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1961 Letter
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BUFFETT PARTNERSHIP, LTD.
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810 KIEWIT PLAZA
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OMAHA 31, NEBRASKA
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January 24, 1962
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Our Performance in 1961
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I have consistently told partners that it is my expectation and hope (it's always hard to tell which is which) that
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we will do relatively well compared to the general market in down or static markets, but that we may not look so
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good in advancing markets. In strongly advancing markets I expect to have real difficulty keeping up with the
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general market.
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Although 1961 was certainly a good year for the general market, and in addition, a very good year for us on both
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an absolute and relative basis, the expectations in the previous paragraph remain unchanged.
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During 1961, the general market as measured by the Dow-Jones Industrial Average (hereinafter called the
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“Dow”) showed an over-all gain of 22.2% including dividends received through ownership of the Dow. The
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gain for all partnerships operating throughout the entire year, after all expenses of operation, but before
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payments to limited partners or accrual to the general partner, averaged 45.9%. The details of this gain by
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partnership are shown in the appendix along with results for the partnerships started during the year.
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We have now completed five full years of partnership operation, and the results of these five years are shown
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below on a year-by-year basis and also on a cumulative or compounded basis. These results are stated on the
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basis described in the preceding paragraph; after expenses, but before division of gains among partners or
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payments to partners.
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[TABLE]
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Year & Partnerships Operating Entire Year & Partnership Gain & Dow-Jones Industrials Gain*
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1957 3 10.4% -8.4%
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1958 5 40.9% 38.5%
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1959 6 25.9% 19.9%
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1960 7 22.8% -6.3%
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1961 7 45.9% 22.2%
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[/TABLE]
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* Including dividends received through ownership of the Dow.
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On a compounded basis, the cumulative results have been:
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[TABLE]
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Year & Partnership Gain & Dow-Jones Industrials Gain
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1957 10.4% -8.4%
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1957-58 55.6% 26.9%
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1057-59 95.9% 52.2%
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1957-60 140.6% 42.6%
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1957-61 251.0% 74.3%
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[/TABLE]
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These results do not measure the gain to the limited partner, which of course, is the figure in which you are most
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interested. Because of the varying partnership arrangements that have existed in the past, I have used the over-
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all net gain (based on market values at the beginning and end of the year) to the partnership as being the fairest
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measure of over-all performance.
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On a pro-forma basis adjusted to the division of gains entailed in our present Buffett Partnership, Ltd.
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agreement, the results would have been:
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[TABLE]
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Year & Limited Partners’ Gain & Dow Gain
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1957 9.3% -8.4%
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1958 32.2% 38.5%
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1959 20.9% 19.9%
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1960 18.6% -6.3%
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1961 35.9% 22.2%
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[/TABLE]
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COMPOUNDED
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[TABLE]
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Year & Limited Partners’ Gain & Dow Gain
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1957 9.3% -8.4%
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1957-58 44.5% 26.9%
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1957-59 74.7% 52.2%
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1957-60 107.2% 42.6%
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1957-61 181.6% 74.3%
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[/TABLE]
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A Word About Par
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The outstanding item of importance in my selection of partners, as well as in my subsequent relations with them,
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has been the determination that we use the same yardstick. If my performance is poor, I expect partners to
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withdraw, and indeed, I should look for a new source of investment for my own funds. If performance is good, I
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am assured of doing splendidly, a state of affairs to which I am sure I can adjust.
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The rub, then, is in being sure that we all have the same ideas of what is good and what is poor. I believe in
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establishing yardsticks prior to the act; retrospectively, almost anything can be made to look good in relation to
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something or other.
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I have continuously used the Dow-Jones Industrial Average as our measure of par. It is my feeling that three
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years is a very minimal test of performance, and the best test consists of a period at least that long where the
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terminal level of the Dow is reasonably close to the initial level.
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While the Dow is not perfect (nor is anything else) as a measure of performance, it has the advantage of being
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widely known, has a long period of continuity, and reflects with reasonable accuracy the experience of investors
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generally with the market. I have no objection to any other method of measurement of general market
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performance being used, such as other stock market averages, leading diversified mutual stock funds, bank
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common trust funds, etc.
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You may feel I have established an unduly short yardstick in that it perhaps appears quite simple to do better
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than an unmanaged index of 30 leading common stocks. Actually, this index has generally proven to be a
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reasonably tough competitor. Arthur Wiesenberger’s classic book on investment companies lists performance
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for the 15 years 1946-60, for all leading mutual funds. There is presently over $20 billion invested in mutual
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funds, so the experience of these funds represents, collectively, the experience of many million investors. My
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own belief, though the figures are not obtainable, is that portfolios of most leading investment counsel
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organizations and bank trust departments have achieved results similar to these mutual funds.
