Question: I’m still quite young, I don’t have a house yet and I’m thinking about buying a house someday soon. And in order to do that I’m going to have to put a down payment, which means I might have to sell my shares. And I was wondering if you can provide some insight on when is the best time to buy a house, and how much down payment you should be putting down, in relation to interest rates and also in relation to available cash and the stock market.
Buffett: Well, Charlie’s going to give you an answer to that in a second. I’ll just relay one story, which was when I got married we did have about $10,000 starting off, and I told Susie, I said, “Now, you know, there’s two choices, it’s up to you. We can either buy a house, which will use up all my capital and clean me out, and it’ll be like a carpenter who’s had his tools taken away for him. “Or you can let me work on this and someday, who knows, maybe I’ll even buy a little bit larger house than would otherwise be the case.”
So she was very understanding on that point. And we waited until 1956. We got married in 1952.
And I decided to buy a house when the down payment was about 10% or so of my net worth, because I really felt I wanted to use the capital for other purposes.
But that was a way different environment in terms of what was available to buy. In effect, if you have the house you want to buy, you know, I definitely believe in just going out and probably getting the job done. But in effect, you’re probably making something in the area of a 7 or 8% [annual return] investment, implicitly, when you do it. So you know, you’ll have to figure out your own equation from that.
Charlie probably has better advice on that. He’s a big homeowner in both senses of the word.
Munger: I think the time to buy a house is when you need one.
Buffett: And when do you need one?
Munger: Well, I have very old-fashioned ideas on that, too. The single people, I don’t care if they ever get a house.
Buffett: When do you need one if you’re married, Charlie? You need one when your wife wants one?!
Munger: Yeah, yes. I think you’ve got that exactly right.
Question: You’ve said that great companies are those that have an economic moat, and I understand that phrase to mean a sustainable competitive advantage. Do businesses begin their lives with sustainable competitive advantages, or must that be developed over a very long time? And then, what are the fundamental bases upon which you’ve seen companies successfully develop sustainable competitive advantages? Of those, which do you think is the most enduring and which is the least?
Buffett: Well, sometimes they can develop it very quickly. I would say that Microsoft, in terms of the operating system, that was a relatively quick development. But that was an industry that was exploding, and things were changing very fast.
On the other hand, if you go back to See’s Candies, which started in 1921, there was no way you could build a sustainable competitive advantage, at least that would be recognizable, in times measured shorter than decades. I mean, you opened up one shop at a time, and nobody’d heard of you originally, and then a few people did. And boxed chocolates were something that people may have bought once or twice a year for a holiday occasion or whatever. So, you weren’t going to embed yourself in the minds of Californians in one or two or five years just because you were turning out outstanding box of chocolates.
So it depends on the way the industry itself is developing.
Walmart has done an incredible job in quite a short period of time. But even they [took some time] — they took it in the small towns, and they progressed along, and refined their techniques as they went.
But I would say that there could be things in new industries.
I would say with NetJets, we have a sustainable competitive advantage. And that’s an industry that was only originated in 1986 when Rich Santulli got the idea, and it was in its total infancy for a good many years after that. But what he has built, and is building and fortifying, is that sustainable competitive advantage. But it depends very much on the industry you’re in.
And I mean, Coca-Cola. 1886, Jacobs Pharmacy, Atlanta, Georgia, you know. John Pemberton came up with a product. And did he have a sustainable competitive advantage that day? If he did, he blew it because he sold the place for 2,000 bucks to Asa Candler.
It took decades, thousands of competitors over that time. They were painting one barn at a time, and designing one Saturday Evening Post ad at a time, and all of that, and pebbles — you know. Around the world in World War II, General Eisenhower went to Mr. Woodruff and he said, “I want a Coke within the arm’s length of every American serviceman.” He said, “I want something to remind them of home.” And so he built a lot of bottling plants for Coke around the world. And that was a huge impetus.
But that was, what? 60 years or so after the product was invented.
So it takes a long time in certain kinds of products, but I could see certain areas of the world where a huge competitive advantage is built in a very short period of time.
I would say that probably, in terms of animated feature-length films, for example, Walt Disney did that. And after Snow White and a few more, it took him a while until he could cash in on it, but it became Disney and nobody else in that field for quite a while, and fairly quickly.
Munger: Yeah, there are a lot of different models that create a sustainable competitive advantage.
And there are also some models where you can lose it very fast. Just ask Arthur Andersen. That was a very good name in America not very long ago.
And I think it would be harder to lose the good name of Wrigley’s gum than the good name of Arthur Andersen.
I think there’s some perfectly remarkable competitive advantages that people have gotten over time. And the great trouble with the investment process is that they’re so damned obvious that the stocks sell at very high prices.
Buffett: Snickers has been the number one candy bar for probably 30 or 40 years now. How do you really knock it off?
I mean, we make candy, we would love to displace Snickers, but it’s hard to think of ways to knock them from the number one spot.
My guess is that they’ll be number one in 10 years from now in candy bars, and the list doesn’t change much in that field because —
If you think about the nature of how you make that choice as to what candy bar [you are going to buy and eat] —
If you were chewing Spearmint chewing gum five years ago, and you buy a pack of some chewing gum today, it’s likely to be Spearmint. I mean, there’s just things that you experiment a lot with, and there’re things that you don’t fool around with once you’re happy. You can understand that if you observe your own habits and people’s habits around you.
