Buffett's Letter to Shareholders 1963-1964

1963 Summary

At this time, Buffett was 33 years old and managed over $10 million in funds.

Part 1: Overview of the Stock Market in 1963

I do not attempt to predict whether the market will rise or fall in the future. We believe that measuring market fluctuations and trying to predict their future trends is a foolish practice in the long run.

In the first half of 1963, the Dow Jones Index rose from 652.10 points to 706.88 points, with a total return of over 10% including dividends. For the full year, the Dow rose by 20.7%. Buffett reiterated his investment principles: not predicting market trends, not pursuing short-term performance, and noting that his investments typically perform better in bear markets but may underperform in bull markets. He emphasized that performance evaluation should be based on whether it beats the market, not on the absolute positive or negative returns.

Part 2: Operating Results in 1963

In 1963, the overall return of the partnership was 38.7%, and the return for limited partners was 30.5%, significantly outperforming the Dow Jones Index's 20.7%. From 1957 to 1963, the Dow rose by 95.1% cumulatively, while the partnership's cumulative return reached 454.5%, and the cumulative return for limited partners was 311.2%, with annual compound growth rates of 27.7% and 22.3%, far exceeding the Dow's 10.0%. Buffett emphasized the importance of long-term compounding and reiterated his goal of consistently outperforming the market.

Part 3: Current Portfolio and Case Studies

The portfolio was divided into three categories: General Common Stocks (the largest proportion), Arbitrage Investments, and Control Investments. Buffett pointed out that, in the long run, the returns of these three should be similar, with the goal of achieving an annual compound return that exceeds the Dow by about 10% over 10–15 years.

Texas National Petroleum (Arbitrage Case): After the acquisition announcement in 1962, Buffett gradually bought its bonds, stocks, and warrants. The transaction was delayed due to tax rulings and was finally completed in 1963, with the actual recovery amount slightly higher than expected. The bond portion achieved an annualized return of about 20%, reflecting the characteristic of "time for excess returns" in arbitrage investments.

Dempster Mill Mfg. (Control Case): Buffett began buying shares gradually in 1956 when the stock price was far below net asset value. After gaining control in 1961, he replaced management, leading to significant operational improvements. In 1963, the company was sold for about $80 per share, realizing substantial appreciation. This case illustrates that control investments require patience and active management, relying on "sufficient margin of safety."

1964 Summary

At this time, Buffett was 34 years old.

Part 1: Overview of the Stock Market in 1964

When the Dow Jones Index rises sharply, we often struggle to keep up with the market's upward momentum.

In the first half of 1964, the Dow Jones Industrial Average rose from 762.95 points to 831.50 points, with dividends of about 14.40 points, resulting in an overall market increase of 10.9%. For the full year, the Dow rose by 18.7%. Buffett again emphasized the relative disadvantage of his portfolio in bull markets and reiterated his stance of not predicting market trends. He believed that in strongly rising markets, it is normal for portfolio performance to lag behind the index, and the key is whether it can consistently outperform the market in the long run.

Part 2: Operating Results in 1964

In 1964, the overall return of the partnership was 27.8%, and the return for limited partners was 22.3%, outperforming the Dow Jones Index's 18.7% increase by about 9.1% and 3.6%, respectively. This was the smallest relative advantage over the Dow since 1959.

From 1957 to 1964, the Dow rose by 131.3% cumulatively, while the partnership's cumulative return reached 608.7%, and the cumulative return for limited partners was 402.9%, with annual compound growth rates of 27.7% and 22.3%, consistently and significantly outperforming the Dow's 11.1%.

Part 3: Current Portfolio and Strategy

Buffett continued to buy shares in three companies where he had become the largest single shareholder. These companies' stock prices were significantly below their intrinsic value to private owners. He indicated that he might continue to increase his holdings until achieving control or the market re-recognized their value. This "buy and wait" strategy, while affecting short-term performance, offers a margin of safety and profit potential in the long run.

The letter highlighted the importance of long-term compounding through a compound interest table and noted that the Dow's recent high compound return of over 11% would be difficult to sustain in the future, and the partnership's high returns might gradually normalize.

Core Strategy Review:

• Common Stock Investments (Generals): Buy when prices are significantly below value, potentially transitioning to control investments.
• Arbitrage Investments (Workouts): Provide certain returns during market declines, enhancing portfolio defensiveness.
• Control Investments (Controls): Release value through operational improvements, remaining independent of market fluctuations in the long term.

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