MONEY Warren Buffett

Inside Buffett’s Brain

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Warren Buffett Ben Baker—Redux

Math-minded researchers are attempting to distill the mind of the world's greatest investor. Even if they fall short of replicating Warren Buffett's craft—and they will—there are good lessons here about what it takes to beat the market.

Warren Buffett isn’t merely a great investor. He’s also the great investor you think you can learn from, and maybe even copy (at least a little).

Buffett explains his approach in a way that makes it sound so head-smackingly simple. The smart investor, he wrote back in 1984, says, “If a business is worth a dollar and I can buy it for 40¢, something good may happen to me.” This is particularly true if you add an eye for quality.

Buying good businesses at bargain prices — that sounds like something you could do. Or hire a fund manager to do for you, if you could find one with a fraction of Buffett’s ability to spot a great deal. Of course, the numbers say otherwise. The vast majority of U.S. stock funds fail to beat their benchmarks over a 15-year period.

Buffett’s long-run record makes him a wild outlier. Since 1965 the underlying value of his holding company, Berkshire Hathaway, which owns publicly traded stocks such as Coca-Cola THE COCA COLA CO. KO 0.8727% and American Express AMERICAN EXPRESS CO. AXP 0.7063% , as well as private subsidiaries like insurance giant Geico, has grown at an annualized 19.7%. During the same period the S&P 500 grew at a 9.8% rate.

Buffett is “a very unexplained guy,” says Lasse Heje Pedersen of Copenhagen Business School in Denmark. But instead of chalking up Buffett’s success to what Pedersen calls Fingerspitzengefühl—German for an intuitive touch—the professor is out to explain the man through math. His research is part of a push among both academics and money managers to quantify the ingredients of investment success. The not-so-subtle hint: It may be possible to build, in essence, a Buffett-bot portfolio. No Oracle required.

In an attention-getting paper, Pedersen and two co-­authors from the Greenwich, Conn., hedge fund manager AQR claim to have constructed a systematic method that doesn’t just match Buffett, but beats him (Pedersen also works for AQR). This is no knock on the man or his talents, they say. Just the opposite: It proves he’s not winging it. Meanwhile, other economists say they have pinned down a simpler quantitative way to at least get at the “good business” part of Buffett’s edge.

A dive into this quest to decode Buffett, 83, certainly can teach you a lot—about Buffett’s investing and your own. Yet this story isn’t just about what makes one genius tick. It’s also about how Wall Street is using modern financial research, especially the hunt for characteristics that predict higher returns, to sell you mutual and ­exchange-traded funds. If you wonder how the world’s greatest investing mind can be distilled to a simple formula, you’re right to be skeptical. That’s one message even Buffett himself (who declined to comment for this story) would most likely endorse.

The Buffett equation starts with value, but not “bargains”

The AQR authors say a big part of “the secret behind Buffett’s success is the fact that he buys safe, high-quality, value stocks.” Hardly a surprise, since Buffett has been called the “ultimate value investor.” But the truth is that Buffett is no classic bargain hunter. Can an equation replicate this fact?

In his Berkshire shareholder letters, Buffett often writes about the influence of Ben Graham, his professor at Columbia. Graham is considered the father of value investing, a discipline that focuses on buying a stock when it is cheap relative to some measure of the company’s worth. Graham especially liked to look at book value, or assets minus debt. It’s what an owner would theoretically get to keep after selling all of a company’s property.

Economists have come to back this idea up. In the 1990s, Eugene Fama and Kenneth French showed that stocks that were cheap vs. book provided higher returns than old economic models predicted. (Fama shared the Nobel Prize for economics in 2013.)

Buffett certainly buys his share of textbook value plays: Last year Berkshire snapped up the beaten-down stock of Canadian energy producer Suncor SUNCOR ENERGY SU 0.5783% at a price that was just a little above its book value per share. (The typical S&P 500 stock trades at 2.6 times book.) But since 1928, a value tilt would have brought investors only an extra percentage point or so per year. There’s more to Buffett than the bargain bin.

Buffett says so himself. He likes to cite the maxim of his longtime business partner, Charlie Munger: “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.” In his 2000 shareholder letter, Buffett wrote that measures including price/book ratios “have nothing to do with valuation except to the extent they provide clues to the amount and timing of cash flows into and from the business.” A stock being cheap relative to assets helps give you what Graham called “a margin of safety,” but what you really want a piece of isn’t a company’s property but the profits it is expected to produce over time.

