General ThoughtsWarren Buffett

Macroeconomics & NBA Free Agency: Important, but not Knowable

“I don’t think about the macro stuff. What you really want to do with investments, is think about what’s important and what’s knowable. Understanding Coke or Wrigley is knowable… but we have never bought a business or not bought a business because of any macro feeling of any kind… We don’t want to pass up the chance to do something intelligent because of some prediction about something that we’re no good at anyway.” – Warren Buffett, 1998 at the University of Florida

I just had a few thoughts this morning. There has been a tremendous amount of banter back and forth lately about the market, the Fed, the possibility of a bubble, etc… I’ve had numerous conversations with clients and some friends of mine (non-value investor friends) who believe that the Fed is propping up the market… that seems to be the consensus view.

In these conversations with non-investor friends, I occasionally voice my opinion on my investment philosophy (which is usually greeted by yawns). Value investing is boring. Who wants to read 10-K’s and analyze pages of numbers on financial statements? It’s much more fun to engage in the game theory aspect of Fed policy (i.e. which quarter of 2015 will Yellen decide to raise rates and when will stocks react?)

Debating Fed policy is fun… it’s like debating where LeBron James or Carmelo Anthony are going to end up. It gets great ratings… ESPN is setting records for ratings this July (partly because of the World Cup, but some of the highest rated Sports Centers ever in the month of July have been the shows that have been focused on the various pieces of the current NBA free agency puzzle.)

Here is ESPN’s home page this afternoon:

LeBron Carmelo and Bosh

So this NBA drama is getting great ratings. Similarly, whenever there is a big macro event, CNBC and the other cable news channels always get a boost in their ratings. 2008-09 was a great time to be in the business of news. I love reading the paper, and I enjoy the news probably more than the average person. I find the macroeconomic landscape intriguing, but I personally don’t think that this intrigue–or analyzing it and making decisions based on that analysis–is a productive way to manage capital. There are too many uncertainties in the world to handicap all of the various probabilities. Of course, there are countless possible outcomes with each investment—macro or not—but I try to reduce the amount of variables that I need to understand and consider.

The NBA free agency is great theatre. That’s how I think of the Fed policy and other macro things… great theatre, but it’s really difficult to predict. Wherever LeBron James ends up is important (that’s an understatement—he’s single-handedly probably worth 20 wins to Miami and 30 to Cleveland). So obviously, where he goes will have a huge impact on the various teams involved. It’s important… but, in advance, his decision isn’t knowable.

That’s how I feel about the Fed, commodity prices, the economy, the stock market, and many other aspects of the great web that is macroeconomics. It’s all fascinating, it’s all important, but it’s not knowable.

There are lots of opinions out there on many things that are important, but not knowable. Buffett’s wisdom always keeps things in perspective. I’ll wrap up these brief thoughts the same way I started them–with another Buffett quote, this one from his 1994 shareholder letter:

Buffett 1994 Shareholder Letter Quote

Have a great weekend.

(Hopefully for Chris Bosh’s sake, LeBron drops the curtain on this theatre and chooses a team… if you’re a Disney shareholder, hope that he waits until August to decide)… 

Here is the video I referenced above (it’s one of Buffett’s best in my opinion):

8 thoughts on “Macroeconomics & NBA Free Agency: Important, but not Knowable

  1. Great post.

    While I am a value investor I do struggle with the macro and do let it effect how invested I am as in holding large cash balances as result of some fears. And having realized my mistakes of letting macro concerns (won’t happen next cycle) a conclusion I have come to is that you shouldn’t let macro scare you out of good businesses like MKL or BRK, or even ARPI (I think regardless of housing should do quite well), I think you are doing yourself a disservice if you don’t use macro to allow you to avoid mistakes. For example US banks all looked cheap in 2007, gold miners in 2012/13 and I think Canadian banks now (as housing is a real problem here). A better example may be interest rate sensitive sectors at the moment, while I agree its all a guessing game one still has to take a longer term view that the moves are likely to be quite large and therefore avoid entities that may appear cheap that will suffer in that event.

    While Macro has cost me money in terms of opportunity cost (ie. not being invested enough), and hedging costs (have lost money on cad bank puts) it has also saved me lots of money in avoiding optically cheap stocks that were exposed to macro concerns that eroded any margin of safety.

    Curious to hear your thoughts on that.

