1957 LetterWARREN E.BUFFETT5202 Underwood Ave.Omaha,NebraskaSECOND ANNUAL LETTER TO LIMITED PARTNERSThe General Stock Market Picture in 1957In last year's letter to partners,I said the followingMy view of the general market level is that it is priced above intrinsic value.This view relates to blue-chipsecurities.This view,if accurate,carries with it the possibility of a substantial decline in all stock prices,bothundervalued and otherwise.In any event I think the probability is very slight that current market levels will bethought of as cheap five years from now.Even a full-scale bear market,however,should not hurt the marketvalue of our work-outs substantially.If the general market were to return to an undervalued status our capital might be employed exclusively ingeneral issues and perhaps some borrowed money would be used in this operation at that time.Conversely,ifthe market should go considerably higher our policy will be to reduce our general issues as profits presentthemselves and increase the work-out portfolio.All of the above is not intended to imply that market analysis is foremost in my mind.Primary attention is givenat all times to the detection of substantially undervalued securities.The past year witnessed a moderate decline in stock prices.I stress the word "moderate"since casual reading ofthe press or conversing with those who have had only recent experience with stocks would tend to create animpression of a much greater decline.Actually,it appears to me that the decline in stock prices has beenconsiderably less than the decline in corporate earning power under present business conditions.This means thatthe public is still very bullish on blue chip stocks and the general economic picture.I make no attempt toforecast either business or the stock market;the above is simply intended to dispel any notions that stocks havesuffered any drastic decline or that the general market,is at a low level.I still consider the general market to bepriced on the high side based on long term investment value.Our Activities in 1957The market decline has created greater opportunity among undervalued situations so that,generally,ourportfolio is heavier in undervalued situations relative to work-outs than it was last year.Perhaps an explanationof the term "work-out"is in order.A work-out is an investment which is dependent on a specific corporateaction for its profit rather than a general advance in the price of the stock as in the case of undervaluedsituations.Work-outs come about through:sales,mergers,liquidations,tenders,etc.In each case,the risk is thatsomething will upset the applecart and cause the abandonment of the planned action,not that the economicpicture will deteriorate and stocks decline generally.At the end of 1956,we had a ratio of about 70-30 betweengeneral issues and work-outs.Now it is about 85-15.During the past year we have taken positions in two situations which have reached a size where we may expectto take some part in corporate decisions.One of these positions accounts for between 10%and 20%of theportfolio of the various partnerships and the other accounts for about 5%.Both of these will probably take in theneighborhood of three to five years of work but they presently appear to have potential for a high average annualrate of return with a minimum of risk.While not in the classification of work-outs,they have very littledependence on the general action of the stock market.Should the general market have a substantial rise,ofcourse,I would expect this section of our portfolio to lag behind the action of the market.Results for 1957In 1957 the three partnerships which we formed in 1956 did substantially better than the general market.At thebeginning of the year,the Dow-Jones Industrials stood at 499 and at the end of the year it was at 435 for a lossof 64 points.If one had owned the Averages,he would have received 22 points in dividends reducing the overallloss to 42 points or 8.470%for the year.This loss is roughly equivalent to what would have been achieved byinvesting in most investment funds and,to my knowledge,no investment fund invested in stocks showed a gainfor the year.All three of the 1956 partnerships showed a gain during the year amounting to about 6.2%,7.8%and 25%onyearend 1956 net worth.Naturally a question is created as to the vastly superior performance of the lastpartnership,particularly in the mind of the partners of the first two.This performance emphasizes theimportance of luck in the short run,particularly in regard to when funds are received.The third partnership wasstarted the latest in 1956 when the market was at a lower level and when several securities were particularlyattractive.Because of the availability of funds,large positions were taken in these issues.Whereas the twopartnerships formed earlier were already substantially invested so that they could only take relatively smallpositions in these issues.Basically,all partnerships are invested in the same securities and in approximately the same percentages.However,particularly during the initial stages,money becomes available at varying times and varying levels ofthe market so there is more variation in results than is likely to be the case in later years.Over the years,I willbe quite satisfied with a