Those anticipated earnings are part of what Buffett calls a company’s “intrinsic value.” Estimating that requires making a smart guess about the future of profits, which Buffett does by trying to understand what drives a company’s business. His arguments (at least his public ones) for why he likes a stock usually involve a straightforward story and are arguably a bit squishy on the numbers. Coca-Cola has a great brand, he says, and has customers who are happy to drink five cans a day.

“The best buys have been when the numbers almost tell you not to,” he said to a business school class in 1998. “Then you feel strongly about the product and not just the fact that you are getting a used cigar butt cheap.” Some economists, though, think there may be a way to get the numbers themselves to tell the story.

Predicting wonderfulness

Since the discovery of the value effect, as well as a similar edge for small companies, academics have looked for other market “anomalies” that might explain why some stocks outperform. The AQR team thinks that a trait it calls “quality” might explain another part of Buffett’s success. Their gauge of quality is a complex one that combines 21 measures, including profits, dividend payouts, and growth, but a lot of it certainly rhymes with what Buffett has said about the importance of future cash flows.

A better Buffett

There may be a far simpler way to get at this. Last year the University of Rochester’s Robert Novy-Marx published an article in the influential Journal of Financial Economics arguing that something called a company’s “gross profitability” can help explain long-run returns. He says a theoretical portfolio of big companies with a high combined score on value and profits would have beaten the market by an annualized 3.1 percentage points from 1963 through 2012.

Novy-Marx’s gross-profit measure is sales minus the cost of goods sold, divided by assets. That is different from the earnings figures most investors watch. It doesn’t count things like a company’s spending on advertising or a host of accounting adjustments, which might be important to Wall Street analysts trying to grasp the inner workings of a single company. “I view gross profits as a measure that is hard to manipulate and a better measure of the true economic profitability of a firm,” Novy-Marx says.

In a recent working paper he also suggests that gross profits may be an indicator a company has a quality prized by Buffett: a wide economic “moat.” Businesses with this trait (say, Coke’s brand) enjoy a competitive advantage that helps them defend their high profits against the competition.

Recently Fama and French confirmed that a profit measure similar to Novy-Marx’s also seemed to work. All of which adds to the case that Buffett’s value-plus-quality formula makes sense. But it doesn’t exactly describe what’s in the Berkshire portfolio.

A risky take on safety

AQR believes that there’s one more anomaly that Buffett exploits: safety. Here again, though, Buffett relies on a very particular kind of safety. Stocks that fall less in downturns—“low beta” is the ­jargon—are likely to be underpriced, says AQR. It has to do with investors’ reluctance to use borrowed money, or leverage in Wall Street parlance. When they want to increase potential returns, most investors don’t turn to leverage to amp up their market exposure. Instead, they buy riskier, “high beta” equities. That drives up the valuations on shares of high­fliers, giving cheaper, low-beta stocks an edge.

It’s unlikely Buffett ever asks what a stock’s beta is. (He often pokes fun at beta and other Greek-letter notions.) Still, he does tend to shy away from many of the glamour stocks bulls love. He famously avoided, for example, the Internet bubble of the late 1990s. “A fermenting industry is much like our attitude toward space exploration: We applaud the endeavor but prefer to skip the ride,” he wrote in 1996.

Don’t mistake Berkshire Hathaway for a safe stock, though. From the summer of 1998 through early 2000, Pedersen and company note, Berkshire shares fell 44% while the market rose 32%. What explains that? First, low beta doesn’t mean an investment won’t lose money—just that it won’t fall sharply in step with the market. (Gold, for example, is volatile but has a low beta to stocks.) Second, Berkshire concentrates on a fairly small group of stocks with big bets on certain industries, such as insurance. So if one sector stumbles, it has a large effect on the entire company.

Then there’s leverage, which Buffett isn’t afraid of. The AQR team says Buffett is a smart user of other people’s money, which increases Berkshire’s gains but can also magnify losses. This part of Buffett’s advantage also happens to be the one that would be hardest to replicate.

A big chunk of the Berkshire portfolio is in insurers it wholly owns. As Buffett has explained, this is an excellent source of cheap leverage. Insurers enjoy a “float”—they take in premiums every month but pay out only when someone crashes a car, gets flooded, or dies. For Berkshire, says AQR, this historically turned out to be like getting a loan for 2.2%, vs. the more than 5% the U.S. government had to pay on Treasuries over the same period.

