MONEY Warren Buffett

Warren Buffett Hates Gambling…Unless He’s the House

The Oracle of Omaha has a history of winning bets. Here's a look at some of his past wagers.

Earlier this week, investing sage Warren Buffett made headlines by predicting Hillary Clinton would win the 2016 presidential election. In fact, he added, he’s willing to put some coin behind it. “Hillary’s going to win,” said Buffett, speaking at Fortune’s Most Powerful Women Summit. “I will bet money on it. I will. I don’t do that easily.”

But that’s not quite accurate.

Sure, the Oracle of Omaha has publicly denigrated gambling, including comments to his Berkshire Hathaway shareholders in which he called it a “tax on ignorance” and “socially revolting.” And he even bought a 10-cent slot machine in his home to teach his offspring the evils of casinos. “I… put it on the 3rd floor of my house,” Buffett explained. “I could then give my children any allowance they wanted, as long as it was in dimes, and I’d have it all back by nightfall. I wanted to teach them a good lesson. My slot machine had a terrible payout ratio, by the way.”

But in fact Buffett has a long history of making very public wagers — and a pretty good track record of winning them. Here are a few of his most famous bets.

$550 on College Football

Earlier this year, Buffett placed his first-ever Las Vegas stake, betting $550 that Nebraska would beat Fresno State by more than 12 1/2 points. The Cornhuskers went on to destroy Fresno, 55 to 19, making Buffett (and other gamblers who rushed to copy him) a healthy return.

$1 Million on Index Funds Beating Hedge Funds

Buffett has consistently recommended index funds as the best investment vehicle for most investors, specifically endorsing Vanguard’s funds in a March letter to shareholders. He’s so sure indexes are the way to go that he bet $1 million that the S&P would outperform a “fund of funds” portfolio of hedge funds over 10 years, after fees, costs, and expenses are taken into account. An asset management firm called Protege Partners took the other side of the bet. So far, Buffett is on track for a payday: Fortune reports that, after six years, Buffett’s horse—Vanguard’s Admiral shares—was beating the firm’s five funds by more than 30% at the end of 2013.

$30 Million on World Cup Soccer

In a way, gambling of a kind is actually a routine part of Buffett’s business—and I’m not talking about his equity investments. One of Berkshire Hathaway’s many revenue streams is selling insurance that protects companies in the event that they have to pay out large cash prizes. For example, Bloomberg reports that in 2010 Berkshire insured an Omaha-based business that agreed to pay one of its clients if the French soccer team won the World Cup. If France wins, Buffett explained at the time, “I think we’re going to lose 30 million bucks or something like that.” But once again the Oracle of Omaha came out on top: Les Bleu were knocked out by South Africa in the group stage.

$1 Billion on March Madness

Thanks to Buffett, NCAA basketball got a lot more interesting this year. In January, the investor teamed up with Quicken Loans to offer a $1 billion prize to anyone who submitted a perfect March Madness bracket. The odds of Buffet losing? According to math site Orgtheory.net, the likelihood of correctly filling out a 64 team bracket randomly is less than 1 in 9 quintillion. But, because March Madness predictions do involve some level of skill, the true odds are difficult to determine. “There is no perfect math…There are no true odds, no one really knows,” Buffett told CNN. That said, he still liked his chances. “I don’t want to say it’s impossible, but it’s basically impossible,” admitted Buffett.

Buffett ultimately won his bet, collecting an undisclosed insurance premium from Quicken chairman Dan Gilbert (“Dan says it is too much and I say it’s too little,” he joked), but it was a close one. In March, ABC News reported that one man, Brad Binder, had in fact filled out a perfect NCAA bracket—he just hadn’t entered it into Buffett’s contest. “I wish I could give you a better reason why I didn’t enter other than I was rushed and heading to work,” Binder told ABC. “Obviously, I didn’t think I’d be where I am now.”

So is Buffett really a gambler after all? Not so much. Other than the Vegas wager, all of Buffett’s other bets gave the Berkshire chairman hugely favorable odds, or involved an industry where his expertise is unmatched. Buffett would probably agree that gambling isn’t really so bad — if you’re the house.