performance that is 10%per year better than the Averages,so in respect to these threepartnerships,1957 was a successful and probably better than average,year.Two partnerships were started during the middle of 1957 and their results for the balance of the year wereroughly the same as the performance of the Averages which were down about 12%for the period sinceinception of the 1957 partnerships.Their portfolios are now starting to approximate those of the 1956partnerships and performance of the entire group should be much more comparable in the future.Interpretation of resultsTo some extent our better than average performance in 1957 was due to the fact that it was a generally poor yearfor most stocks.Our performance,relatively,is likely to be better in a bear market than in a bull market so thatdeductions made from the above results should be tempered by the fact that it was the type of year when weshould have done relatively well.In a year when the general market had a substantial advance I would be wellsatisfied to match the advance of the Averages.I can definitely say that our portfolio represents better value at the end of 1957 than it did at the end of 1956This is due to both generally lower prices and the fact that we have had more time to acquire the moresubstantially undervalued securities which can only be acquired with patience.Earlier I mentioned our largestposition which comprised 10%to 20%of the assets of the various partnerships.In time I plan to have thisrepresent 20%of the assets of all partnerships but this cannot be hurried.Obviously during any acquisitionperiod,our primary interest is to have the stock do nothing or decline rather than advance.Therefore,at anygiven time,a fair proportion of our portfolio may be in the sterile stage.This policy,while requiring patienceshould maximize long term profits.I have tried to cover points which I felt might be of interest and disclose as much of our philosophy as may beimparted without talking of individual issues.If there are any questions concerning any phase of the operation,Iwould welcome hearing from you.云营动运动1958 LetterWarren E Buffett5202 Underwood Ave.Omaha,NebraskaTHE GENERAL STOCK MARKETIN 1958A friend who runs a medium-sized investment trust recently wrote:"The mercurial temperament,characteristicof the American people,produced a major transformation in 1958 and 'exuberant'would be the proper word forthe stock market,at least".I think this summarizes the change in psychology dominating the stock market in 1958 at both the amateur andprofessional levels.During the past year almost any reason has been seized upon to justify "Investing"in themarket.There are undoubtedly more mercurially-tempered people in the stock market now than for a good manyyears and the duration of their stay will be limited to how long they think profits can be made quickly andeffortlessly.While it is impossible to determine how long they will continue to add numbers to their ranks andthereby stimulate rising prices,I believe it is valid to say that the longer their visit,the greater the reaction fromit.I make no attempt to forecast the general market-my efforts are devoted to finding undervalued securitiesHowever,I do believe that widespread public belief in the inevitability of profits from investment in stocks willlead to eventual trouble.Should this occur,prices,but not intrinsic values in my opinion,of even undervaluedsecurities can be expected to be substantially affected.RESULTS IN 1958In my letter of last year,I wrote:"Our performance,relatively,is likely to be better in a bear market than in a bull market so thatdeductions made from the above results should be tempered by the fact that it was the type of year whenwe should have done relatively will.In a year when the general market had a substantial advance,Iwould be well satisfied to match the advance of the averages."The latter sentence describes the type of year we had in 1958 and my forecast worked out.The Dow-JonesIndustrial average advanced from 435 to 583 which,after adding back dividends of about 20 points,gave anoverall gain of 38.5%from the Dow-Jones unit.The five partnerships that operated throughout the entire yearobtained results averaging slightly better than this 38.5%.Based on market values at the end of both years,theirgains ranged from 36.7%to 46.2%.Considering the fact that a substantial portion of assets has been and still isinvested in securities,which benefit very little from a fast-rising market,I believe these results are reasonablygood.I will continue to forecast that our results will be above average in a declining or level market,but it willbe all we can do to keep pace with a rising market.TYPICAL SITUATIONSo that you may better understand our method of operation,I think it would be well to review a specific activityof 1958.Last year I referred to our largest holding which comprised 10%to 20%of the assets of the variouspartnerships.I pointed out that it was to our interest to have this stock decline or remain relatively steady,so thatwe could acquire an even larger position and that for this reason such a security would probably hold back ourcomparative performance in a bull market.This stock was the Commonwealth Trust Co.of Union City,New Jersey.At the time we started to