[And then] there’s other [aspect to it] — usually if something can gain competitive advantage very quickly, you have to worry about them losing it quickly, too. I mean, when an industry is in flux, there are a lot of people that think they’re the survivors, or the ones that are going to prosper, where it turns out otherwise.
If things are changing very fast in an industry, it could be possible to develop an economic moat relatively quickly. Examples: Microsoft (with Windows), Walt Disney (in animated feature-length films), Walmart, NetJets
But, beware: what comes quickly, may go just as quickly. And even if the moat was built over decades, it could be destroyed very quickly. Example: Arthur Andersen
If a product needs to spread out and embed itself into the mind of millions of consumers, it may take several decades. Both the frequency of consumption and the product “stickiness” impact the “spreading out” outcome. Examples: See’s Candies, Coca-Cola, Snickers
Question: Hello, Mr. Buffett and Mr. Munger. I am 12 years old. […] My question is not about money. It’s about friendship. How do you remain friends and business partners for so long? And what advice do you have for young people like me in selecting true friends and future business partners? Thank you.
Buffett: Well, when Charlie and I met in 1959 we were introduced by the Davis family, and they predicted that within 30 minutes we would either not be able to stand each other or we would get along terrifically.
And that was a fairly insightful analysis, actually, by the Davises, because you had two personalities that both had some tendencies toward dominance in certain situations.
But we hit it off. We have disagreed, but we have never had an argument that I can remember at all in 43 years.
And yet we both have strong opinions and they aren’t the same strong opinions at times.
But the truth is we’ve had an enormous amount of fun together, we continue to have an enormous amount of fun, and nothing will change that, basically.
It may have worked better because he’s in California and I’m in Omaha, I don’t know.
I’ll let Charlie comment on it.
Munger: Well, that’s a wonderful question you’ve asked, because Warren and I both know some very successful businessmen who have not one true friend on earth. And rightly so.
Buffett: That’s true.
Munger: And that is no way to live a life. And if by asking that question, you’re asking: how do I get the right friends? You are really onto the right question.
And when you get with the right friends, if you’ve worked hard at becoming the right sort of fellow, I think you’ll recognize what you have and then all you have to do is hang on.
Buffett: The real question is: what do you like in other people? I mean, what do you want from a friend?
And if you’ll think about it, there are certain qualities that you admire in other people, that you find likeable, and that cause you to want to be around certain people.
And then look at those qualities and say to yourself, “Which of these is it physically or mentally impossible for me to have?” And the answer will be none.
I mean, it’s only reasonable that if certain things that attract you to other people that, if you possess those, they will attract other people to you.
And secondarily, if you find certain things repulsive in other people — whether they brag or they’re dishonest or whatever it may be — if that turns you off, it’s going to turn other people off if you possess those qualities.
And those are choices. You know, very few of those things are in your DNA. They are choices.
And they are also habits. I mean, if you have habits that attract people early on, you’ll have them later on. And if you have habits that repel people, you’re not going to cure it when you’re 60 or 70.
Buffett: It’s not a complicated equation. And, as I remember, Benjamin Franklin did something like that one time. Didn’t he list the qualities he admired, and then just set out to acquire them?
Munger: Absolutely. He went at it the way you’ve gone after acquiring money.
Buffett: They’re not mutually exclusive.
Munger: No [they are not].
Their advice in a nutshell:
They also threw in the conversation some other interesting observations about themselves, and human nature in general:
Update — June 2021
In an interview with CNBC released on June 29th 2021, Warren and Charlie touched on the topic of their own friendship.
More details on how they first met and why they instantly hit it off:
Buffett: There was a doctor couple, very prominent in Omaha, and his name was Eddie Davis, her name was Dorothy Davis. And it was Mrs. Davis that called me, actually. She did everything. She said, “We’ve heard that you manage money and, and we’d be kind of interested in listening to your story about how you do it, and what we might do with you.”
So I went over and I talked to them. And I was all full of myself and like that’s, you know, I couldn’t talk fast enough about stocks in those days. And Dorothy Davis, very smart, listened to every word. And the doctor was kind of over in the corner, submitting a yoyo or something, and really not paying much attention. And I got all through and the wife looked over at the doctor [who] said, “I’m gonna give him $100,000.” And I was managing about $500,000 at the time, so it was a big deal.
And in a very nice way, I said, “Dr. Davis, you really haven’t been paying much attention to what I’ve been saying and everything. I’d kinda like to know why you’re giving me this $100,000.” And Dr. Davis looked at me and he said, “Well, you remind me of Charlie Munger.” And I said, “Well, I don’t know who Charlie Munger is, but I like him.” And he gave me $100,000.
And then they told me about Charlie. [As a] young kid, how he would be over there asking them questions on medicine, and giving them lectures. I mean, they clearly loved him. And it sorta became their mission that sometime they wanted to get me and Charlie together. So, Charlie, in 1959, his dad died and he came back to Omaha. His mother lived there and the Davises really got us together.