MONEY

No, Warren Buffett Is Not a Tax Hypocrite on Burger King

Warren Buffett
Andrew Harrer—Bloomberg via Getty Images

The investor's Berkshire Hathaway is helping to finance a deal that would turn Burger King into a Canadian company for tax purposes.

Burger King and Tim Horton have made it official: They’re planning to merge, and when all is said and done the new headquarters will be in Canada, not the U.S. By using Ontario as the address for the combined company—the operational HQ for BK restaurant will remain in Miami, the company says—the company may stand to pay a lower tax rate. This has linked BK to the roiling political controversy over “inversions,” in which American companies merge with smaller firms located abroad to become foreign companies for tax purposes.

Part of the financing for the deal comes from Berkshire Hathaway, the company run by famed investor Warren Buffett. He’s long been a a critic of the way our tax code favors, in his view, super-wealthy people like him. Back during the 2012 campaign, President Obama, whom Buffett supported, loved to bring up Buffett’s observation that he actually paid a lower tax rate than his secretary. Obama even proposed a “Buffett rule” that anyone earning more than $1 million should pay at least a 30% effective federal rate.

So a critic of the tax code is taxing advantage of what looks like a loophole in the tax code. This has already prompted some to call Buffett a hypocrite. Neil Cavuto at Fox Business doesn’t go to the H-word but says of Buffett: “It sets him up essentially against himself – and his oft-repeated claim those who have more should pay more in taxes.”

No, not really. First, it’s hardly news that Buffett has always been very shrewd about investing with an eye toward keeping taxes low. A small example: As Bloomberg News pointed out in March, tax savings are one reason Buffett says he prefers to buy companies outright when he can, instead of simply holding stock.

Second, while this is a story that’s very much developing, it is not clear that the Burger King/Tim Horton’s deal is mainly about lowering taxes. As MONEY’s Paul Lim argued yesterday, it may have more to do with diversifying Burger King’s portfolio beyond the slow-growing hamburger business. (BK will still pay U.S. taxes on its U.S. earnings. Though, as Reuters explains, locating in Canada now could eventually become more valuable if the company expands abroad.)

But mainly, suggestions of hypocrisy ring false because Buffett has never, ever held himself out as person who pays more taxes than he has to. The whole point of his story about his tax rate vs. his secretary’s is that he was allowed to pay less than he thought he should. He never said he was writing a check to the Treasury to make up the difference. He just said the law didn’t make any sense, and then he actively he supported a change that would presumably cost him money.

Also, if we had a Buffett rule that captured more of the income of high earners, complex corporate deals that cut taxes would actually be a little less worrying. After all, the ultimate beneficiaries of inversions and the like are the shareholders of companies. And that means it’s wealthy households who get the biggest bang for the tax-saving buck when a U.S. company heads abroad.

MONEY

Why I Cried When Berkshire Hathaway Hit $200,000 a Share

Crying baby
Robert Holmgren—Getty Images

Lessons from a guy who sold his stock in Warren Buffett's company for just $4000

The A shares of Berkshire Hathaway, the company run by superinvestor Warren Buffett, closed above $200,000 a share yesterday. But all I could think of was another number—$400,000—which is roughly the amount I’d be ahead today if I hadn’t foolishly sold Berkshire many years ago. Clearly, I screwed up. But maybe you can profit from my blunder in your own investing.

Here’s how it happened.

After the stock market crashed in October 1987, I noticed that Berkshire Hathaway shares, which had been selling for more than $4,000 in the months leading up to the crash, had dipped to around $3,000 a share. I’d long admired Buffett as an investor, and especially liked his views about long-term investing. He once said in one of his famous annual letters to Berkshire shareholders that his “favorite holding period is forever.”

So I decided to buy two shares for $3,000 apiece in November of 1987. At first, they dropped even more. But, like Buffett, I was in for the long term. So I held on. And before long, Berkshire’s share price began to climb, passing $3,900 a share by April, 1988.

It was about then that a little voice began whispering in my ear: “Maybe you should sell.” It continued: “You’re up $1,000 a share, two thousand bucks, in just seven months. That’s pretty damn good.” I resisted at first. But I began to weaken, inventing rationales about why Buffett’s long-term philosophy didn’t make sense in this instance. “Who in his right mind is going to pay almost $4,000 for one share in a company? The last time these shares sold at this level, look what happened: they dropped by 25%. Get out while the getting is good.”