purchase thestock,it had an intrinsic value $125 per share computed on a conservative basis.However,for good reasons,itpaid no cash dividend at all despite earnings of about $10 per share which was largely responsible for adepressed price of about $50 per share.So here we had a very well managed bank with substantial earningspower selling at a large discount from intrinsic value.Management was friendly to us as new stockholders andrisk of any ultimate loss seemed minimal.Commonwealth was 25.5%owned by a larger bank(Commonwealth had assets of about $50 Million-abouthalf the size of the First National in Omaha),which had desired a merger for many years.Such a merger wasprevented for personal reasons,but there was evidence that this situation would not continue indefinitely.Thuswe had a combination of:1.Very strong defensive characteristics;2.Good solid value building up at a satisfactory pace and;3.Evidence to the effect that eventually this value would be unlocked although it might be one year or tenyears.If the latter were true,the value would presumably have been built up to a considerably largerfigure,say,$250 per share.Over a period of a year or so,we were successful in obtaining about 12%of the bank at a price averaging about$51 per share.Obviously it was definitely to our advantage to have the stock remain dormant in price.Our blockof stock increased in value as its size grew,particularly after we became the second largest stockholder withsufficient voting power to warrant consultation on any merger proposal.Commonwealth only had about 300 stockholders and probably averaged two trades or so per month,so you canunderstand why I say that the activity of the stock market generally had very little effect on the price movementof some of our holdings.Unfortunately we did run into some competition on buying,which railed the price to about $65 where we wereneither buyer nor seller.Very small buying orders can create price changes of this magnitude in an inactivestock,which explains the importance of not having any "Leakage"regarding our portfolio holdings.Late in the year we were successful in finding a special situation where we could become the largest holder at anattractive price,so we sold our block of Commonwealth obtaining $80 per share although the quoted market wasabout 20%lower at the time.It is obvious that we could still be sitting with $50 stock patiently buying in dribs and drabs,and I would bequite happy with such a program although our performance relative to the market last year would have lookedpoor.The year when a situation such at Commonwealth results in a realized profit is,to a great extent,fortuitous.Thus,our performance for any single year has serious limitations as a basis for estimating long termresults.However,I believe that a program of investing in such undervalued well protected securities offers thesurest means of long term profits in securities.I might mention that the buyer of the stock at $80 can expect to do quite well over the years.However,therelative undervaluation at $80 with an intrinsic value $135 is quite different from a price $50 with an intrinsicvalue of $125,and it seemed to me that our capital could better be employed in the situation which replaced it.This new situation is somewhat larger than Commonwealth and represents about 25%of the assets of thevarious partnerships.While the degree of undervaluation is no greater than in many other securities we own(oreven than some)we are the largest stockholder and this has substantial advantages many times in determiningthe length of time required to correct the undervaluation.In this particular holding we are virtually assured of aperformance better than that of the Dow-Jones for the period we hold it.THE CURRENT SITUATIONThe higher the level of the market,the fewer the undervalued securities and I am finding some difficulty insecuring an adequate number of attractive investments.I would prefer to increase the percentage of our assets inwork-outs,but these are very difficult to find on the right terms.To the extent possible,therefore,I am attempting to create my own work-outs by acquiring large positions inseveral undervalued securities.Such a policy should lead to the fulfillment of my earlier forecast-an aboveaverage performance in a bear market.It is on this basis that I hope to be judged.If you have any questions,feelfree to ask them.WARREN E.BUFFETT2-11-591959 LetterWARREN E.BUFFETT5202 Underwood Ave.Omaha,NebraskaThe General Stock Market in 1959:The Dow-Jones Industrial Average,undoubtedly the most widely used index of stock market behavior,presented a somewhat faulty picture in 1959.This index recorded an advance from 583 to 679,or 16.4%for theyear.When the dividends which would have been received through ownership of the average are added,anoverall gain of 19.9%indicated for 1959.Despite this indication of a robust market,more stocks declined than advanced on the New York StockExchange during the year by a margin of 710 to 628.Both the Dow-Jones Railroad Average and Utility Averageregistered declines.Most investment trusts had a difficult time in comparison with the Industrial Average.Tri-Continental Corp.thenation's largest closed-end investment company (total asset $400 million)had an overall gain of