Buffett was able to combine this cheap debt with another unique advantage: Even in down periods no one ever forced him to sell stock at fire-sale prices. Fund managers, on the other hand, face that risk all the time, and the ones who use borrowed juice have to worry about being hit by a cash crunch in a bad market. To simulate Buffett’s strategy in a far more diversified portfolio, the AQR model levers up 3.7 to 1, vs. Berkshire’s 1.6 to 1. As it turns out, it’s easier to build a Buffett portfolio in theory than to run a company like Berkshire in real life.

And Pedersen admits that quants can only hope to say what it looks like Buffett did. They can’t describe how his neural wetware figured it all out. “People say, ‘That’s not how Buffett does it,’ ” says Pedersen. “We agree. We don’t think that’s how he looks at it.” When Buffett bought Burlington Northern Santa Fe outright a few years ago, he was making an entrepreneurial bet on rising oil prices, reasoning that trains use less fuel than trucks. Great story. Hard to stick into a quantitative model.

1 Exp Buffett

Here come the robofunds

Finding factors that beat the market isn’t just an academic exercise. There is a huge rush to create funds exploiting one or another stock market anomaly. AQR, for instance, has launched funds using both low-volatility and high-­quality screens. Dimen­sional Funds, which runs low-cost index-like portfol­ios, has added a profitability tilt to some funds. (Novy-Marx recently began consulting for Dimensional.)

A trio of researchers at Duke has counted up to 315 new factors that have supposedly been discovered by academics, with over 200 popping up just in the past decade. They can’t all work—and the Duke team says that it is statistically likely that most of them won’t. What those factors all have in common is that they were discovered by looking backward.

Winning with Warren

As Joel Dickson, an investment strategist for the index fund giant Vanguard, says, “Predicting the future is a lot harder than predicting the past.” A cynic can easily mine past data for patterns. To dramatize that effect, Dickson put together data showing you could double the market’s return just by picking S&P 500 stocks with tickers starting with the right letters of the alphabet. If you like Buffett, try the WARREN stock portfolio above—click the image above to enlarge. (It “works” largely because holding stocks in equal proportion means a bigger bet on smaller companies, which happen to have had a good run.)

“Data mining is hugely pernicious, and the incentives to do it are high,” acknowledges Novy-Marx. He says profitability is nonetheless an unusually strong effect and simple enough that it’s not easy to game. Pedersen, likewise, says the safety factor is grounded in theory going back to the 1960s. In the end, though, you can never know whether what worked in the past will keep working in the future.

So what do you do with all this? Samuel Lee, an ETF strategist at Morningstar, says some of these new factors look promising. He has even called this a “come-to-Buffett moment” for academic finance. But he says it’s important to go in with modest expectations. Strategies that have had success are likely to look more average over time, especially once they are publicized and people trade on them. “Your main protection is just to keep fees low,” he says. “You can’t pay up for these factor tilts.” He says a factor-based fund charging as little as 0.70% of assets per year could easily see most of its performance advantage consumed by fees.

The quest to replicate Buffett’s strategies may be an attempt to improve the chances of success for active management. In the end, though, it helps illustrate how hard it is for most professional managers to truly outperform. Put simply, “Should a value manager be getting credit for having a value tilt in a value market?” asks Dickson, rhetorically. Likewise, if a combo of value, profits, and safety can explain a lot of what even the most dazzling managers do, and if it gets easier to simply add more of those elements with low-cost index funds, the fees of 1% or more that many active funds charge are hard to justify.

In short, it may not be worth it for you to try to find the next great money manager. This is a point that Buffett himself has made time and again. In a 1975 letter to Washington Post CEO Katharine Graham, he wrote, “If above-average performance is to be their yardstick, the vast majority of investment managers must fail. Will a few succeed—due to either chance or skill? Of course. For some intermediate period of years a few are bound to look better than average due to chance—just as would be the case if 1,000 ‘coin managers’ engaged in a coin-flipping contest.”

Of all the investment insights that Buffett has laid out over the years, perhaps the most widely useful one is found in his latest Berkshire shareholder letter. There, he says, his will leaves instructions for his trustees to invest in an S&P 500 index fund.