So they arranged the dinner. And about five minutes into it, Charlie was sort of rolling on the floor laughing at his own jokes, which is exactly the same thing I did. So I thought, “This, I’m not gonna find another guy like this.” And we just hit it off.
Buffett: Both of our wives thought, “My god, another one.”
Munger: What I like about Warren is the irreverence. We don’t have automatic reverence for the pompous heads of all civilization.
Buffett: We were kind of always that way. We were a little more extreme. I’ve learned to behave a little bit better. Charlie really hasn’t learned much better. I just knew instantly Charlie was the kinda guy that I was gonna like, and I was gonna learn from. But, you know, it wasn’t anything calculated, a decision or anything like that. It was natural. And, we have had nothing but fun.
Buffett: I knew when I met Charlie, after a few minutes in the restaurant, that, you know, this guy was gonna be in my life forever. I mean, we were gonna have fun together. We were gonna make money together. We were gonna get ideas from each other. We were gonna both behave better than if we didn’t know each other.
On what they admire the most about the other nowadays:
Rebecca Quick: You two have been friends for over 60 years, what’s one thing that you really admire about the other?
Munger: Well, I like the humor, and all that, but dependable is really important.
Rebecca Quick: Warren, what do you admire about Charlie?
Buffett: Really, just the kind of person he’s been. He has contributed to individuals, and also to society. It goes well beyond buying a stock and selling it higher. He’s designed dormitories and helped build them. He’s worked at hospitals and to understand how they can be made better, and serve more people, and do it at less cost. You know, it’s an uphill fight all the time, but Charlie’s worked on big problems, and he doesn’t need to.
And Charlie has never shaded anything he’s told me, you know, since we met, in terms of presenting it to me in a different way than reality, or he’s never done anything I’ve seen that’s self-serving, in terms of being a partner, or in any kind of way. He makes me better than I would otherwise be. I don’t wanna disappoint him.
Munger: But you’ve had the same thing, in reverse.
Buffett: Yeah, well, it works. It does work that way. I mean, it’s better to associate with people who are better than you are.
Charlie Munger did an online interview for the Caltech Distinguished Alumnus Award in December 2020. He talked about China’s remarkable rise — e.g., lifting hundreds of millions of people from poverty:
Munger: The other thing that’s really remarkable. You take the last 30 years of China. They have had real economic growth at a rate for 30 years that no big country has ever had before in the history of the world. And who did that? A bunch of Chinese communists. Now, that is really remarkable. So if you’re studying finance, you’ve got a lot of strange things to account for.
The Chinese story is the damnedest thing that ever happened to a big country in terms of economics. No other big country ever got ahead that fast for that long.
Who would have guessed that a bunch of communist Chinese run by one party would have the best economic record the world has ever seen? Of course it’s extreme. And I think it proves that it doesn’t… We Americans would like to think that our free expression and allowing all kinds of opinion, and all kinds of criticism of the government is totally an essential part of the economy. And what the Chinese have proved is you can have a screamingly successful economy with a fairly controlling government.
All the government has to do is create a lot of [Adam] Smithian capitalism. If you do that, having a sort of a controlling one-party government doesn’t matter. That’s not a fashionable thing to say, but I think it’s true.
He also mentioned China on his closing remarks:
Moderator: What are you most curious about in the next 30 to 40 years?
Munger: Well, having been an investor for so long, I’m of course interested in these weird present conditions and these weird economic conditions where they’re printing money like crazy and so forth. And of course that’s very interesting.
And I’m interested in the fact that the world has come so far in having these undeveloped countries get ahead so fast like China. Now I compare it with India, which has a way worse economic record, even though they got more of our political institutions. You know, they got more free speech in India, and a way worse economic achievement. I think the economic development of the modern world is very interesting. It’s a very interesting subject.
Update — February 2021
In Daily Journal’s 2021 AGM, Charlie was asked again about China. Here are his remarks:
Question: My question concerns China. In 1860, GDP per capita in China was 600. In 1978, the year Deng Xiaoping took over, it was 300. Today, it hovers around 9500. Never before in the history of mankind have we seen such a rapid eradication of poverty, pulling approximately 800 million people out of destitution. You are on record as a zealous fan of the Chinese work ethic and Confucian value system. As we can see from the deteriorating U.S. relationship with China, the Western world does not understand China. What can we do to increase knowledge, understanding, and appreciation of the Chinese civilization?
Munger: Well, it’s natural for people to think their own civilization and their own nation are better than everybody else. But everybody can’t be better than everybody else.
You’re right. China’s economic record among the big nations is the best that ever existed in the history of the world. And that’s very interesting.
A lot of people assume that since England led the Industrial Revolution and had free speech early that free speech is required to have a booming economy as prescribed by Adam Smith. But the Chinese have proved that you don’t need free speech to have a wonderful economy. They just copied Adam Smith and left out the free speech and it worked fine for them.
As a matter of fact, it’s not clear to me that China would have done better if they’d copied every aspect of English civilization. I think they would have come out worse because their position was so dire and the poverty was so extreme, they needed very extreme methods to get out of the fix they were in. So I think what China has done was probably right for China and that we shouldn’t be so pompous as to be telling the Chinese they ought to behave like us because we like ourselves and our system. It’s entirely possible that our system is right for us and their system is right for them.