about 5.7%forthe year.Fred Brown,its President,had this to say about the 1959 marked in a recent speech to the AnalystsSociety:"But,even though we like the portfolio,the market performance of Tri-Continental's holdings in 1959was disappointing to us.Markets in which investor sentiment and enthusiasm play so large a part asthose of 1959,are difficult for investment managers trained in values and tuned to investing for thelong-term.Perhaps we haven't had our space boots adjusted properly.However,we believe that there isa limit to risks that an investing institution such as Tri-Continental should take with its stockholders'money,and we believe that the portfolio is in shape for the year ahead."Massachusetts Investors Trust,the country's largest mutual fund with assets of $1.5 billion showed an overallgain of about 9%for the year.Most of you know I have been very apprehensive about general stock market levels for several years.To date,this caution has been unnecessary.By previous standards,the present level of "blue chip"security pricescontains a substantial speculative component with a corresponding risk of loss.Perhaps other standards ofvaluation are evolving which will permanently replace the old standard.I don't think so.I may very well bewrong;however,I would rather sustain the penalties resulting from over-conservatism than face theconsequences of error,perhaps with permanent capital loss,resulting from the adoption of a "New Era"philosophy where trees really do grow to the sky.Results in 1959:There has been emphasis in previous letters on a suggested standard of performance involving relatively goodresults(compared to the general market indices and leading investment trusts)in periods of declining or levelprices but relatively unimpressive results in rapidly rising markets.We were fortunate to achieve reasonably good results in 1959.The six partnerships that operated throughout theyear achieved overall net gains ranging from 22.3%to 30.0%,and averaging about 25.9%.Portfolios of thesepartnerships are now about 80%comparable,but there is some difference due to securities and cash becomingavailable at varying times,payments made to partners,etc.Over the past few years,there hasn't been anypartnership which has consistently been at the top or bottom of performance from year to year,and the varianceis narrowing as the portfolios tend to become comparable.The overall net gain is determined on the basis of market values at the beginning and end of the year adjustedfor payments made to partners or contributions received from them.It is not based on actual realized profitsduring the year,but is intended to measure the change in liquidating value for the year.It is before interestallowed to partners(where that is specified in the partnership agreement)and before any division of profit to thegeneral partner,but after operating expenses.The principal operating expense is the Nebraska Intangibles Tax which amounts to.4%of market value onpractically all securities.Last year represented the first time that this tax had been effectively enforced and,ofcourse penalized our results to the extent of.4%.The present portfolio:Last year,I mentioned a new commitment which involved about 25%of assets of the various partnerships.Presently this investment is about 35%of assets.This is an unusually large percentage,but has been made forstrong reasons.In effect,this company is partially an investment trust owing some thirty or forty other securitiesof high quality.Our investment was made and is carried at a substantial discount from asset value based onmarket value of their securities and a conservative appraisal of the operating businessWe are the company's largest stockholder by a considerable margin,and the two other large holders agree withour ideas.The probability is extremely high that the performance of this investment will be superior to that ofthe general market until its disposition,and I am hopeful that this will take place this year.The remaining 65%of the portfolio is in securities which I consider undervalued and work-out operations.Tothe extent possible,I continue to attempt to invest in situations at least partially insulated from the behavior ofthe general market.This policy should lead to superior results in bear markets and average performance in bull markets.The firstprediction may be subject to test this year since,at this writing,the Dow-Jones Industrials have retraced overhalf of their 1959 advance.Should you have any questions or if I have not been clear in any respect,I would be very happy to hear fromyouWarren E.Buffett2-20-6081960 LetterWARREN E.BUFFETT5202 Underwood Ave.Omaha,NebraskaThe General Stock Market in 1960:A year ago,I commented on the somewhat faulty picture presented in 1959 by the Dow-Jones IndustrialAverage which had advanced from 583 to 679,or 16.4%.Although practically all investment companiesshowed gains for that year,less than 10%of them were able to match or better the record of the IndustrialAverage.The Dow-Jones Utility Average had a small decline and the Railroad Average recorded a substantialone.In 1960,the picture was reversed.The Industrial Average declined from 679 to 616,or 9.3%.Adding back thedividends which would have been received through ownership of the Average