Buffet on Goldman

Great minds think alike ;-)

NYTimes: ... Mr. Buffett said that he feels little sympathy for the firms the S.E.C. says were hurt by Goldman’s purported lack of adequate disclosure. Of one firm, ABN Amro, Mr. Buffett said: “It’s hard for me to get terribly sympathetic when a bank makes a dumb credit bet.”

What Mr. Buffett thinks about Goldman is something the investment community has been buzzing over for days. Berkshire has invested $5 billion in Goldman preferred shares, and Mr. Buffett is notoriously skeptical of Wall Street mores. One of the low points of Mr. Buffett’s investing career is stepping in at Salomon Brothers when the firm was embroiled in a trading scandal: he had to temporarily assume Salomon’s chairmanship and apologize to Congress.

In the case of Goldman, however, Mr. Buffett and his chief lieutenant, Charles Munger, made it clear they’re on the firm’s side. Goldman and Berkshire have a long history, with Mr. Buffett relying on Goldman as his longtime investment bank. (He’s famously said that Byron D. Trott, a longtime Goldman banker who left to start his own shop, is one of the few Wall Street bankers he trusts.)

According to DealBook’s Andrew Ross Sorkin, who’s one of three panelists asking questions at the meeting, Mr. Buffett essentially took Goldman’s defense that everyone involved in the now-infamous Abacus deal was a sophisticated investor fully capable of evaluating the risks in the subprime mortgage investment. Instead of needing to be told that a hedge fund manager who suggested which bonds should form the underpinnings of the Abacus collateralized debt obligation was also short the bonds, the investors should have relied on their own due diligence, Mr. Buffett said.

“If I have to care who is on the other side of the trade, I shouldn’t be insuring bonds,” he said.

Mr. Buffett added an implicit rebuke of a line of questioning raised by several senators during this week’s Goldman hearings. An investment bank could very well be short the securities Berkshire is buying, and a buyer like Berkshire should be perfectly aware of that in any case.

Mr. Munger added that were he on the S.E.C., he would not have voted to press charges.

That isn’t to say that Mr. Buffett and Mr. Munger think Goldman is blameless here. Mr. Munger suggested that there’s a difference between breaking the law and behaving unethically — and that simply following the former shouldn’t be the basis of a business’ conduct.

Charlie Munger at Caltech

This video is from a 2008 DuBridge lecture. More Munger.

I'm surprised he didn't get into any trouble for his comments at 1:00 (one hour) into the talk. It's also worth listening to his perspective on derivatives and financial engineering as an end run around regulation and margin requirements at 1:17. He's pretty rough on social scientists and financiers in the early discussion.

Charlie Munger, Ricardo, and Finance

Here is the text of an interesting talk given by Charlie Munger entitled Academic Economics: Strengths and Faults After Considering Interdisciplinary Needs. Among other things, he discusses physics envy, psychology, behavioral economics and efficient markets. Munger, a billionaire, was Warren Buffet's long time investing partner. He studied briefly at Caltech before attending Harvard Law School, and now lives in Pasadena.

“Charlie is truly the broadest thinker I have ever encountered. From business principles to economic principles to the design of student dormitories to the design of a catamaran he has no equal..." –William H. (Bill) Gates III Microsoft Corporation

...Another example of not thinking through the consequences of the consequences is the standard reaction in economics to Ricardo’s law of comparative advantage giving benefit on both sides of trade. Ricardo came up with a wonderful, non-obvious explanation that was so powerful that people were charmed with it, and they still are, because it’s a very useful idea. Everybody in economics understands that comparative advantage is a big deal, when one considers first order advantages in trade from the Ricardo effect. But suppose you’ve got a very talented ethnic group, like the Chinese, and they’re very poor and backward, and you’re an advanced nation, and you create free trade with China, and it goes on for a long time.

Now let’s follow and second and third order consequences: You are more prosperous than you would have been if you hadn’t traded with China in terms of average well-being in the United States, right? Ricardo proved it. But which nation is going to be growing faster in economic terms? It’s obviously China. They’re absorbing all the modern technology of the world through this great facilitator in free trade, and, like the Asian Tigers have proved, they will get ahead fast. Look at Hong Kong. Look at Taiwan. Look at early Japan. So, you start in a place where you’ve got a weak nation of backward peasants, a billion and a quarter of them, and in the end they’re going to be a much bigger, stronger nation than you are, maybe even having more and better atomic bombs. Well, Ricardo did not prove that that’s a wonderful outcome for the former leading nation. He didn’t try to determine second order and higher order effects.

If you try and talk like this to an economics professor, and I’ve done this three times, they shrink in horror and offense because they don’t like this kind of talk. It really gums up this nice discipline of theirs, which is so much simpler when you ignore second and third order consequences.

The best answer I ever got on that subject – in three tries – was from George Schultz. [Schultz was an MIT economics professor before becoming Secretary of the Treasury and Secretary of State.] He said, “Charlie, the way I figure it is if we stop trading with China, the other advanced nations will do it anyway, and we wouldn’t stop the ascent of China compared to us, and we’d lose the Ricardo- diagnosed advantages of trade.” Which is obviously correct. And I said, “Well George, you’ve just invented a new form of the tragedy of the commons. You’re locked in this system and you can’t fix it. You’re going to go to a tragic hell in a handbasket, if going to hell involves being once the great leader of the world and finally going to the shallows in terms of leadership.” And he said, “Charlie, I do not want to think about this.” I think he’s wise. He’s even older than I am, and maybe I should learn from him.

My favorite Munger quote:

I regard the amount of brainpower going into money management as a national scandal.

We have armies of people with advanced degrees in physics and math in various hedge funds and private-equity funds trying to outsmart the market. A lot of you older people in the room can remember when none of these people existed. There used to be very few people in the business, [and they were not] who were not very intelligent. This was a great help to me.

Now we have armies of very talented people working with great diligence to be the best they can be. I think this is good for the people in it because if you know enough about money management to be good at it, you will know a lot about life. That part is good.

But it's been carried to an extreme. I see prospectuses for businesses with 40-50 people with PhDs, and they have back tested systems and formulas and they want to raise $100 billion. [Reference to Jim Simons of Renaissance Technologies.] And they will take a very substantial override for providing this wonderful system. The guy who runs it has a wonderful investment record and his system is a lot of high mathematics and algorithms with data from the past." [...]

"At Samsung, their engineers meet at 11pm. Our meetings of engineers (meaning our smartest citizens) are also at 11pm, but they're working on pricing derivatives. I think it's crazy to have incentives that drive your most intelligent people into a very sophisticated gaming system."