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Wiesenberger lists 70 funds in his “Charts & Statistics” with continuous records since 1946. I have excluded 32
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of these funds for various reasons since they were balanced funds (therefore not participating fully in the general
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market rise), specialized industry funds, etc. Of the 32 excluded because I felt a comparison would not be fair,
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31 did poorer than the Dow, so they were certainly not excluded to slant the conclusions below.
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Of the remaining 38 mutual funds whose method of operation I felt was such as to make a comparison with the
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Dow reasonable, 32 did poorer than the Dow, and 6 did better. The 6 doing better at the end of 1960 had assets
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of about $1 billion, and the 32 doing poorer had assets of about $6-1/2 billion. None of the six that were superior
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beat the Dow by more than a few percentage points a year.
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Below I present the year-by-year results for our period of operation (excluding 1961 for which I don't have exact
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data, although rough figures indicate no variance from the 1957-60 figures) for the two largest common stock
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open-end investment companies (mutual funds) and the two largest closed-end investment companies:
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[TABLE]
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Year & Mass Inv Trust & Investors Stock & Lehman & Tri-Cont & Dow & Limited Partners
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1957 -12.0% -12.4% -11.4% -2.4% -8.4% 9.3%
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1958 44.1% 47.6% 40.8% 33.2% 38.5% 32.2%
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1959 8.2% 10.3% 8.1% 8.4% 19.9% 20.9%
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1960 -0.9% -0.1% 2.6% 2.8% -6.3% 18.6%
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[/TABLE]
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(From Moody’s Banks & Finance Manual, 1961)
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COMPOUNDED (Gains From the Previous Table)
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[TABLE]
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Year & Mass Inv Trust & Investors Stock & Lehman & Tri-Cont & Dow & Limited Partners
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1957 -12.0% -12.4% -11.4% -2.4% -8.4% 9.3%
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1957-58 26.8% 29.3% 24.7% 30.0% 26.9% 44.5%
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1957-59 37.2% 42.6% 34.8% 40.9% 52.2% 74.7%
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1957-60 36.0% 42.5% 38.3% 44.8% 42.6% 107.2%
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[/TABLE]
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Massachusetts Investors Trust has net assets of about $1.8 billion; Investors Stock Fund about $1 billion; Tri
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-Continental Corporation about $ .5 billion; and Lehman Corporation about $350 million; or a total of over $3.5
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billion.
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I do not present the above tabulations and information with the idea of indicting investment companies. My own
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record of investing such huge sums of money, with restrictions on the degree of activity I might take in
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companies where we had investments, would be no better, if as good. I present this data to indicate the Dow as
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an investment competitor is no pushover, and the great bulk of investment funds in the country are going to have
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difficulty in bettering, or perhaps even matching, its performance.
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Our portfolio is very different from that of the Dow. Our method of operation is substantially different from that
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of mutual funds.
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However, most partners, as all alternative to their investment in the partnership, would probably have their funds
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invested in a media producing results comparable to the Dow, therefore, I feel it is a fair test of performance.
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Our Method of Operation
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Our avenues of investment break down into three categories. These categories have different behavior
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characteristics, and the way our money is divided among them will have an important effect on our results,
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relative to the Dow in any given year. The actual percentage division among categories is to some degree
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planned, but to a great extent, accidental, based upon availability factors.
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The first section consists of generally undervalued securities (hereinafter called "generals") where we have
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nothing to say about corporate policies and no timetable as to when the undervaluation may correct itself. Over
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the years, this has been our largest category of investment, and more money has been made here than in either of
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the other categories. We usually have fairly large positions (5% to 10% of our total assets) in each of five or six
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generals, with smaller positions in another ten or fifteen.
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Sometimes these work out very fast; many times they take years. It is difficult at the time of purchase to know
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any specific reason why they should appreciate in price. However, because of this lack of glamour or anything
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pending which might create immediate favorable market action, they are available at very cheap prices. A lot of
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value can be obtained for the price paid. This substantial excess of value creates a comfortable margin of safety
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in each transaction. This individual margin of safety, coupled with a diversity of commitments creates a most
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attractive package of safety and appreciation potential. Over the years our timing of purchases has been
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considerably better than our timing of sales. We do not go into these generals with the idea of getting the last
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nickel, but are usually quite content selling out at some intermediate level between our purchase price and what
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we regard as fair value to a private owner.