TIME

This Is Warren Buffett’s Biggest Weakness According to Warren Buffett

Berkshire Hathaway Inc. CEO Warren Buffett Interview
Warren Buffet Chris Goodney—Bloomberg/Getty Images

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This post is in partnership with Fortune, which offers the latest business and finance news. Read the article below originally published at Fortune.com.

Can you build one of the world’s most successful companies and also be a great boss? Warren Buffett may be one of the few executives to accomplish this feat.

In acquiring the dozens of companies that today make up his $315 billion Berkshire Hathaway, Buffett has never dirtied his hands much with the sort of cost-cutting, layoffs, and management shakeups that often follow acquisitions at other firms. While Buffett’s style of allowing even underperforming businesses to languish is part of what makes him so unique, it is also his greatest shortcoming, the Berkshire CEO and chairman admitted during the company’s annual shareholder meeting this past weekend in Omaha.

MORE: 6 things I learned at Buffett’s annual meeting

Asked by a shareholder to highlight his weaknesses, Buffett said that as a manager, he can be “sloppy.” “A pure weak point is, I’m slow to make personnel changes,” he said on Saturday. “There will be times when what you might call our lack of supervision of our subsidiaries means we’ll miss something.”

Without getting into specifics, he recalled one example. “We had a guy, we loved the guy, and it wasn’t killing us in our business, and how long before we went to somebody else?” (Neither he nor Berkshire’s vice chairman Charlie Munger, who sat beside Buffett on stage, could remember.) “We’ve waited too long on one manager sometimes,” Buffett said.

Buffett’s comments came amid grumbling from some investors gathered in Omaha that the Oracle is too hands-off and perhaps should take a page from activist shareholders like Pershing Square Capital’s Bill Ackman or turnaround specialists like private equity firm 3G Capital. Indeed, several questions from shareholders and analysts at Saturday’s meeting focused on whether Berkshire, which teamed up with 3G in 2013 to purchase ketchup maker Heinz (where management was then swiftly replaced), would adopt 3G’s “hands-on” approach for future acquisitions.

MORE: Buffett: We’d like to own more of Heinz

While Buffett praised 3G as a partner (“They’re smart, they’re focused; they’re very hard-working and determined.”) he also noted that “they’re never satisfied,” and defended Berkshire’s gentler way of doing things. For one, Buffett doesn’t like telling his subsidiaries that they need to get rid of employees or restrict their actions in other ways. “We’re not big disciplinarians,” Buffett said. As Munger put it, “By the standards of the rest of the world, we over-trust.”

So much does Buffett trust the CEOs of Berkshire companies that he doesn’t keep close track of how much money they send him and when, or bother to double-check that a company even exists. He’s never visited Forest River, the Indiana-based recreational vehicle manufacturer that Berkshire owns, for example. “I hope it’s there,” Buffett joked. “I could see them saying, ‘What figure should we send Warren this month?'” he said, laughing. (“I don’t want to encourage managers of subsidiaries to do a different way of behaving, if they’re listening,” he added.)

When you leave companies alone to run themselves, sometimes things go wrong, Buffett acknowledged. But he took issue with critics who complain that Berkshire’s returns would be higher if Buffett ran a tighter ship. “What they won’t be able to measure is how much on the positive side we have achieved with so many other people because we gave them that leeway,” he said, noting that Berkshire doesn’t have in-house general counsel or human resources.

As for Ackman’s brand of activism, Buffett seemed almost offended by any likeness between Berkshire and the hedge fund manager. First, unlike Ackman, who has lately made headlines for his short position in Herbalife and hostile bid for Botox manufacturer Allergan, Buffett doesn’t short stocks or trade in derivatives. He’s also skeptical that activists’ recent success is sustainable, saying they’re usually looking to cause a short-term swing in a stock price, not permanent changes to improve a business. Munger, for his part, swore off investor activism in general, saying, “I don’t think it’s good for America.”

MORE: Warren Buffett, activist investor?

Will Buffett’s successor be the hard-line boss that Buffett isn’t? Don’t count on it.

One of Berkshire’s most valuable assets, Buffett and other investors reiterated over the weekend, is other businesses’ willingness to sell to Berkshire — often at lower prices than what private equity firms would pay — because they trust Buffett to mind the store. As hedge fund manager Whitney Tilson of Kase Capital Management put it on Friday, “Berkshire is like a museum, like the Met, where people will sell their most valuable art just because they know it’s going to be safe there.”