    1. TB, you raise some great points. One thing that I have learned through experience and through past case studies… you have to put each investment idea into a crucible… a stress test if you will… In 2007, banks appeared cheap, and homebuilder stocks were growing at mid teens and sporting single digit P/E’s. I think it’s tough to predict financial crises (from what I read, in 2014 everyone seems to have seen the crisis coming in 2008… in 2007, I think far fewer saw the crisis actually coming). So I think the macro is difficult to predict and even harder to act on (even those that did see it coming, were they actually able to profit from it? That’s harder than it sounds…)

      So the entire macro game is hard. However, certainly you need to put each investment into a stress test. How will the business look if unemployment rises again, how will it be effected in a bad economy? General checklist items I think will help. I also think a lot of the stocks in 2007 appeared cheap if you looked at the trailing year’s earnings or even the last few years (homebuilders), but I like to look at a long term historical financial table to see what the business looked like in the last recession and the previous decade, etc… Be careful to not get too excited about a cyclical stock trading at a mid single digit P/E when the E is at a cyclical high–especially a cyclical high as dramatic as 2006 in housing.

      But generally speaking, I really liked something Buffett said in that Florida talk… that is, if he had Greenspan whispering in one ear and Rubin in the other (Fed Chairman and Treasury Secretary at that time), telling Buffett what they planned to do in the next 12 months, it still wouldn’t change the price he would be willing to pay for Executive Jets or General Re or anything else (those were two investments he made in the late 90’s).

      I also thought one other point was excellent: Don’t let your thoughts on interest rates or any other macroeconomic factor scare you out of buying a great business at a great price. He listed the example of See’s Candies, which continued to produce more earnings year after year. If he let the problems of the 70’s scare him out of buying it, he wouldn’t have had the tens of millions of dollars of cash flow that the business ultimately produced. More importantly, I’d argue that if he never bought Sees, he probably wouldn’t have bought Coke, which made around $10 billion for Berkshire in the 1990’s alone.

      In 1998 I think he said Sees made Berkshire around $60 million in pretax earnings, and he only paid $25 million for the business in the 70’s.

      So his point is that a business that will likely be producing more money in the future 10 years from now will likely not be permanently impaired by any short term macro crisis.

      I think it’s great general advice.

      With everything of course come layers of factors, but I think that is good to keep in mind. Just focus on value and finding the gaps between value and price.

      1. I’m skeptical of macro after seeing the forex industry where my wife works, and due to reading all these papers about “mostly efficient markets” in academia where I work. To sum up this research: inefficient prices tend to only occur in illiquid or under-analyzed areas.

        Macro is under everyone’s magnifying glass so the price is likely to be efficient.

        Maybe you are clever and can gain 1% annualized in expectation by avoiding some macro disasters with complicated hedging, or going to cash, or gold. But is it worth giving up 10% annualized in expectation that you could get on a well-researched long position?

        1. TB — I suggest to read about Keynes’ (negative) experience with macro investing (he had 83% in stocks in 1929 and despite his unrivaled information network did not avoid the crash), and his subsequent change in investment philosophy.

          Also The Wealth of Nations by Adam Smith, which was recommended by Warren Buffett as one of his favorite books in the 6th edition foreword of Security Analysis. I believe one of the reasons Buffett is always going on about the lack of ‘productivity’ of gold, cash, and other hard assets is explained well by Smith in his discussions of productive vs unproductive capital.

  2. Great post! Macro news can be entertaining to watch. It’s entertainment meant to evoke some drama. But in the end, stuff like that will probably not have any real effect on your daily activities. It’s sort of like politics. Everyone has an opinion who what politicians will do. But chances are, you’re still going to live your life as you see fit.


  3. What if you are investing in countries with less stable economies like Mexico, Bolivia, or South Korea? There are many terrific businesses in these countries but you can generally forecast that a landlocked country like Bolivia or one with a weak political system like Venezuela will grow less quickly that a country with abundant natural resources, a working democracy and a large coastline. This is more like “fundamental” analysis of good vs bad economies and seems easier to predict than the movements of interest rates. However, investing in a stable business with high ROIC in Mexico vs. investing in the same type of business in Venezuela thirty years ago would have yielded a dramatically different result simply due to the growth rate of the underlying economies. How would you think about this? Can you be a value investor to the tune of buffett outside the backdrop of macroeconomic stability given to investors in the US?

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