When the share price hit $4,000 in June of 1988, I bailed, netting myself a nifty little profit of $2,000, before brokerage commissions. My initial trepidation at selling gave way to delusions of grandeur. I felt escstatic: a $2,000 profit on a $6,000 investment in just seven months. Look at the way I’ve navigated the stock market, I told myself. I’m displaying truly Buffett-esque qualities.

But air began leaking from my inflated sense of my investing abilities when I saw that Berkshire shares continued to rise. And rise, and rise. A year later, they were selling for more than $6,500 a share. A few years after that, they cracked the $10,000 mark. In 2006, they hit six-figure territory, more than $100,000 a share. Sure, there were ups and downs along the way. But it was pretty clear that my genius move wasn’t such a genius move after all. Had I held on, I would own two shares worth $405,700, giving me an annualized return of about 17% based on my intial $6,000 investment. The Standard & Poor’s 500 index gained roughly an annualized 11% over the same span.

So, what lesson can you take from my Berkshire experience and apply to your own investing, whether for retirement or any other purpose?

Well, first I want to be clear that I’m not suggesting that you invest a substantial sum in Berkshire Hathaway—whether through the A shares or, more likely, the B shares, which closed at a mere $135.30 yesterday—in hopes of extravagant gains. You can always find examples of great stocks that generated dazzling returns. But there are also plenty of stocks that people were sure would be winners that flamed out. So the mere fact that, looking back, we can all see that Berkshire did extraordinarily well doesn’t mean it would have been a wise move years ago or a smart move now to concentrate one’s money in it, or any other single stock or small group of stocks.

And, in fact, the money I invested in Berkshire back then was a small portion of my investable assets. I held the overwhelming majority of my savings in a well-rounded and broadly diversified portfolio. So as chagrined as I was and am that I didn’t hold on to those Berkshire shares, my financial future wasn’t riding on them.

Rather, the real lesson here is that many times you will be tempted to deviate from your core investing principles or your long-term strategy. When the market is soaring, you may be tempted to shift bond holdings into stocks. That’s where the returns are, no? Or after the market has cratered, you may come to see stocks as far too risky and feel a strong urge to dump your stock holdings and hunker down in the safety of cash or bonds. After all, who knows how much lower stocks can fall and how long it may take them to recover?

Similarly, while you know that plain-vanilla low-cost index investments are a proven way to reap the rewards of the financial markets over the long haul, you could still find yourself intrigued by a pitch for a high-cost investment that purports to offer outsize gains with little downside risk. The people who peddle such illusions can be mighty persuasive.

But if you abandon your long-term strategy every time the markets get rocky or a clever salesperson dangles a shimmering investment bauble before your eyes, you won’t have a strategy at all. You’ll be flying by the seat of your pants.

Which is why at such times it’s crucial that you take a moment to remind yourself of why you have a long-term strategy in the first place. It’s so you won’t end up simply winging it. And having done that, you’ll have a better chance of ignoring that voice whispering in your ear. I wish I had.

Walter Updegrave is the editor of RealDealRetirement.com. He previously wrote the Ask the Expert column for MONEY and CNNMoney. You can reach him at walter@realdealretirement.com.

More from Real Deal Retirement:
Do You Really Need Stocks to Invest for Retirement?
How an Early Start Can Net You An Extra $250,000
5 Tips for Charting Your Retirement Lifestyle

MONEY stocks

How Investors Are Like Powerball Players

Lottery winners
Many investors dare to dream, like these winners of the $448 million Powerball jackpot. Donna Svennevik—ABC via Getty Images

It's easy to be dazzled by stocks with hot streaks. Here's why you should ignore that noise.

Almost everyone knows that playing the lottery is a terrible idea as a matter of simple math, and yet state-run lottery ticket sales run close to $70 billion per year. Why do we waste our money this way? “All you need is a dollar and a dream,” is how the old New York lotto ads put it — and of course that’s what we’re really buying when we play: a dream.