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The generals tend to behave market-wise very much in sympathy with the Dow. Just because something is cheap
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does not mean it is not going to go down. During abrupt downward movements in the market, this segment may
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very well go down percentage-wise just as much as the Dow. Over a period of years, I believe the generals will
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outperform the Dow, and during sharply advancing years like 1961, this is the section of our portfolio that turns
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in the best results. It is, of course, also the most vulnerable in a declining market.
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Our second category consists of “work-outs.” These are securities whose financial results depend on corporate
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action rather than supply and demand factors created by buyers and sellers of securities. In other words, they are
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securities with a timetable where we can predict, within reasonable error limits, when we will get how much and
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what might upset the applecart. Corporate events such as mergers, liquidations, reorganizations, spin-offs, etc.,
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lead to work-outs. An important source in recent years has been sell-outs by oil producers to major integrated oil
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companies.
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This category will produce reasonably stable earnings from year to year, to a large extent irrespective of the
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course of the Dow. Obviously, if we operate throughout a year with a large portion of our portfolio in work-
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outs, we will look extremely good if it turns out to be a declining year for the Dow or quite bad if it is a strongly
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advancing year. Over the years, work-outs have provided our second largest category. At any given time, we
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may be in ten to fifteen of these; some just beginning and others in the late stage of their development. I believe
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in using borrowed money to offset a portion of our work-out portfolio since there is a high degree of safety in
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this category in terms of both eventual results and intermediate market behavior. Results, excluding the benefits
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derived from the use of borrowed money, usually fall in the 10% to 20% range. My self-imposed limit regarding
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borrowing is 25% of partnership net worth. Oftentimes we owe no money and when we do borrow, it is only as
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an offset against work-outs.
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The final category is "control" situations where we either control the company or take a very large position and
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attempt to influence policies of the company. Such operations should definitely be measured on the basis of
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several years. In a given year, they may produce nothing as it is usually to our advantage to have the stock be
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stagnant market-wise for a long period while we are acquiring it. These situations, too, have relatively little in
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common with the behavior of the Dow. Sometimes, of course, we buy into a general with the thought in mind
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that it might develop into a control situation. If the price remains low enough for a long period, this might very
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well happen. If it moves up before we have a substantial percentage of the company's stock, we sell at higher
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levels and complete a successful general operation. We are presently acquiring stock in what may turn out to be
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control situations several years hence.
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Dempster Mill Manufacturing Company
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We are presently involved in the control of Dempster Mill Manufacturing Company of Beatrice, Nebraska. Our
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first stock was purchased as a generally undervalued security five years ago. A block later became available, and
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I went on the Board about four years ago. In August 1961, we obtained majority control, which is indicative of
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the fact that many of our operations are not exactly of the "overnight" variety.
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Presently we own 70% of the stock of Dempster with another 10% held by a few associates. With only 150 or so
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other stockholders, a market on the stock is virtually non-existent, and in any case, would have no meaning for a
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controlling block. Our own actions in such a market could drastically affect the quoted price.
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Therefore, it is necessary for me to estimate the value at yearend of our controlling interest. This is of particular
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importance since, in effect, new partners are buying in based upon this price, and old partners are selling a
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portion of their interest based upon the same price. The estimated value should not be what we hope it would be
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worth, or what it might be worth to an eager buyer, etc., but what I would estimate our interest would bring if
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sold under current conditions in a reasonably short period of time. Our efforts will be devoted toward increasing
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this value, and we feel there are decent prospects of doing this.
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Dempster is a manufacturer of farm implements and water systems with sales in 1961 of about $9 million.
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Operations have produced only nominal profits in relation to invested capital during recent years. This reflected
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a poor management situation, along with a fairly tough industry situation. Presently, consolidated net worth
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(book value) is about $4.5 million, or $75 per share, consolidated working capital about $50 per share, and at
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yearend we valued our interest at $35 per share. While I claim no oracular vision in a matter such as this, I feel
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this is a fair valuation to both new and old partners. Certainly, if even moderate earning power can be restored, a
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higher valuation will be justified, and even if it cannot, Dempster should work out at a higher figure. Our
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controlling interest was acquired at an average price of about $28, and this holding currently represents 21% of
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partnership net assets based on the $35 value.
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Of course, this section of our portfolio is not going to be worth more money merely because General Motors,
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U.S. Steel, etc., sell higher. In a raging bull market, operations in control situations will seem like a very
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difficult way to make money, compared to just buying the general market. However, I am more conscious of the
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dangers presented at current market levels than the opportunities. Control situations, along with work-outs,
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provide a means of insulating a portion of our portfolio from these dangers.
