The Berkshire Hathaway’s annual shareholder letter has always been a special event for this writer as I continue to be a devout follower of Warren Buffett (WB). What makes it particularly special is this year marks the 50th anniversary of Warren Buffett at the company’s helm. At the end of the letter, Buffett and his long-time partner Charlie Munger even share what they thought made Berkshire Hathaway so wildly successful. This offers some exceptional advice for anyone attempting to be a successful investor or owner of an investment franchise.

No summary can really do justice to their insights and witty writing, so I would urge you to take some time and read the original, if you have not done so already. The letter can be found here in its entirety: http://www.berkshirehathaway.com/letters/2014ltr.pdf

Below are some highlighted quotes that I found particularly entertaining with some of my own commentary.

1. “You can’t get rich trading a hundred-dollar bill for eight tens.”

WB is referring to how some companies use stock to make acquisitions even though the stock they issue is worth a lot more than the company being acquired. This is often done to inflate “accounting” earnings at the expense of shareholders. In William Thorndike’s book, The Outsiders, which profiles some of history’s greatest CEOs including Buffett, we find that the greats were very stingy with issuing their own shares and actually focused on reducing the total share count when it made investment sense to do so.

2. “If horses had controlled investment decisions, there would have been no auto industry.”

WB is referring to how difficult it is for many CEOs to admit that they are manning a sinking ship. He goes on to say that it becomes difficult to redeploy capital from a declining operation because such moves would result in “long-time associates being fired and mistakes be admitted”. Self-interest and vain hopes are huge obstacles to superior and rational movement of capital driven by markets. In 1985 when WB finally closed the textiles business he purchased he said: ”Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks.”

3. “Don’t ask the barber whether you need a haircut.”

Sometimes the very best thing to do is to do nothing. Sitting tight, however, is almost never recommended by Wall Street. To use the very prescient word of Thomas Phelps who wrote the book 1 to 100 on Wall Street:

“Just as a slight change in a golfer’s grip and stance may improve his game, so a little more emphasis on buying for keeps, a little more determination not to be tempted to sell… may fatten your portfolio. In Alice in Wonderland, one had to run fast in order to stand still. In the stock market, the evidence suggests, one who buys right must stand still in order to run fast.”

4. “Since I know of no way to reliably predict market movements, I recommend that you purchase Berkshire shares only if you expect to hold them for at least five years. Those who seek short-term profits should look elsewhere. “

Similar advice could be given to investing in stocks in general. Sometimes people will invest in the stock market only to see it immediately trade lower by say 5 per cent to 10 per cent. They immediately question why they did what they did and why anyone would invest in stocks ever. In truth, however, they should question whether they ever were personally ready to invest in the first place. If one cannot suffer any short-term fluctuation in value and cannot avail themselves to longer term mindset of a minimum of five years then they should have never invested in the equity market in the first place. The fault is not the markets; it’s the investor’s own mindset.

5. “In our view, it is madness to risk losing what you need in pursuing what you simply desire.” WB is referring to Berkshire’s ultra conservative strategy. The company is run this way because WB freely admits that “people will occasionally panic, but not at all predictable when this will happen.” Cash is a source of oxygen for Buffet to be deployed in when everyone else is suffocating. He does not view it as a drag on returns. He also suggests he will never operate in environments that require large sums suddenly. I’d also use the old air force saying: there are old pilots and there are bold pilots but no old bold pilots. Conservatism has always been a hallmark of Buffett’s tenor.

6. “It’s better to have a partial interest in the Hope Diamond than to own all of a rhinestone.”

It’s obviously better to own a non-controlling portion of a wonderful business than 100 per cent of a poor or mediocre business. I can’t tell you how many times I’ve heard people over generalise about investing in stocks by suggesting it is always better to buy 100 per cent owned real estate or companies. The premium for control can often be way overstated and emotional.

7. “You see a cockroach in your kitchen; as the days go by, you meet his relatives.”

WB is referring to his purchase of Tesco, a leading food retailer the UK, which turned into a horrible investment. Problems become evident and then became somewhat serial in nature. In investing it pays to acknowledge warning signs and bail early if they are serious.

8. “Volatility is far from synonymous with risk. Popular formulas that equate the two terms lead students, investors and CEOs astray.”

In business schools and many professional courses, volatility is thought to be a useful proxy for risk. WB stresses that stock decline is unimportant for those investors with multi-decade horizons and who invest in diversified portfolios. In fact he suggests the some of the least volatile securities such as bonds are actually the most risky investments for longer term investors. Or to further quote WB:

“Stock prices will always be far more volatile than cash-equivalent holdings. Over the long term, however, currency-denominated instruments are riskier investments — far riskier investments — than widely-diversified stock portfolios that are bought over time and that are owned in a manner invoking only token fees and commissions.”

These are only a few interesting quotes and comments from the letter. I suggest any serious investor give the letter a read.

Disclaimer: This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed may change as subsequent conditions vary. The information and opinions contained in this material are derived from proprietary and nonproprietary sources deemed by the author to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. Past performance is no guarantee of future results. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the reader. Investment involves risks. Readers should consult their financial advisors prior to any investment decision. Index performance is shown for illustrative purposes only. You cannot invest directly in an index.