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Buffett Warns of Liquidity Curse, Celebrates Property Bet

Photographer: Andrew Harrer/Bloomberg

Warren Buffett, chairman and chief executive officer of Berkshire Hathaway Inc., has pursued a buy-and-hold investment approach as he built Omaha, Nebraska-based Berkshire into a $280 billion company accumulating the largest holdings of Coca-Cola Co., American Express Co. and Wells Fargo & Co. Close

Warren Buffett, chairman and chief executive officer of Berkshire Hathaway Inc., has... Read More

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Photographer: Andrew Harrer/Bloomberg

Warren Buffett, chairman and chief executive officer of Berkshire Hathaway Inc., has pursued a buy-and-hold investment approach as he built Omaha, Nebraska-based Berkshire into a $280 billion company accumulating the largest holdings of Coca-Cola Co., American Express Co. and Wells Fargo & Co.

Warren Buffett, the billionaire chairman of Berkshire Hathaway Inc., cited a farm he’s owned since 1986 to caution individuals against frequent buying and selling of stocks.

Investors should treat their equity holdings like real estate purchases, focusing on the potential for profits over time rather than short-term price fluctuations, Buffett, 83, wrote in an excerpt from his annual letter published on the website of Fortune magazine today.

“Those people who can sit quietly for decades when they own a farm or apartment house too often become frenetic when they are exposed to a stream of stock quotations,” Buffett said. “For these investors, liquidity is transformed from the unqualified benefit it should be to a curse.”

Buffett has pursued a buy-and-hold investment approach as he built Omaha, Nebraska-based Berkshire into a $280 billion company accumulating the largest holdings of Coca-Cola Co., American Express Co. and Wells Fargo & Co. He’s said individual investors may be better off avoiding his approach to picking stocks, instead purchasing a fund that holds every company in the Standard & Poor’s 500 Index.

Related: Why Unprofitable Companies Are Leading Stocks Higher

“The goal of the nonprofessional should not be to pick winners,” Buffett wrote. “The ‘know-nothing’ investor who both diversifies and keeps his costs minimal is virtually certain to get satisfactory results.”

The S&P 500 has returned about 7 percent annually over the past decade, beating by almost a percentage point the average yearly advance of Buffett’s company. Buffett has said he aims to increase Berkshire’s book value, a measure of assets minus liabilities, more rapidly than the S&P 500.

Retail Property

Buffett’s track record of profitable stock picks and takeovers has helped make his letters a must-read on Wall Street. The billionaire has said he writes them to be understood by his sisters, who don’t work in finance. The full document will probably be released by March 1, along with financial results for 2013.

In today’s excerpt, Buffett cited the agricultural holding and a 1993 investment in New York City real estate. Annual distributions on the retail property, near New York University, now exceed 35 percent of the initial investment.

He purchased the 400-acre (1.6 square kilometer) farm, located 50 miles (80 kilometers) north of Omaha, for $280,000 in 1986. He says he calculated the farm’s return to be about 10 percent, based on production estimates for soy and corn. The farm is worth about five times what Buffett paid, and earnings have tripled, he wrote.

‘Moody Fellow’

The billionaire compared the daily fluctuations in stock values to an erratic neighbor standing near his property, yelling out offers for the land.

“If a moody fellow with a farm bordering my property yelled out a price every day to me at which he would either buy my farm or sell me his -- and those prices varied widely over short periods of time depending on his mental state -- how in the world could I be other than benefited,” Buffett wrote. “If his daily shout-out was ridiculously low, and I had some spare cash, I would buy his farm. If the number he yelled was absurdly high, I could either sell to him or just go on farming.”

That’s not how equity holders often react, Buffett said.

“Owners of stocks, however, too often let the capricious and irrational behavior of their fellow owners cause them to behave irrationally,” he wrote. “Because there is so much chatter about markets, the economy, interest rates, price behavior of stocks, etc., some investors believe it is important to listen to pundits -- and, worse yet, important to consider acting upon their comments.”

Market Fluctuations

Buffett has said that he regrets not taking advantage of such irrationality to sell holdings. Coca-Cola Co., one of Berkshire’s largest equity holdings, was one of the billionaire’s most successful investments in the 1990s, reaching prices that were more than 45 times earnings at the end of 1998.

The investment has fared worse since then. While the stock price has recovered most of its losses since falling from the 1998 peak, Coke’s price-to-earnings ratio is less than half of what it once was. Shares have declined this year as the soft-drink maker faces sluggish growth outside the U.S. and concerns about the healthiness of its product at home.

“Though I said at the time that certain of the stocks we held were priced ahead of themselves, I underestimated how severe the overvaluation was,” he wrote in a 2005 letter to shareholders, reflecting on stocks in Berkshire’s portfolio in the late 1990s. “I talked when I should have walked.”

Despite that regret, Buffett reiterated his view today that excessive trading can diminish returns.

‘Frictional Costs’

“Both individuals and institutions will constantly be urged to be active by those who profit from giving advice or effecting transactions,” he wrote. “The resulting frictional costs can be huge and, for investors in aggregate, devoid of benefit.”

Berkshire last week decided to stop letting high-speed traders purchase direct access to press releases distributed by its Business Wire unit. Such firms often enter and exit positions in less than a second. Buffett said last year that such activity is “not contributing anything to capitalism.”

To contact the reporters on this story: Zachary Tracer in New York at ztracer1@bloomberg.net; Noah Buhayar in New York at nbuhayar@bloomberg.net

To contact the editor responsible for this story: Dan Kraut at dkraut2@bloomberg.net

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