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The Question of Conservatism
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The above description of our various areas of operation may provide some clues as to how conservatively our
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portfolio is invested. Many people some years back thought they were behaving in the most conservative
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manner by purchasing medium or long-term municipal or government bonds. This policy has produced
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substantial market depreciation in many cases, and most certainly has failed to maintain or increase real buying
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power.
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Conscious, perhaps overly conscious, of inflation, many people now feel that they are behaving in a
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conservative manner by buying blue chip securities almost regardless of price-earnings ratios, dividend yields,
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etc. Without the benefit of hindsight as ill the bond example, I feel this course of action is fraught with danger.
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There is nothing at all conservative, in my opinion, about speculating as to just how high a multiplier a greedy
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and capricious public will put on earnings.
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You will not be right simply because a large number of people momentarily agree with you. You will not be
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right simply because important people agree with you. In many quarters the simultaneous occurrence of the two
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above factors is enough to make a course of action meet the test of conservatism.
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You will be right, over the course of many transactions, if your hypotheses are correct, your facts are correct,
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and your reasoning is correct. True conservatism is only possible through knowledge and reason.
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I might add that in no way does the fact that our portfolio is not conventional prove that we are more
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conservative or less conservative than standard methods of investing. This can only be determined by examining
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the methods or examining the results.
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I feel the most objective test as to just how conservative our manner of investing is arises through evaluation of
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performance in down markets. Preferably these should involve a substantial decline in the Dow. Our
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performance in the rather mild declines of 1957 and 1960 would confirm my hypothesis that we invest in an
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extremely conservative manner. I would welcome any partner’s suggesting objective tests as to conservatism to
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see how we stack up. We have never suffered a realized loss of more than 0.5% of 1% of total net assets, and
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our ratio of total dollars of realized gains to total realized losses is something like 100 to 1. Of course; this
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reflects the fact that on balance we have been operating in an up market. However, there have been many
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opportunities for loss transactions even in markets such as these (you may have found out about a few of these
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yourselves) so I think the above facts have some significance.
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The Question of Size
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Aside from the question as to what happens upon my death (which with a metaphysical twist, is a subject of
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keen interest to me), I am probably asked most often: "What affect is the rapid growth of partnership funds
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going to have upon performance?”
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Larger funds tug in two directions. From the standpoint of "passive" investments, where we do not attempt by
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the size of our investment to influence corporate policies, larger sums hurt results. For the mutual fund or trust
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department investing in securities with very broad markets, the effect of large sums should be to penalize results
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only very slightly. Buying 10,000 shares of General Motors is only slightly more costly (on the basis of
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mathematical expectancy) than buying 1,000 or 100 shares.
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In some of the securities in which we deal (but not all by any means) buying 10,000 shares is much more
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difficult than buying 100 and is sometimes impossible. Therefore, for a portion of our portfolio, larger sums are
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definitely disadvantageous. For a larger portion of the portfolio, I would say increased sums are only slightly
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disadvantageous. This category includes most of our work-outs and some generals.
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However, in the case of control situations increased funds are a definite advantage. A "Sanborn Map" cannot be
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accomplished without the wherewithal. My definite belief is that the opportunities increase in this field as the
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funds increase. This is due to the sharp fall-off in competition as the ante mounts plus the important positive
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correlation that exists between increased size of company and lack of concentrated ownership of that company's
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stock.
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Which is more important -- the decreasing prospects of profitability in passive investments or the increasing
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prospects in control investments? I can't give a definite answer to this since to a great extent it depends on the
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type of market in which we are operating. My present opinion is that there is no reason to think these should not
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be offsetting factors; if my opinion should change, you will be told. I can say, most assuredly, that our results in
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1960 and 1961 would not have been better if we had been operating with the much smaller sums of 1956 and
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1957.
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And a Prediction
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Regular readers (I may be flattering myself) will feel I have left the tracks when I start talking about predictions.
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This is one thing from which I have always shied away and I still do in the normal sense.
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I am certainly not going to predict what general business or the stock market are going to do in the next year or
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two since I don't have the faintest idea.
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I think you can be quite sure that over the next ten years there are going to be a few years when the general
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market is plus 20% or 25%, a few when it is minus on the same order, and a majority when it is in between. I
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haven't any notion as to the sequence in which these will occur, nor do I think it is of any great importance for
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the long-term investor.
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Over any long period of years, I think it likely that the Dow will probably produce something like 5% to 7% per
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year compounded from a combination of dividends and market value gain. Despite the experience of recent
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years, anyone expecting substantially better than that from the general market probably faces disappointment.