still left it with an overall loss of6.3%.On the other hand,the Utility Average showed a good gain and,while all the results are not nowavailable,my guess is that about 90%of all investment companies outperformed the Industrial Average.Themajority of investment companies appear to have ended the year with overall results in the range of plus orminus 5%.On the New York Stock Exchange,653 common stocks registered losses for the year while 404showed gains.Results in 1960:My continual objective in managing partnership funds is to achieve a long-term performance record superior tothat of the Industrial Average.I believe this Average,over a period of years,will more or less parallel the resultsof leading investment companies.Unless we do achieve this superior performance there is no reason forexistence of the partnerships.However,I have pointed out that any superior record which we might accomplish should not be expected to beevidenced by a relatively constant advantage in performance compared to the Average.Rather it is likely that ifsuch an advantage is achieved,it will be through better-than-average performance in stable or declining marketsand average,or perhaps even poorer-than-average performance in rising markets.I would consider a year in which we declined 15%and the Average 30%to be much superior to a year whenboth we and the Average advanced 20%.Over a period of time there are going to be good and bad years;there isnothing to be gained by getting enthused or depressed about the sequence in which they occur.The importantthing is to be beating par;a four on a par three hole is not as good as a five on a par five hole and it is unrealisticto assume we are not going to have our share of both par three's and par five's.The above dose of philosophy is being dispensed since we have a number of new partners this year and I want tomake sure they understand my objectives,my measure of attainment of these objectives,and some of my knownlimitations.With this background it is not unexpected that 1960 was a better-than-average year for us.As contrasted with anoverall loss of 6.3%for the Industrial Average,we had a 22.8%gain for the seven partnerships operatingthroughout the year.Our results for the four complete years of partnership operation after expenses but beforeinterest to limited partners or allocation to the general partner are:YearPartnerships Operating Entire YearPartnership GainDow-Jones Gain1957310.4%-8.4%1958540.9%38.5%1959625.9%19.9%1960722.8%-6.3%It should be emphasized again that these are the net results to the partnership;the net results to the limitedpartners would depend on the partnership agreement that they had selected.The overall gain or loss is computed on a market to market basis.After allowing for any money added orwithdrawn,such a method gives results based upon what would have been realized upon liquidation of thepartnership at the beginning,of the year and what would have been realized upon liquidation at year end and isdifferent,of course,from our tax results,which value securities at cost and realize gains or losses only whensecurities are actually sold.On a compounded basis,the cumulative results have been:YearPartnership GainDow-Jones Gain195710.4%-8.4%195855.6%26.9%195995.9%52.2%1960140.6%42.6%Although four years is entirely too short a period from which to make deductions,what evidence there is pointstoward confirming the proposition that our results should be relatively better in moderately declining or staticmarkets.To the extent that this is true,it indicates that our portfolio may be more conservatively,althoughdecidedly less conventionally,invested than if we owned "blue-chip"securities.During a strongly rising marketfor the latter,we might have real difficulty in matching their performance.Multiplicity of Partnerships:A preceding table shows that the family is growing There has been no partnership which has had a consistentlysuperior or inferior record compared to our group average,but there has been some variance each year despitemy efforts to "keep all partnerships invested in the same securities and in about the same proportions.Thisvariation,of course,could be eliminated by combining the present partnerships into one large partnership.Sucha move would also eliminate much detail and a moderate amount of expense.Frankly,I am hopeful of doing something along this line in the next few years.The problem is that variouspartners have expressed preferences for varying partnership arrangements.Nothing will be done withoutunanimous consent of partners.Advance Payments:Several partners have inquired about adding money during the year to their partnership.Although an exceptionhas been made,it is too difficult to amend partnership agreements during mid-year where we have more thanone family represented among the limited partners.Therefore,in mixed partnerships an additional interest canonly be acquired at the end of the year.We do accept advance payments during the year toward a partnership interest and pay interest at 6%on thispayment from the time received until the end of the year.At that time,subject to amendment of the agreementby the partners,the payment plus interest is added to the partnership capital and thereafter participates in profitsand losses.Sanborn Map:10