Question: Mr. Munger is a champion of Chinese stocks. How concerned is he about Chinese government interference as seen recently with Ant Financial, Alibaba, and Mr. Jack Ma. What, for example, is to stop the Chinese government from simply deciding one day to nationalize BYD?
Munger: Well, I consider that very unlikely. And, I think Jack Ma was very arrogant to be telling the Chinese government how dumb they were, how stupid their policies were, and so forth. Considering their system, that is not what he should have been doing.
I think the Chinese have behaved very shrewdly in managing their economy and they’ve gotten better results than we have in managing our economy. I think that that will probably continue.
Sure, we all love the kind of civilization we have. I’m not saying I wanted to live in China. I prefer the United States. But I do admire what the Chinese have done. How can you not? Nobody else has ever taken a big country out of poverty so fast and so on.
What I see in China now just staggers me. There are factories in China that are just absolutely full of robots and are working beautifully.
They’re no longer using peasant girls to beat the brains out of our little shoe companies in America. They are joining the modern world very rapidly and they’re getting very skillful at operating.
Charlie Munger made two public-speaking appearances in 2020. In both talks he has made interesting remarks about the current state of affairs in the economy — including the U.S. dollar, negative interest rates, and money printing. He first spoke at the Daily Journal Corporation Annual Shareholders Meeting in February 2020. His second speaking event this year was an online interview for the Caltech Distinguished Alumnus Award in December 2020.
On the role of the U.S. dollar as the world’s reserve currency and the big responsibility it bears to Americans:
Munger: One of the interesting things about the current condition is that the Americans — by accident — have created the reserve currency of the world. And the world needs a reserve currency. And I don’t sense any great sense of trusteeship among my fellow Americans for behaving very well in our responsibilities to the rest of the world with our own currency. Our attitude is we’ll do what pleases us. That’s not my view. I think once you get a big responsibility to other people who are depending on you, you ought to think about them too.
Quick, related question about trade balances:
Question: Do you think it’s necessary for America to record a positive trade balance to keep its prosperity in the next century?
Munger: The answer is no.
His thoughts on the absence of inflation after the 2008 financial crisis:
Question: We have record budget deficits, record unemployment, and record expansion of the balance sheet. Why do you think we don’t have inflation?
Munger: Well, regarding inflation. You know, the economists of the world thought they knew a lot more than they did.
What has happened is weird, that in response to the Great Recession, all the nations of the world have printed money like crazy and have bought all kinds of investment assets. And they’ve done things that nobody in the economics profession would have recommended on this scale even five or so years ago — and yet the inflation has been very low.
I think we all have a lot to be modest about when we talk about economics. Lyndon Johnson said that giving a talk on economics was a lot like pissing down your leg. He says, “It feels hot to you, but it doesn’t influence anybody else very much.” And I’m afraid I can’t do much better than Lyndon Johnson could.
His nervousness about negative interest rates:
Question: There are over 10 trillion dollars of securities around the world with a negative yield. And by the president Trump’s Twitter feed, it seems that he wants to bring negative interest rates to the United States. Are you for negative interest rates or against them?
Munger: Negative interest rates make me very nervous. However, I don’t think the authorities had much choice. It’s politically impossible to do big stimulus rapidly and the only weapon they had in a crisis was to print money and change interest rates. And I think it was probably the right thing to be done. Of course it makes me nervous.
I think, having worked once, people will overdo it. And that’s the nature of governments and people. And of course, that makes me nervous. I don’t know what to do about this.
Question: My question is about the effects of low interest rates on insurance. Lower returns on float may be causing a tighter supply of insurance. For example, there used to be three main underwriters insuring all the taxi cabs in Southern California. Now it is heading towards just one underwriter who will have a monopoly on all commercial taxi insurance in Southern California. You have access to CEOs of Geico and Wesco and a Rolodex that we can only dream of. So do you see 10 years of low interest rates posing a systemic risk to the supply of insurance?
Munger: I am made uncomfortable with the idea of extremely low interest rates, or negative interest rates even more extreme, lasting a long time. I don’t think anybody knows how those will work. If you are a little uneasy, welcome to the club. I think it’s dangerous and peculiar, but I think we had to do what we did. In other words, I don’t have any good solution for you. I think you’re right to be worried about it.
On quantitative easing and fiscal deficits:
Moderator: What do you think of the combinations of quantitative easing and large fiscal deficit? And where are they going to lead us?
Munger: Well, there I got a very simple answer and that is, it’s one of the most interesting questions anybody could ask. And we’re in very uncharted waters. Nobody has gotten by with the kind of money printing we’re doing now for a very extended period without some trouble. And I think we’re very near the edge of playing with fire.
Moderator: It is remarkable how much we’ve expanded the money supply; how low interest rates are and how little initial response there has been on…
Munger: Remarkable is not too strong a word. “Astounding” would be more like it.
Moderator: I’ll let you choose the adjective, Charlie.