Added Buffett, “We keep promises, and that means we sometimes end up holding on to some businesses that haven’t lived up to expectations.”

TIME College Basketball

This is Who A Math Professor Thinks Will Win the NCAA Tournament

Stephen F. Austin v UCLA
From left: Nick Kazemi, Aubrey Williams and Noah Allen of the UCLA Bruins celebrate their 77 to 60 win over the Stephen F. Austin Lumberjacks during the third round of the 2014 NCAA Tournament on March 23, 2014. Donald Miralle—Getty Images

We asked a mathematician to run the numbers one more time, and everything came up blue and gold

In case it weren’t already clear from the astronomical odds (9.2. quintillion-to-1 if you were to pick entirely randomly), filling out the perfect March Madness bracket is an exercise in futility. And once that first game begins, everyone’s brackets are locked and all anyone with skin in the game can do is cross their fingers and hope their pick pays off.

With the money already on the table, it’s rare that prognosticators crunch the numbers again after the tournament’s opening weekend. But there’s no reason you can’t. So as the games resume, we put the question to Tim Chartier, a mathematics professor at Davidson College. Since 2009, Chartier has taught a course that instructs students in the art and science of bracketology. Last year, one of his students, Jane Gribble, a math major and member of Davidson’s cheerleading squad, used what’s known as the Massey method, which incorporates point differential as well as wins and losses into the algorithm, to finish in the 96th percentile of ESPN’s bracket challenge. The formula also correctly predicted that Louisville would win it all.

Not bad. So we asked Chartier to run the numbers again — this time incorporating the results of the tournament’s early rounds — to try and gauge who will emerge from the Sweet 16 to win it all. His verdict: The UCLA Bruins are most likely to win the April 7 National Championship game.

Turns out incorporating the tournament games was crucial. “You massively down-weight home wins,” Chartier says, explaining why UCLA emerged ahead of higher-seeded teams with better regular season records. “At this point, your ability to win at home isn’t as important.” Though the statistical methods for picking winners is virtually limitless (and you can even explore some of your own), UCLA came up as the eventual winner for several of Chartier’s models.

If UCLA’s title hopes still seem like a long-shot, it’s understandable. The Bruins will need to claw their way through top-seeded Florida (currently on a 28-game winning streak) and either Virginia or Michigan St. (Chartier’s data says Virginia) before reaching Arizona or Louisville (the professor’s numbers have the Wildcats by a hair) in the final. But the Bruins have been on a tear lately, edging out Arizona in the Pac-12 championship game and handily winning their first two tournament games thanks to stifling defense and the strong play of sophomores Jordan Adams and Kyle Anderson, who have averaged a combined 32 ppg this season.

And even the best algorithms, as Chartier is the first to note, are no substitute for a crystal ball. Very slim margins separate the tournament’s top teams and crazy things are known to happen. But sports fans are naturally inclined to hope. And the data offers plenty of reasons for UCLA to feel good about their chances.

MONEY Markets

Heed These Market Signs

Three key market indicators are flashing caution. photo: JUSTIN FANTL

As January goes, so goes the year, holds a Wall Street saw. And if the January indicator proves right again this time, investors have a lot to worry about: Stocks opened 2014 with a thud, dropping 3.6% in the first month.

Not that a decline is totally unexpected: Total returns for the Standard & Poor’s 500 have tripled in the past five years — that’s a year longer than the average bull run — and stocks have seemed due for a fall. Indeed, in our annual Investor’s Guide, MONEY warned of tough sledding ahead.

Still, bull markets have been known to defy the odds and linger long past their expected expiration date. Even the January indicator has been wrong four times out of 10 when it comes to predicting market drops — witness this year’s market bounce-back in February.

How, then, can you tell whether stocks’ earlier setback signals the end of the bull market or is merely a pothole on the road to higher prices? The following indicators have proved to be among the most accurate over time.

Related: How to take a stock loss on your taxes

Revenues are key

Stock valuations shot up last year in anticipation of a strengthening economy and growing corporate profits. And earnings did improve, rising just shy of 15% in 2013 for S&P 500 companies.

That stellar outcome, however, didn’t reflect true strength in the underlying businesses — revenues last year inched up 2.6%. Instead, earnings per share were partly inflated by cost-cutting initiatives and stock buybacks that reduced the number of shares outstanding, as companies took advantage of Fed-engineered low-rate financing.

