Munger: How To Outperform During A Bull Market

It shows how hard it is to be 
rational on something very simple. Now at a place like Berkshire Hathaway or even 
the Daily Journal, we’ve done better than average. And now there’s a question, why has 
that happened? Why has that happened? And the answer is pretty simple. We tried 
to do less. We never had the illusion we   could just hire a bunch of bright young 
people and they would know more than   anybody about canned soup and aerospace and 
utilities and so on and so on and so on. We never had that dream. We never thought 
we could get really useful information on   all subjects like Jim Cramer pretends to have. (laughter) We always realized that if we worked very hard 
we can find a few things where we were right. And that a few things were enough. And 
that that was a reasonable expectation.   That is a very different 
way to approach the process. And if you had asked Warren Buffett the same 
thing that this investment counseling did,   “Give me your best idea this year.”,   and you had just followed Warren’s best 
idea, you would find it worked beautifully.

But he wasn’t trying to know the whole…he 
would give you one or two stocks.   He had more limited ambitions. I had a grandfather who was very useful to me, 
my mother’s grandfather, and he was a pioneer.   He came out to Iowa with no money but youth 
and health and took it away from the Indians.  He fought in the Black Hawk…he was a 
Captain in the Black Hawk Wars, and   he stayed there and he bought cheap land and he 
was aggressive and intelligent and so forth and   eventually he was the richest man 
in the town and owned the bank,   and highly regarded, and a huge 
family, and a very happy life. He had the attitude…having come out 
to Iowa when the land was not much   more than a dollar an acre, and having 
stayed there until that black topsoil   created a modern rich civilization, 
and some of the best land in the world.

His attitude was that in a favored life like 
his, when you were located in the right place,   you just got a few opportunities 
if you lived to be about 90. And that the trick in coming out 
well was seizing a few opportunities   that were your fair share 
that came along when they did. And he told that story over and over again to the grandchildren that hung around him all summer, and   my mother who had no interest in money remembered the story and told it to me.
But I’m not my   mother’s natural imitator and I knew Grandpa 
Ingham was right. And so I always knew from…
when I was a little boy that the opportunities that were important…that were gonna come to me…were few   and the trick was to prepare myself 
for seizing the few that came.

This is not the attitude that they have at a 
big investment counseling thing. They think if they study a million things 
they can know a million things. And of course the result is that almost 
nobody can outperform an index. Whereas   I sit here with my Daily Journal stock, my 
Berkshire Hathaway stock, my holdings in Li Lu’s   Asian fund, my Costco stock, and of course, I’m outperforming everybody. (laughter) And I’m ninety-five years old. And I 
practically never have a transaction.   And the answer is that I’m right and they’re 

And that’s why it’s worked for me and   not for them. And now the question is do you 
want to be more like me or more like them? The idea of diversification makes sense to a point if you don’t know what 
you’re doing and you want the standard result   and not be embarrassed, why course you can widely diverse. Nobody’s entitled to a lot of money for  recognizing that because it’s a truism it’s 
like knowing that two and two equals four. But the investment professionals 
think they’re helping you by arranging   diversification. An idiot could diversify 
a portfolio! Or a computer for that matter. But the whole trick of the game is to 
have a few times when you know that   something is better than average 
and to invest only where you have   that extra knowledge.

And then if you get 
just a few opportunities that’s enough. What the hell do you care if you own three 
securities and J.P. Morgan Chase owns a hundred?   What’s wrong with owning a few securities?   Warren always says that if you 
lived in a growing town and   you owned stock in three of the best enterprises 
in the town, isn’t that diversified enough? The answer is of course it is… if they’re all wonderful places. And that 
Fortune’s formula which got so famous   which was a formula to tell people how much 
to bet on each transaction if you had an edge. And of course the bigger your edge, the more 
close the transaction was to a certain winner,   the more you should bet…
And of course there’s mathematics behind it… But of course it’s true.