Investors as a group are supposed to be more rational than lottery players. (For one thing, there’s a lot more than a dollar at stake.) But now along comes some new evidence — in case you needed it — that that isn’t always the case. A new research paper by business professors Turan Bali, Stephen Brown, Scott Murray, and Yi Tang finds that “lottery-like” stocks tend to be overpriced, delivering lower future returns.

What are lottery stocks? Ones with unusually high average returns for their five best days in a given month — regardless of how they perform during the other 25 or so days. The idea seems to be that a handful of high return days have the same effect as news stories about big lottery winners. Investors see them and dare to dream.

This effect, the researchers say, explains one of the long-standing puzzles in finance. There’s some evidence that stocks with a high “beta” — a kind of volatility, that is — do worse than you’d expect given their level of risk. And low volatility stocks do better than you’d expect.

As I’ve written about recently, a group at the hedge-fund firm AQR argues that Warren Buffett’s tilt to lower-volatility stocks is one reason he’s done so extraordinarily well. The AQR group says low-volatility stocks have an edge because investors who want to take on more risk don’t have easy access to additional borrowed money. So when they want to goose their returns, they instead tend to crowd into riskier stocks. That drives up the valuations on shares of those high­fliers, giving cheaper, low-beta stocks an edge.

Bali and company have a more behavioral explanation. Many high-volatility stocks are also lottery stocks. So perhaps what’s going on is that investors simply see hot returns — never mind they’re short-term gains — and then chase after them. Because, hey, you never know.

MONEY Warren Buffett

One Weird Trick That Will Help You Beat the Market Like Warren

140530_HOME_Buffett_1
Warren Buffett Ben Baker—Redux

Here's a no-brainer way to win with "Warren" stocks. It won't do you any good now, but it would have been brilliant in 1993.

My story, Inside Buffett’s Brain, is about the search by financial economists and money managers for persistent patterns in stock returns. Some of these patterns might help to explain why a handful of money managers, including Buffett, have done so well. The story is about more than Buffett, though. The hunt through past market data for potentially winning strategies is a big business, and has fueled the growth of exchange-traded funds (ETFs). So a word of warning is in order.

Here’s the result of astoundingly simple Buffett-cloning strategy I put together, inspired by a “modest proposal” from Vanguard’s Joel Dickson. All you have to do buy stocks with tickers beginning with the letters in “Warren.” (You have double up on the “r” stocks, natch.)

Winning with Warren NEW

This likely “works” in part because it’s an equal-weight index—meaning each stock in the W.A.R.R.E.N. portfolio is held in the same proportion. Traditional indexes like the S&P 500 are “capitalization weighted,” meaning they give more weight to the biggest companies in the market. Because smaller stocks have outperformed in recent years, equally weighted indexes have done pretty well compared to traditional indexes in the period in question.

So you might find out that you can also beat the market with an equally weighted basket of stocks whose tickers begin with the letters in your name too. Just cross your fingers and hope the trend doesn’t reverse in favor of blue chips.

Another reason why this trick worked is that it picks from among current S&P 500 names, which means the stocks on the list are already in a sense known winners. Companies that used to be small and then graduated to the S&P 500 are on list, and companies that used to be big and then got small or disappeared aren’t on the list. But you couldn’t know which companies those were in 1993.

This is obviously dopey, and no way to run your money. (And the ideas I wrote about are much, much more sophisticated than this.) But there’s a serious point here. ETFs are a great way to buy cheap, reliable exposure to the stock market. But these days most ETFs track not a simple well-known benchmark, but a custom index built upon rules which, if followed, are thought to give investors an edge. For example there are indexes which tilt toward companies with better-than-average sales, or which specialize in certain sectors or investment themes.

These indexes often have really impressive past performance. In theory. Based on “back tests” of market data, from before the index was actually in operation.

And of course they do. Today indexes are often created with an ETF launch in mind. So there’s not much point in building an index and marketing it if you don’t know that the strategy has already won. Unfortunately, knowing what’s already worked in the past doesn’t mean you know what will work in the future.

In fact, investors in new indexes are likely to be disappointed. Samuel Lee, an ETF strategist at Morningstar, explains that in any group of past winning strategies, a high number will have won just through sheer luck. The future average performance of those strategies is almost certain to decay. Because luck runs out.

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