Buffett was correct once again

Article by: JONATHAN BURTON , MarketWatch
Updated: July 30, 2012 - 9:09 PM

The legendary investor's advice -- look for value and don't be panicked by market gyrations -- has paid off.

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Warren Buffett, chairman and CEO of Berkshire Hathaway Inc., has been dispensing investment advice for half a century, earning him the nickname “the Sage of Omaha.”

Photo: Pablo Martinez Monsivais, Associated Press

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SAN FRANCISCO - Warren Buffett doesn't usually make market predictions, but in an early July letter to shareholders, the legendary investor offered insights to help them through a treacherous stretch for stocks.

"I think you can be quite sure that over the next 10 years there are going to be a few years when the general market is plus 20 percent or 25 percent, a few when it is minus on the same order, and a majority when it is in between," Buffett wrote. "I haven't any notion as to the sequence in which these will occur, nor do I think it is of any great importance for the long-term investor."

This letter hasn't received much attention lately, for good reason: It's dated July 6, 1962.

Half a century on, Buffett's advice to ignore market gyrations still resonates. Yet many investors have trouble looking ahead 10 days, let alone 10 years. Of course, investors nowadays have justifiable fears about their money and who's minding it. The safety of an investment is paramount, while the idea of losing your shirt in a bid for a meaningful return is paralyzing.

So what's new? Risk aversion is hard-wired in human nature. A greedy market feeds on fear. Otherwise Buffett wouldn't have needed to remind investors to keep a lengthy time horizon.

Investors in 1962 had something to be scared about. The Cuban missile crisis wouldn't take the world to the nuclear brink until October, but the Cold War between the United States and the Soviet Union was heating up. The Dow Jones industrial average tumbled 23 percent in the first six months of 1962, erasing its 22 percent gain of the year before. That May 29 a "flash crash" shaved almost 6 percent off the Dow in a single day.

Through it all Buffett stayed cool. Stock buyers need a long lens, he counseled. "Six months -- or even one-year's -- results are not to be taken too seriously," Buffett said in that July letter to his Buffett Partnership Ltd. investors. He added that "investment performance must be judged over a period of time, with such a period including both advancing and declining markets."

The 1962 letter is online along with other Buffett shareholder communications from the late 1950s and 1960s, including his May 29, 1969, letter informing investors of his intent to dissolve the limited partnerships (and offering them a stake in its Berkshire Hathaway Inc. holding).

Seen with the benefit of 50-year hindsight, Buffett's 1962 letter and another written in January 1963 are relevant for today's investors, who face a global economy on the brink, if not of disaster, then certainly of profound change.

"There are lessons [in the partnership letters] on temperament, value and being a voracious learning machine," said Jeff Auxier, who has long included Berkshire shares in his Auxier Focus Fund.

"All of the great investors do it the way Buffett does," he added. "You've got to do massive amounts of homework and have the patience to wait for the right price. Anyone dealing with their own money should study that before they invest."

The early 1960s correspondence shows that Buffett at 82 hasn't lost the essence of his younger self. Then, as now, he stressed preserving capital in down markets, not chasing the market in runaway years, and focusing on long-term challenges and results.

But what many investors fail to grasp is that the long-term, according to Buffett, has never been about passive buy-and-hold; it's buy-on-the-cheap, hold and monitor. That goes for the undervalued common stock, opportunistic workout situations, and wholly or majority-owned "control" businesses that are Buffett's hallmarks.

"Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results," Buffett wrote in a January 1963 shareholder letter.

Buffett started his first limited partnership with $105,000 from family and friends in 1956 when he was a 25-year-old disciple of pioneering value investor Benjamin Graham. By the start of 1963, Buffett's several partnerships controlled $9.4 million -- about $70 million in inflation-adjusted dollars -- including $1.4 million of Buffett's own money.

Buffett's success wasn't hard to fathom: Over the previous five years, the Dow had returned 8.3 percent on average annually; Buffett's partners had gained 21 percent a year, after fees.

Writing in the January 1963 letter, Buffett said that clobbering the Dow by 13 percentage points over five years had exceeded his stated goal of beating the benchmark by 10 points annually on average over many years.