Munger: It’s unbelievably extreme. Some European government borrowed money recently for some tiny little fraction of 1% for a hundred years. Now that is weird. What kind of a lunatic would loan money to a European government for a hundred years at less than 1%?
Update — February 2021
In Daily Journal’s 2021 AGM, Charlie was asked again about monetary policy. Here’s what he said:
Question: Mr. Munger recently raised the alarm about the level of money printing taking place. What are his thoughts on modern monetary theory?
Munger: Modern monetary theory means that people are less worried about an inflationary disaster like Weimar Germany from government printing of money and spending it. So far the evidence would be that maybe the monetary modern monetary theory is right. Put me down as skeptical. I don’t know the answer.
In a recent interview (14 Dec 2020), the 96-year-old sage Charlie Munger talked about career decisions — including the circumstances around his own decisions, and the lessons that he has learned from the decisions he made.
If I were forced to compress his remarks into a paragraph, it would be along the lines of:
You ought to know that, first and foremost, most careers involve tough competition. If you seek to win big, you must get to know what your special advantages are. How? By following your interests and seeking direct feedback from hands-on experiences. The earlier, the better, because it may take decades. After you discover your advantages, go fish where they can be well applied. And, very importantly, keep an eye on the tailwinds — the wind might help you when it blows hard.
What follows is the transcript in verbatim of his comments and advice on career.
(I reordered the content and split it into topics to make it for easier reading.)
On starting a carreer in law:
(It seems like he started with law because, at the time, he haven’t realized yet what he was particularly good at.)
Munger: My father had gone to the Harvard Law School, and my grandfather was a distinguished judge in Nebraska. So that was a natural course of activity for me.
I went into law because I didn’t want to be a surgeon, I didn’t want to be a doctor, I didn’t want to be a college professor. I finally got through them, there was only one, I just went down the family path. And it wasn’t the wisest decision I ever ran.
On switching from law to full-time investing — his major career change happened after he did investing on the side for a decade or so and came out fairly good at it:
Munger: There were things I didn’t like about law practice, but I had an army of children to support, and no family money or anything to start with. So I had to make my way in life for this army of children.
What happened was: my pitifully small earnings as a young man I kept underspending them, and I kept investing fairly boldly and fairly smartly. And at the end of my first 13 years of law practice I had more liquid investments than I made in all those years of law practice pre-tax.
I’d done that [my liquid investments] in my spare time with these little tiny sums. So it was natural for me, partly prompted by Warren Buffett’s success, to think I should just start working for myself instead of for other people. [If I had done that] in my spare time, I thought, “Well, what will happen if I do it full time?”
On how tailwinds help everyone — it doesn’t matter your special advantage (in fact, one may have none to count on), nor does it matter if you trying to win big. The wind blows for everyone:
Munger: If you go into a career that’s very tough, you’re not going to do very well. And if you go into one where you have special advantages and you like the work, you’re going to do pretty well.
Moderator: So finding your own path is something you really recommend to everyone?
Munger: No! What I recommend to everyone — what helps everyone — is to get into something that’s going up and it just carries you along without much talent or work. If you pick a really strong place like, say, Costco, and you go to work at it, and you really are reliable and nice, you’re going to do fine in life. You’ve got a big tailwind.
But in elite education nobody wants to go to work for Costco from Harvard or MIT or Stanford. And, of course, it’s the one place where it would where be the easiest to get ahead.
On how competitive professional life is (if you are looking to get far ahead):
Munger: Just think of how hard it is to get far ahead in life. Suppose you want to get ahead at Caltech [because] you like the academic life. If you want it, Caltech is very good at getting people tenure. If you’re very brilliant and work 80-90 hours a week for 9-10 years, you get tenure. That is not what I call an easy life. And competing with the Homer Joe Stewarts!
I chose to avoid it because I knew I wouldn’t win big at it. [Of course I could have been] a perfectly successful professor by ordinary standards, but I would not have been a star.
On what it means to have special advantages on something:
Munger: When I was at Caltech I took this course of Thermodynamics from Homer Joe Stewart — by the way, a lovely human being and gifted beyond compare. And one thing I learned from him was that no matter how hard I would try, I could never be as good at Thermodynamics as Homer Joe Stewart.
I think that is a very useful lesson, I knew what I could do and I couldn’t. I never even considered trying to compete with the Homer Joe Stewarts of the world in Thermodynamics.
On how hard it is to teach special advantages in poker or chess or investing for everyone. People seem to “embody” their special advantages, as if they had the perfect temperament for a given activity. Things are suppose to “click” and come “naturally”:
Munger: If you asked, “How could Caltech teach people how to win chess tournaments or poker tournaments?” You would find that some people at Caltech are very good at that, and others aren’t. And if you want to win at those things, you better bet on the people that are really very good at it, and not everybody is.
I don’t think Caltech can make great investors out of most people. I think great investors to some extent are like great chess players. They’re almost born to be investors.
Moderator: Because of the tolerance for risk? The patience? What are the traits?
Munger: Obviously you have to know a lot.
But partly it’s temperament, partly it’s deferred gratification. You got to be willing to wait. Good investing requires a weird combination of patience and aggression, and not many people have it.