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Our job is to pile up yearly advantages over the performance of the Dow without worrying too much about
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whether the absolute results in a given year are a plus or a minus. I would consider a year in which we were
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down 15% and the Dow declined 25% to be much superior to a year when both the partnership and the Dow
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advanced 20%. I have stressed this point in talking with partners and have watched them nod their heads with
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varying degrees of enthusiasm. It is most important to me that you fully understand my reasoning in this regard
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and agree with me not only in your cerebral regions, but also down in the pit of your stomach.
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For the reasons outlined in my method of operation, our best years relative to the Dow are likely to be in
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declining or static markets. Therefore, the advantage we seek will probably come in sharply varying amounts.
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There are bound to be years when we are surpassed by the Dow, but if over a long period we can average ten
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percentage points per year better than it, I will feel the results have been satisfactory.
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Specifically, if the market should be down 35% or 40% in a year (and I feel this has a high probability of
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occurring one year in the next ten--no one knows which one), we should be down only 15% or 20%. If it is more
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or less unchanged during the year, we would hope to be up about ten percentage points. If it is up 20% or more,
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we would struggle to be up as much. The consequence of performance such as this over a period of years would
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mean that if the Dow produces a 5% to 7% per year overall gain compounded, I would hope our results might be
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15% to 17% per year.
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The above expectations may sound somewhat rash, and there is no question but that they may appear very much
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so when viewed from the vantage point of 1965 or 1970. It may turn out that I am completely wrong. However,
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I feel the partners are certainly entitled to know what I am thinking in this regard even though the nature of the
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business is such as to introduce a high probability of error in such expectations. In anyone year, the variations
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may be quite substantial. This happened in 1961, but fortunately the variation was on the pleasant side. They
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won't all be!
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Miscellaneous
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We are now installed in an office at 810 Kiewit Plaza with a first-class secretary, Beth Henley, and an associate
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with considerable experience in my type of securities, Bill Scott. My father is sharing office space with us (he
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also shares the expenses) and doing a brokerage business in securities. None of our brokerage is done through
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him so we have no "vicuna coat" situation.
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Overall, I expect our overhead, excluding interest on borrowings and Nebraska Intangibles Tax, to run less than
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0.5 of 1% of net assets. We should get our money's worth from this expenditure, and you are most cordially
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invited to drop in and see how the money is being spent.
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With over 90 partners and probably 40 or so securities, you can understand that it is quite a welcome relief to
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me to shake loose from some of the details.
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We presently have partners residing in locations from California to Vermont, and net assets at the beginning of
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1962 amounted to $ 7,178,500.00. Susie and I have an interest in the partnership amounting to $1,025,000.00,
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and other relatives of mine have a combined interest totaling $782,600.00. The minimum for new partners last
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year was $25,000, but I am giving some thought to increasing it this year.
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Peat, Marwick, Mitchell & Company did an excellent job of expediting the audit, providing tax figures much
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earlier than in the past. They assure me this performance can be continued.
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Let me hear from you regarding questions you may have on any aspects of this letter, your audit, status of your
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partnership interest, etc. that may puzzle you.
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Cordially Warren E. Buffett.
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APPENDIX
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Partnerships Operating Throughout 1961
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[TABLE]
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Partnership & 1/1/61 Capital at Market & Overall Gain in 1961* & Percentage Gain
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Buffett-Associates $486,874.27 $225,387.80 46.3%
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Buffett-Fund $351,839.29 $159,696.93 45.4%
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Dacee $235,480.31 $116,504.47 49.5%
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Emdee $140,005.24 $67,387.28 48.1%
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Glenoff $78,482.70 $39,693.80 50.5%
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Mo-Buff $325,844.71 $149,163.71 45.8%
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Underwood $582,256.82 $251,951.26 43.3%
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Total $2,200,783.34 $1,009,785.25 45.9%
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[/TABLE]
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Partnerships Started in 1961
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[TABLE]
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Partnership & Paid-in & Date Paid-in & Overall Gain in 1961 & Percentage Gain
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Ann-Investments 100,100 (1-30-61) 35,367.93 35.3%
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Buffett-TD 250,100 1961 70,294.08 28.1%
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Buffett-TD-March $200,100 3-8-61 n/a n/a
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Buffett-TD-May $50,000 5-31-61 n/a n/a
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Buffett-Holland 125,100 (5-17-61) 16,703.76 13.3%
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[/TABLE]
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* Gain in net assets at market values plus payments to limited partners during year.
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Paul Pham
2 years ago