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Charlie Munger in Rare Form
Charlie Munger, who runs Wesco Financial, is the famed right-hand man of Warren Buffett. He is also a master investor in his own right. At Wesco's annual meeting on Wednesday, he shared his wisdom on keys to investment success, the importance of moral behavior, the outlook for Berkshire, and more.

By Whitney Tilson
May 7, 2004

While Warren Buffett gets most of the attention, Charlie Munger, his partner in managing Berkshire Hathaway (NYSE: BRK.A)(NYSE: BRK.B), is an investment genius in his own right. In fact, I suspect that were it not for Buffett -- who Munger freely acknowledges is the superior investor -- Munger might well be acclaimed the world's greatest investor. Before Munger joined forces with Buffett in the mid-1970s, his investment partnership compounded at an average rate of 24.3% annually from 1962 to 1975 (vs. only 6.4% for the Dow over the same period).

In addition to his role as vice chairman of Berkshire Hathaway, Munger is chairman of Wesco Financial (AMEX: WSC), which is 80.1% owned by Berkshire. In an open-mike format similar to that of the Berkshire meeting, Munger answers shareholder questions for a couple of hours at the Wesco meeting every year. Since Buffett does most of the talking at the Berkshire meeting, I always like to attend the Wesco one to hear Munger's in-depth thinking.

I'm never disappointed, but Munger was in rare form this year. During the meeting, as Munger made yet another insightful observation, one of my friends leaned over and whispered to me: "This is one unbelievable 80-year-old!" I agree wholeheartedly.

As I did in Monday's column on Berkshire's annual meeting, I will try to distill extensive notes down to the most important things I heard. (My notes -- all 23 pages -- can be read in their entirety on my website.) I've added a little commentary, but will generally let Munger speak for himself. Recording devices were not allowed in the meeting, so in many cases I am paraphrasing because I couldn't type quickly enough.

Investment philosophy
We don't believe that markets are totally efficient and we don't believe that widespread diversification will yield a good result. We believe almost all good investments will involve relatively low diversification.

If you took the top 15 decisions out, we'd have a pretty average record. It wasn't hyperactivity, but a hell of a lot of patience. You stuck to your principles and when opportunities came along, you pounced on them with vigor.

Maybe 2% of people will come into our corner of the tent and the rest of the 98% will believe what they've been told [e.g., that markets are totally efficient, etc.].

Investing as taught by academia
We've had very little impact. Warren once said to me, "I'm probably misjudging academia generally [in thinking so poorly of it] because the people that interact with me have bonkers theories." Beta and modern portfolio theory and the like -- none of it makes any sense to me. We're trying to buy businesses with sustainable competitive advantages at a low, or even a fair, price.

Keys to investment success
Partly it's temperament -- most people are too fretful, they worry to much. Success means being very patient, but aggressive when it's time. And the more hard lessons you can learn vicariously rather than through your own hard experience, the better.

I don't know anyone who [learned to be a great investor] with great rapidity. Warren has gotten to be one hell of a lot better investor over the period I've known him, so have I. So the game is to keep learning. You gotta like the learning process.

Munger's impact on Buffett
I think those authors give me more credit than I deserve. It is true that Warren had a touch of brain block from working under Ben Graham and making a ton of money -- it's hard to switch from something that's worked so well. But if Charlie Munger had never lived, the Buffett record would still be pretty much what it is.

What if Munger dies?
As you can tell, we're planning on immortality here. [Laughter] What do you need -- sitting on a pile of money and Warren Buffett sitting at the parent corporation?

What happens when Buffett's gone?
When Warren is gone, the acquisition side of Berkshire will not do as well, but the rest will do well. And the acquisition side will do just fine. In any case, we've guaranteed you that the historical rate of growth will go down, and we wouldn't want to make a liar out of me. [Laughter]

I think the top guy won't be as smart as Warren. But it's silly to complain: "What kind of world is this that gives me Warren Buffett for 40 years and then some bastard comes along who's worse?" [Laughter]

Berkshire's and Wesco's cash hoard
Berkshire and Wesco are full of cash that we don't know what to do with. Berkshire has $70 billion if you count the bonds, and Wesco is drowning in cash. It's the most extreme it's ever been. In the past, we've just been patient and we were able to put it to work.

I don't have the slightest glimmer that things are getting a lot better [in terms of investing all of Berkshire's and Wesco's cash]. It's still a world awash in cash.

Are any asset classes undervalued?
Our cash is speaking for itself. If we had a lot of wonderful ideas, we wouldn't have so much cash.

Moral code
We believe there should be a huge area between everything you should do and everything you can do without getting into legal trouble. I don't think you should come anywhere near that line. We don't deserve much credit for this. It helps us make more money. I'd like to believe that we'd behave well even if it didn't work. But more often, we've made extra money from doing the right thing.

Remember Louis Vincenti's rule: "Tell the truth and you won't have to remember your lies." It's such a simple concept.

Demise of ethics among the major accounting firms
When I was younger, the... major accounting firms were... quite ethical places and nobody got filthy rich... But in the space of 25 years, they sold out to terrible behavior, one little step at a time. Once you start doing something bad, then it's easy to take the next step -- and in the end, you're a moral sewer. The idea that the major accounting firms of the country would sell obviously fraudulent tax shelters....

I think a good litmus test of the mental and moral quality at any large institution [with significant derivatives exposure] would be to ask them, "Do you really understand your derivatives book?" Anyone who says yes is either crazy or lying.

Martha Stewart
What happened with Martha Stewart was that she heard some news, panicked, and sold the stock. It turns out that if she's just told the truth [about what she did], she'd have been OK. But because she had a vague idea that what she'd done was wrong, she had a totally phony story when the investigators came and she lied to them and that's a felony. And she did these acts after she'd hired highfalutin lawyers! And I'm sure they charged her a lot. [Laughter] I do not invent these stories.

Were I her lawyer, I would have said, "You know, Martha, that's an interesting story and I'm your lawyer, so I'm required to believe you, but nobody else will. So, you're going to have to come up with a different story or you'll have to tell it through a different lawyer because I don't like losing cases." [Laughter] And it'll work. It's so simple. Literally, she's going to prison for her behavior after she'd hired a lawyer!

Munger has an acerbic, dry wit and had shareholders in stitches at numerous points. Here were my favorites:

If mutual fund directors are independent, then I'm the lead character in the Bolshoi Ballet.

It's been so long since we've bought anything that [asking us about our market impact when we're trading] is like asking Rip Van Winkle about the past 20 years.

I think the people who are attracted to be prison guards are not nature's noblemen to begin with.

[In the book Deep Simplicity], it's pretty hard to understand everything, but if you can't understand it, you can always give it to a more intelligent friend.

Contributor Whitney Tilson is a longtime guest columnist for The Motley Fool. He owned shares of Berkshire Hathaway at press time, though positions may change at any time. Under no circumstances does this information represent a recommendation to buy, sell, or hold any security. Mr. Tilson appreciates your feedback. To read his previous columns for The Motley Fool and other writings, visit The Motley Fool is investors writing for investors.

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