It [also] requires a big amount of self-awareness — how much you know and how much you don’t know. You have to know the edge of your own competency, and a lot of brilliant people are no good at knowing the edge of their own competency. They think they’re way smarter than they are. Of course that’s dangerous and causes trouble.
So I think Caltech would have a hard time teaching everybody to be a great investor.
Moderator: Could it help people discover that they have that temperament? Or is this something that you mostly should try on your own?
Munger: I think you find out whether you got the qualities to win at poker by playing poker.
Moderator: That’s a very empirical approach, Charlie.
Munger: Yes, but I think it’s right.
Obviously it helps to know the basic math of Fermat and Pascal but everybody [in a sense] knows that stuff.
But having the temperament, where Fermat and Pascal is the most part of you, where it is your ear and nose, that’s a different kind of a person. And I think it’s hard to teach that.
Warren and I have talked about this. In the early days, we talked about our way of doing things, which [was] working so well. We found [that] some people got it, and that they instantly converted our way, and did very well. And some people, no matter how carefully we explained it, and no matter how successful they were, they could never adapt it. [People] either got it fast or they didn’t get it at all. That’s my experience.
So how are we supposed to find the special advantages that one might have? Charlie wasn’t asked this question, but he did offer a comment that sort of touches on that:
Munger: If you pursue any career with enough fanaticism, that’s very likely to work better than not having the fanaticism. So, if you look at Warren Buffett, he had this fanatic interest in investments from an early age. And he kept making small investments, even with his [tiny little] savings [at the time], and he finally learned how to be pretty good at it. And so if you want to succeed in investments, start early, try hard, and keep doing it. All success comes that way by and large.
My own understanding is that there are activities where feedback is faster and easier to get than others. Munger himself needed 13 years figure out that investing was the thing that he liked and was good at. To be fair, there have been hardships in his family life that have certainly delayed him. Nevertheless, if he were not born in the same town as Buffett, it could had taken him longer.
In fact, in some parallel universe, there may be a Charlie Munger who had never made the move and is still a lawyer. That Charlie is certainly less happy with work than the investor that inhabits our planet. But such is life.
Update — February 2021
In Daily Journal’s 2021 AGM, Charlie was asked a follow-up question about greatness in chess and investing:
Question: I enjoyed your Caltech interview and wanted you to elaborate and provide more insights on your point of great investors and great chess players. How are they similar or different? Have you seen the television show Queen’s Gambit on Netflix?
Munger: I have seen an episode or two of the Queen’s Gambit.
What I think is interesting about chess is, to some extent, you can’t learn it unless you have a certain natural gift. And even if you have a natural gift, you can’t be good at it unless you start playing at a very young age and get huge experience. So, it’s a very interesting competitive field.
I think people have the theory that any intelligent hardworking person can get to be a great investor. I think any intelligent person can get to be pretty good as an investor and avoid certain obvious traps. But I don’t think everybody can be a great investor or a great chess player.
I knew a man once, Henry Singleton, who was not a chess champion. But he could play chess blindfolded at just below the Grandmaster level. Henry was a genius. And there aren’t many people that can do that. And if you can’t do that, you’re not gonna win the great chess championships of the world, and you’re not gonna do as well in business as Henry Singleton did.
I think some of these things are very difficult and I think, by and large, it’s a mistake to hire investment management — [that is,] to hire armies of people to make conclusions [about investments]. You’re better off concentrating your decision power on one person the way the Li Lu partnership does and then choose the right person [of course].
I don’t think it’s easy for ordinary people to become great investors.
In other words, to Munger, true greatness is born and must be practiced from young ages.
Also, if you stumble upon an outstanding performer in some field, try not dilute his or her performance by blending it in a team with other less-than-absolutely-great performers.
Charlie’s remarks about business ethics have always been on point. Here are excerpts of his most recent commentary on the theme that have ressonated with me.
On avoiding businesses that make money by tricking people:
Munger: And it’s a very good thing to be doing. The world needs what we’re trying to do [at the Daily Journal Corporation]. And we’re trying to reward the right people. And really trying to serve the customers.
When it comes to customers, my ambition is to be as close to Costco as I can possibly be. I’ve never been associated with a company that works harder than Costco to make sure that customers are served well. I mean, I just love success that occurs that way. And I hate success where you deliberately trying to cheat people or sell them something that’s not good for them. Like gambling service in Las Vegas.
I do think there’s something to be said [on that]. You have the option for selling stuff that’s good for people instead of stuff that tricks them. And any rate, that’s our approach. I would choose that approach even if I made less money. In fact, I think you make more.
It reminds me of Warren Buffet’s favorite saying, he says, “You always take the high road.” he says, “It’s less crowded.” And that’s the system.
On being rewarded only after delivering value to customers:
Gerry Salzman: As we move forward, the financial results will depend upon the number of users in these various justice agencies. Yes, we do get implementation fees, but we can only take that into income when everything is delivered. And so we focus on trying to get to the point where everything is delivered. Then we can take it into income and reflected in the financial statements.
Munger: This is a very important thing that everybody in this room should understand. We have no simple way of just counting up hours and sending little invoices to the government. That’s what most consultants like to do, which is bill hours. But we don’t. We only get the right to collect money [after] the thing works. And we do that on purpose.