For the market to keep advancing, says BMO Private Bank chief investment officer Jack Ablin, profits going forward need to be driven mostly by rising revenues.

Indicator to watch. Track S&P 500 revenues using the price-to-sales ratio (go to multpl.com). At 1.6, the P/S is now 15% above its historical average. Traditionally that’s been more likely to signal subpar returns ahead than a market drop: Since 1993, in the three years following a reading of 1.6, stocks have eked out average annual gains of 1%, says Ablin.

When to really worry. A P/S of 2 would be “a huge red flag” says Ablin. When the P/S peaked at 2.3 in early 2000, he notes, stocks lost 44% over the next three years.

See who’s at the party

When a bull has nearly run its course, fewer and fewer stocks participate in the rally, and new market highs are powered by a small number of companies. That was another warning in the year leading up to the dotcom bust of 2000: Only about 50 holdings drove the S&P 500’s record returns.

Indicator to watch. The advance-decline line tracks the number of stocks rising and falling, moving up when more stocks gain than lose. It typically peaks three to six months before a downturn, says James Stack, president of the InvesTech newsletter. For most of last year advances far outnumbered declines, but lately the reverse has been happening.

When to really worry. Sound the alarm bells if the advance-decline line moves in a different direction from market indexes — a phenomenon, known as divergence, that has proved even more telling than movements in the AD line alone, says wealth manager Barry Ritholtz.

In both 1973 and 1980, for example, the markets saw major divergences before crashes. Ritholtz points out, though, that so far this year the AD line has moved largely in line with the indexes.

Beware of overconfidence

“Be fearful when others are greedy,” Warren Buffett has famously said. It’s a reference to investors’ rotten record of market timing, with many historical examples (1990, 1999, and 2007, just to name three) of them piling into stocks just before a precipitous price drop. That’s why analysts often view investor sentiment as a contrary indicator.

Indicator to watch. The American Association of Individual Investors tracks bearishness among its members on a weekly basis (aaii.com/sentimentsurvey). At the end of last year AAII found that only 18.5% of investors were bearish, vs. a long-term average of 30.5%. Typically the market has delivered underwhelming returns the year after such a reading, but not losses.

When to really worry. Six of the nine times since 1987 that bearishness fell below 10.5%, stocks slumped within six months, says AAII’s Charles Rotblut, losing 15% over the next year. If that happens, bearishness will no doubt spike, and you can follow the other half of Buffett’s advice: “Be greedy when others are fearful.”

TIME Investing

Warren Buffett Richer Than Ever

Exclusive Portraits Of Berkshire Hathaway Inc. Chief Executive Officer Warren Buffett
Warren Buffett, chairman and chief executive officer of Berkshire Hathaway Inc., speaks during an interview in New York, Oct. 22, 2013. Scott Eells/Bloomberg via Getty Images Scott Eells—Bloomberg/Getty Images

Berkshire Hathaway, the investing conglomerate helmed by Warren Buffett for more than 50 years, reaped a record $19.5 billion in profits in 2013 -- far exceeding analysts' expectations of $18 billion

Warren Buffett’s investing conglomerate saw record profits in 2013 of $19.5 billion, riding a wave of economic improvement in the United States, the company said in its annual report released Saturday.

Buffett’s holding company Berkshire Hathaway exceeded analysts’ expectations of $18 billion and saw significant gains over 2012, when it posted net profits of $14.8 billion.

The company’s stellar performance depends on well-known consumer goods and services that do well in economic boom times, as Buffett chiefly invests in established, large companies like Walmart, General Motors, American Express, and Coca-Cola.

Buffett’s annual shareholder letter, known for its rustic tone, emphasized his commitment to supporting American companies for the long term.

“Who has ever benefited during the past 237 years by betting against America? If you compare our country’s present condition to that existing in 1776, you have to rub your eyes in wonder. And the dynamism embedded in our market economy will continue to work its magic,” the so-called “Oracle of Omaha” said in the letter. “America’s best days lie ahead.”

Berkshire purchased major assets of NV Energy and H. J. Heinz Geico, which “will be prospering a century from now,” Buffett said. Berkshire’s insurance company reported a $394 million operating profit in the fourth quarter.