It’s perfectly 
possible to buy only one thing because the opportunity is so   great and it’s such a cinch.
There are only two or three. So the whole idea of diversification when you’re 
looking for excellence, is totally ridiculous. It doesn’t work. It gives you an impossible task. What fun is it to do an impossible 
task over and over again? I find it agony. Who would want 
to do it? And I don’t see a way. My father had a client, he was a lawyer in Omaha,   he had a client whose husband 
had a little soap company. The guy died and my father’s 
sold the soap company. This woman was one of the richest people 
in town in the middle of the depression,   and what she had was a little soap company and 
the biggest mansion in Omaha’s best neighborhood. When they sold the soap company she 
had a mansion in the best neighborhood and three hundred thousand dollars. 
But three hundred thousand dollars   in 1930s something was 
an incredible amount of money. A little hamburger it was a nickel a big hamburger 
was a dime, and the all you can eat cafe in Omaha   would feed you all needed to 
stay alive for two bits a day.

I mean 300,000. Well she didn’t hire an investment counselor, she 
didn’t do anything, she’s a wonderful old woman. She just took that, she divided it into 
five chunks, and she bought five stocks. I remember three of them 
because I probated her estate. One of them was General Electric, one was Dow, 
one was Dupont, and I forget the other two. Then she never changed those stocks. She never 
paid any adviser. She never did anything, and she bought some municipal 
bonds, she never spent her income, and she bought some municipal bonds 
from time to time with the (inaudible). By the time she died in the 50s she 
had a million and a half dollars. No cost. No expenses. I said, 
“How did you decide to do that?”  And “Well…” she said, “I thought electricity 
and chemistry were the coming things.” She just chucked it all in and sat on her 

I always liked that little old woman. My kind of a girl. But it’s rare! But if you stop to think about it, 
think of all the expense and palaver that she didn’t have to listen to and all the trouble she avoided, 
and zero costs. And of course  what people don’t realize, because 
they’re so mathematically illiterate, is if you make 5 percent and 
pay 2 of it to your advisors,   you’re not losing 40 percent of your future you’re losing 90 percent.

Because over a 
long period of time that little difference causes a 90 percent disadvantage 
to you. So it’s hugely important for somebody who’s a long term holder 
not to be paying a big annual toll out of the performance. And of course there are a few big time advisors 
now who are using indexation very heavily. And of course they’re prospering 
mightily. And of course every time   they get somebody it’s just agony for the 
rest of the investment counseling business. This is a very serious problem. And I think these people who were used 
to winning as old-time value investors   who are now just quitting the profession.
That’s a very understandable thing to do.   I regarded it as more noble than staying 
in…you know…playing along with the denial.  It’s an interesting problem. You can see I’m not trying to make your morning. I’m just trying to describe 
things the way they are. But this business… Why does Li Lu succeed so mightily? Well partly he’s sort of a Chinese Warren Buffet.

That really helps. And partly 
he’s fishing in China! Not in this   over-searched, over-populated, highly 
competitive American market, and there’s   still pockets of ignorance and lassitude in 
China that gave him so unusual opportunities. The first rule in fishing has 
always been fish where the fish are. And the second rule of fishing has always 
been ‘Don’t forget rule number one’. And Li Lu just went where the fishing 
was good and the rest of us are like   cod fishermen who are trying to catch 
cod where the fish have been fished out. It doesn’t matter how much you work, 
when there’s that much competition. Every little idea I see in the world some are 
going after. I sat once on an investment committee   at the University of Michigan and in came one 
of their successful investors located in London. And what had this investor done in London? He decided to invest in sub-Saharan Africa. And the only marginal securities were a 
few banks that traded in the Pink Sheets, so he would buy very tiny 
quantities of these banks.

And every time some poor person got tired 
of having their money in the mattress and   put it in a bank he did a little better.
And of course he made a lot of money. Nobody else was investing in 
little tiny banks in Africa. But the niche was soon filled. What the 
hell do you do for an encore after you   put your client’s money in a bunch of 
little tiny banks in sub-Saharan Africa? The niche gets filled quickly. How many 
wonderful niches are there going to be   when some guy in London is buying all these 
tiny little bank stocks in Africa? It’s hard..

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