid this bad news, however, never forget that our country has faced far worse travails in the past. In the 20th Century alone, we dealt with two great wars (one of which we initially appeared to be losing); a dozen or so panics and recessions; virulent inflation that led to a 21 ½% prime rate in 1980; and the Great Depression of the 1930s, when unemployment ranged between 15% and 25% for many years. America has had no shortage of challenges. Without fail, however, we’ve overcome them. In the face of those obstacles – and many others – the real standard of living for Americans improved nearly seven-fold during the 1900s, while the Dow Jones Industrials rose from 66 to 11,497. Compare the record of this period with the dozens of centuries during which humans secured only tiny gains, if any, in how they lived. Though the path has not been smooth, our economic system has worked extraordinarily well over time. It has unleashed human potential as no other system has, and it will continue to do so. America’s best days lie ahead.”

For long time readers of this newsletter, this month’s content probably seems vaguely familiar. This is not the first time we have looked at the behavior of Berkshire shares. We have done so many times over the years just to remind ourselves of what can happen in terrible markets to one of the best and most enduring companies of the last forty-five years.

And we are reminded again and again that Mr. Buffett and Mr. Munger have gone into painstaking detail to teach those willing to learn that even though common stock shares will be treated like casino chips from time to time, they are in fact shares of ownership in business enterprises. The trick is to not treat them like casino chips even when seemingly everyone else is.

We remain committed to viewing our holdings for what they are: small pieces of businesses. Though we admit that with all the turmoil it has not been easy, we are convinced, based on experience, that just as the best athletes advocate, it is better to watch the ball and not the scoreboard.

Jim Spence, Eric Walton

Securities offered through Cambridge Investment Research, Inc., a Broker/Dealer, Member FINRA/SIPC

Investment Advisory Services offered through Spence Asset Management, Inc., a Registered Investment Adviser Cambridge Investment Research and Spence Asset Management are not affiliated The views expressed here are those of Spence Asset Management and are subject to change with market conditions. The information contained in this newsletter is derived from sources believed to be accurate. You should discuss any legal, tax, or financial matters with the appropriate professional. Neither the information presented nor any opinion expressed constitutes investment advice or a solicitation for the purchase or sale of any security. Market forecasts cannot be guaranteed. Past performance does not guarantee future results.