Buffet’s conglomerate didn’t edge out the S&P 500, which grew at a phenomenal rate of 32.4% last year, while Berkshire saw a gain in per-share book value of 18.2%. Since 1965, Berkshire has seen a compounded annual gain of 19.7%, while the S&P 500 has increased 9.8%.

Buffett, 83, has helmed Berkshire for more than half a century and overseen its growth into a $288 billion holding company.

MONEY

Tell the Billionaires Where to Give

As you’ve probably heard, billions of dollars will be flowing into charitable organizations worldwide in the coming years, thanks to the Giving Pledge, a project spearheaded by Warren Buffett and Bill and Melinda Gates.

Thus far, about 40 U.S. billionaires have agreed to give away at least 50% of their wealth, according to the Giving Pledge. And while the Giving Pledge hasn’t released a tally, Forbes.com estimates that America’s wealthiest will give away an additional $120 billion or more in the years to come.

Considering that the total charitable giving in the U.S. has been hovering at about $300 billion per year for the last few years, according to the Giving USA Foundation, the amount pledged represents an astounding increase. While many billionaires will continue to give to causes they hold dear, perhaps some will be open to suggestions.

Speak up!

MONEY

Need a Sitter? Malia Obama May Be Available.

Reducing unemployment and cleaning up the oil spill in the Gulf may top Barack Obama’s to-do list, but he hasn’t forgotten about the importance of teaching his daughters about money. In an interview last week with ABC News, the president said he and Michelle have started teaching first daughters Sasha and Malia about savings and interest. He also suggested that the girls may soon be old enough to earn their own money through babysitting gigs.

Obama’s intentions are certainly in the right place, and the girls would no doubt learn a lot from earning their own cash. But making that happen could be difficult.

Assuming that some D.C. family wanted to hire the girls to babysit, the logistics might be ridiculous. Would they take a motorcade to the job? Would the Secret Service have to clear the house first? Similar obstacles stand in the way of other traditional starter jobs in which the girls might be interested; imagine the chaos if Sasha opened a lemonade stand on the White House lawn, or if Malia tried stocking the shelves in a neighborhood mall.

Of course, Malia, 12, and Sasha, 9, don’t need to get jobs at all. Their parents are millionaires; like many super-wealthy, President & Mrs. Obama face a unique dilemma in teaching their children about money. How do you teach your kids to be fiscally responsible, while also providing a life replete with the luxuries you’re able to provide (or, in the Obamas’ case, can’t practically avoid providing)?

Comedian Adam Sandler, for example, has said he stays up nights worrying that his kids are going to end up spoiled brats. Billionaire Warren Buffett, who has famously said he’s not leaving a huge inheritance to his children, started the lessons early, providing son Peter with just a modest allowance to supplement his summer jobs. On the other end of the spectrum, music mogul Sean “Diddy” Combs apparently has fewer qualms about letting his kids enjoy his money. He gave son Justin a $360,000 Maybach for his 16th birthday!

Elisabeth Donati, who teaches financial education to children through her Camp Millionaire program, says the key to teaching kids to be responsible with money is to lead by example. “When you’re spending money, ask yourself if the behavior is something you want your children to parrot,” she says. “If so, explain what you’re doing. If not, stop doing it.” She also offers the following tips:

  • Set up an allowance for your children by around age six. Give them a set amount of cash for the month. If they run out before the month is over, use it as an opportunity to teach them about budgeting.
  • Don’t buy your children everything they ask for. Let them use their allowance or other earnings to save up for items they want.
  • Include your children in family money discussions, from setting a budget for the family vacation to conversations with financial advisers.

So what advice do you have for the Obamas? How can a wealthy family pass money lessons on to their kids in a household where money and luxury are as readily available as running water?

MONEY

More Money Monday Roundup: Warren Buffett & Defaulters Living Rent-Free

Personal finance from around the Web:

  • The Warren Buffett Channel: The Baron of Berkshire Hathaway was all over CNBC this morning talking about the economy, healthcare, Obama and earthquakes. Here’s your guide to the juicy bits. [The Big Picture]
  • Lenders are cutting back on forced evictions, thanks to an inventory glut and pressure to modify loans. “Lucky” defaulters are essentially living rent-free. [Lost Angeles Times]
  • This trick won’t tell you whether a given credit card number is attached to an actual account. But it can flag a number that’s definitely fake. [Five Cent Nickel]

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