It reminds me of one of my favorite tales which really happened. When I was young, a lot of the earth moving was not done with bulldozers, it was done by teams of mules who were guided by contractors who ran these mule teams and their big plows.
And there was a contractor who had an enormous number of mules, and when the war came, the big builder called him and said, “I’ve got a cost plus contract with the government, I’m going to make you cost plus and I want your mules to start tomorrow morning on this big project.” Cost plus cost plus percentage of cost. And this contractor said, “Oh, no.” He says, “I can’t do that.” And he goes, “Why not?” He said, “Well”, he said, “I get business all these years because I’m so efficient.” And he said, “When I take it cost plus contract, even my mules seem to know it and they all go to hell.”
On avoiding excesses and misalignments:
Munger: What’s happened in America, of course, is that software has grown enormously. If you take every big college in the engineering department, the most popular course is Computer Science. And if you go into venture capital, the most popular investment is some kind of software. And I do not find venture capital’s backing of software companies pretty because there’s just so much of it and there’s some wretched excess, and folly, and high prices and so on. It’s not a scene that attracts a normal Berkshire Hathaway type. I’m not saying it won’t work. For a great many of them it will do very well. But there’s also going to be a lot of casualties.
I don’t like it when bad stuff comes in. I don’t like it when investment bankers talk about EBITDA, which I translate as “bullshit earnings”. And I don’t like all this talk about J-curves and all these private sales of software companies from one venture capital to another, and markups. It looks like a daisy chain to me. So I think there’s a lot of wretched excess in it.
But it reflects an underlying sound development, which is this huge growth of software changing the technology of the world. But it’s going to have some unpleasant consequences because there’s so much wretched excess in it. I bet that almost everybody in this room has somebody in software in the family.
I’ve got two people in private equity in my family, and private equity has grown into the trillions. And, of course, it’s a very peculiar development because there’s a lot of promotion and a lot of crazy buying. It’s what I call “fee-driven buying”, much of it, where people are buying things to get the fees. I’m not used to that. I buy things because I think they’re going to work for me for the long pull, as the owner! I’m not thinking about scraping fees off along the way. So it’s a very different.
It makes me very nervous to have all this fee-driven buying. Wherever they’re successful, they just raise a fund that’s twice as big as the last one. Throw more money at more deals. And of course, with more money and more overhead, it’s an (inaudible) demand for fees.
Will the world provide wonderful results for all these people? The answer is no, it won’t. It’s gonna be a lot of tragedy.
On what wretched excess could lead to:
Munger: [In] finance, by its nature, the temptations are too great, and it goes to wretched excess. And, of course, I don’t like it. I don’t think it’s good for the country.
I would argue that the wretched excess that led to the Great Depression, which led to the rise of Hitler. I think we pay a big price eventually for wretched excess, and stupidity, and greed, and so forth. I’m all for staying in control. In other words, I’m all for behaving a lot more like Confucius.
Update — June 2021
In an interview with CNBC released on June 29th 2021, Warren Buffett briefly commented on why he avoids dishonest people:
Buffett: We learned a long time ago that you can’t make a good deal with a bad person. Just forget it.
If you think you can draw up a contract that is going to work against a bad person, they’re gonna win. [For one thing], they probably enjoy litigation. But Berkshire Hathaway as an entity, or me personally, we don’t wanna spend our life, you know, doing that sort of thing.
And, besides, the bad guys win. They know more games.
They may lose eventually, but it’s no way to spend your life.
A master class by Charlie Munger — a step-by-step deconstruction of the lollapalooza that made Coca-Cola possible. How Coke exploits the human biochemistry and psychology, and have successfully blocked competitors from doing the same:
We can see from the introductory course in psychology that, in essence, we are going into the business of creating and maintaining conditioned reflexes (a.k.a. habits). The “Coca-Cola” trade name and trade dress will act as the stimuli, and the purchase and ingestion of our beverage will be the desired responses.
And how does one create and maintain conditioned reflexes? Well, the psychology text gives two answers: by operant conditioning, and by classical conditioning (often called Pavlovian conditioning to honor the great Russian scientist). And, since we want a lollapalooza result, we must use both conditioning techniques – and all we can invent to enhance effects from each technique.
The operant-conditioning part of our problem is easy to solve. We need only (1) maximize rewards of our beverage’s ingestion, and (2) minimize possibilities that desired reflexes, once created by us, will be extinguished through operant conditioning by proprietors of competing products.
For operant conditioning rewards, there are only a few categories we will find practical:
- Food value in calories or other inputs
- Flavor, texture, and aroma acting as stimuli to consumption under neural preprogramming of a man through Darwinian natural selection
- Stimulus, as by sugar or caffeine
- Cooling effect when man is too hot or warming effect when man is too cool
Wanting a lollapalooza result, we will naturally include rewards in all the categories.
To start out, it is easy to decide to design our beverage for consumption cold. There is much less opportunity, without ingesting beverage, to counteract excessive heat, compared with excessive cold. Moreover, with excessive heat, much liquid must be consumed, and the reverse is not true. It is also easy to decide to include both sugar and caffeine. After all, tea, coffee, and lemonade are already widely consumed. And it is also clear that we must be fanatic about determining, through trial and error, flavor and other characteristics that will maximize human pleasure while taking in the sugared water and caffeine we will provide.
We must avoid the protective, cloying, stop-consumption effects of aftertaste that are a standard part of physiology, developed through Darwinian evolution to enhance the replication of man’s genes by forcing a generally helpful moderation on the gene carrier. To serve our ends, on hot days a consumer must be able to drink container after container of our product with almost no impediment from aftertaste. We will find a wonderful no-aftertaste flavor by trial and error and will thereby solve this problem.
And, to counteract possibilities that desired operant-conditioned reflexes, once created by us will be extinguished by operant conditioning employing competing products, there is also an obvious answer: we will make it a permanent obsession in our company that our beverage, as fast as practicable, will at all times be available everywhere throughout the world. After all, a competing product, if it is never tried, can’t act as a reward creating a conflicting habit. Every spouse knows that.
We must next consider the Pavlovian conditioning we must also use. In Pavlovian conditioning powerful effects come from mere association. The neural system of Pavlov’s dog causes it to salivate at the bell it can’t eat. And the brain of man yearns for the type of beverage held by the pretty woman he can’t have. And so, Glotz, we must use every sort of decent, honorable Pavlovian conditioning we can think of. For as long as we are in business, our beverage and its promotion must be associated in consumer minds with all other thing consumers like or admire.
Such extensive Pavlovian conditioning will cost a lot of money, particularly for advertising. We will spend big money as far ahead as we can imagine. But the money will be effectively spent. As we expand fast in our new-beverage market, our competitors will face gross disadvantages of scale in buying advertising to create the Pavlovian conditioning they need. And this outcome, along with other volume-creates-power effects, should help us gain and hold at least 50 percent of the new market everywhere. Indeed, provided buyers are scattered, our higher volumes will give us very extreme cost advantages in distribution.
Moreover, Pavlovian effects from mere association will help us choose the flavor, texture, and color of our new beverage. Considering Pavlovian effects, we will have wisely chosen the exotic and expensive-sounding name “Coca-Cola,” instead of a pedestrian name like “Glotz’s sugared, caffeinated water.” For similar Pavlovian reasons, it will be wise to have our beverage look pretty much like wine, instead of sugared water. And so we will artificially color our beverage if it comes out clear. And we will carbonate our water, making our product seem like champagne, or some other expensive beverage, while also making its flavor better and imitation harder to arrange for competing products. And, because we are going to attach so many expensive psychological effects to our flavor, that flavor should be different from any other standard flavor so that we maximize difficulties for competitors and give no accidental same-flavor benefit to any existing product.
What else, from the psychology textbook, can help our new business? Well, there is that powerful “monkey-see, monkey-do” aspect of human nature that psychologists often call “social proof.” Social proof, imitative consumption triggered by mere sight of consumption, will not only help induce trial of our beverage. It will also bolster perceived rewards from consumption. We will always take this powerful social-proof factor into account as we design advertising and sales promotion and as we forego present profit to enhance present and future consumption. More than with most other products, increased selling power will come from each increase in sales.
We can now see, Glotz, that by combining (1) much Pavlovian conditioning, (2) powerful social-proof effects, and (3) wonderful-tasting, energy-giving, stimulating and desirably-cold beverage that causes much operant conditioning, we are going to get sales that speed up for a long time by reason of the huge mixture of factors we have chosen. Therefore, we are going to start something like an autocatalytic reaction in chemistry, precisely the sort of multi-factor-triggered lollapalooza effect we need.
The logistics and the distribution strategy of our business will be simple. There are only two practical ways to sell our beverage: (1) as a syrup to fountains and restaurants, and (2) as a complete carbonated-water product in containers. Wanting lollapalooza results, we will naturally do it both ways. And, wanting huge Pavlovian and social-proof effects we will always spend on advertising and sales promotion, per serving, over 40 percent of the fountain price for syrup needed to make the serving.
A few syrup-making plants can serve the world. However, to avoid needless shipping of mere space and water, we will need many bottling plants scattered over the world. We will maximize profits if (like early General Electric with light bulbs) we always set the first-sale price, either (1) for fountain syrup, or (2) for any container of our complete product. The best way to arrange this desirable profit-maximizing control is to make any independent bottler we need a subcontractor, not a vendee of syrup, and certainly not a vendee of syrup under a perpetual franchise specifying a syrup price frozen forever at its starting level.
Being unable to get a patent or copyright on our super important flavor, we will work obsessively to keep our formula secret. We will make a big hoopla over our secrecy, which will enhance Pavlovian effects. Eventually food-chemical engineering will advance so that our flavor can be copied with near exactitude. But, by that time, we will be so far ahead, with such strong trademarks and complete, “always available” worldwide distribution, that good flavor copying won’t bar us from our objective. Moreover, the advances in food chemistry that help competitors will almost surely be accompanied by technological advances that will help us, including refrigeration, better transportation, and, for dieters, ability to insert a sugar taste without inserting sugar’s calories. Also, there will be related beverage opportunities we will seize.