Month: July 2017

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How Warren Buffett Makes Decisions – The Secret to His Investing Success

Warren Buffett is considered by many to be the most successful stock investor ever. Despite the occasional mistake, Buffett’s investing strategies are unrivaled. In 1956, at age 26, his net worth was estimated at $140,000. MarketWatch estimated his net worth at the end of 2016 to be $73.1 billion, an astounding compound annual growth rate of 24.5%. By contrast, the S&P 500 has grown at an average rate of 6.79% and most mutual funds have failed to equal the annual S&P 500 return consistently.

Buffett has achieved these returns while most of his competition failed. According to John Bogle, one of the founders and former Chairman of The Vanguard Group, “The evidence is compelling that equity fund returns lag the stock market by a substantial amount, largely accounted for by cost, and that fund investor returns lag fund returns by a substantial amount, largely accounted for by counterproductive market timing and fund selection.”

Since the evidence shows that Buffet has been an exceptional investor, market observers and psychologists have searched for an explanation to his success. Why has Warren Buffett achieved extraordinary gains compared to his peers? What is his secret?

A Long-Term Perspective

Do you know anyone who has owned the same stock for 20 years? Warren Buffett has held three stocks —Coca-Cola, Wells Fargo, and American Express—for more than 20 years. He has owned one stock—Moody’s—for 15 years, and three other stocks—Proctor & Gamble, Wal-Mart, and U.S. Bancorp—for over a decade.

To be sure, Mr. Buffett’s 50-year track record is not perfect, as he has pointed out from time to time:
 
Berkshire Hathaway: Pique at CEO Seabird Stanton motivated his takeover of the failing textile company. Buffett later admitted the purchase was “the dumbest stock I ever bought.”
 
Energy Future Holding: Buffett lost a billion dollars in bonds of the bankrupt Texas electric utility. He admitted he made a huge mistake not consulting his long-term business partner Charlie Munger before closing the purchase: “I would be unwilling to share the credit for my decision to invest with anyone else. That was just a mistake – a significant mistake.”
 
Wal-Mart: At the 2003 Berkshire Hathaway shareholder meeting, Buffet admitted his attempt to time the market had backfired: “We bought a little, and it moved up a little, and I thought maybe it would come back. That thumb-sucking has cost us in the current area of $10 billion.”
 
Even with these mistakes, Buffett has focused on making big bets that he intends to hold for decades to come. A longer time horizon has allowed him to take advantage of opportunities few others have the patience for. But how has he been able to make these successful bets in the first place?
 
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Should the U.S. Adopt a V.A.T.?

Many Americans do not understand how an American VAT might affect them, or its possible economic consequences on GDP and the national debt. Congress is currently exploring tax reform in order to spur economic growth and protect American businesses. Their proposal includes a controversial Border Adjustment Tax that some claim is a VAT in disguise.
 
What will be its effects if adopted?

What Is a Value-Added Tax?

In a 2010 interview with the Atlantic Magazine, William Gale, Co-Director of the Brookings Tax Policy Center, proposed a federal Value-Added Tax (VAT) as a way to raise government revenues, eliminate deficits, and pay down the national debt without harming economic growth.
 
While Gale was speaking during the early recovery of the Great Recession (2007-2009), some tax and economic experts proposed that tax reform should include an American version of the VAT. Columbia Law Professor Michael Graetz, in a 2016 article in the Wall Street Journal, claims that a VAT would:
 
1. free more than 150 million Americans from ever having to file tax returns or deal with the Internal Revenue Service;
 
2. cut our corporate income-tax rate to compete with the lowest in the world without shifting the burden away from those who can most afford to pay;
 
3. spur economic growth, increasing U.S. GDP by as much as 5% in the long run; and
 
4. stimulate jobs and investments and induce companies to base their headquarters in the U.S. rather than abroad.
 
In many ways, a value-added tax is similar to a national sales tax. Ultimately, both are based on the consumption of a product and add to the final cost to the consumer. The primary difference between a sales tax and a VAT is that the former is collected on the final sale to the consumer, while the latter is paid during each stage of the supply chain. In other words, the latter is a combination of direct and indirect taxes.

What Is Sales Tax?

Sales tax is added to the purchase price when the consumer purchases the goods. The retailer selling the product collects the tax and remits the proceeds to the taxing authority. The buyer is aware of the extra cost since it applies to the purchase price of the product. For example, a product selling for $100 subject to a 10% tax costs the consumer $110 – $10 in tax plus $100 to the retailer.
 
Currently, the U.S. does not have a federal sales tax, but 45 states now employ them as a revenue source. In addition to the state sales tax, many counties and cities tack on additional sales tax to the state charge. According to the Tax Foundation, combined sale tax rates range from a low of 1.76% in Alaska to 9.45% in Tennessee. JustFacts calculated that sales tax collections in the United States are about one-third of the taxes (over $600 billion) collected by state and local governments.
 
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is the U.S. Tax System Fair?

“Congress, Congress! Don’t tax me, tax that fellow behind the tree.” This 1930s ditty reflects the sentiments of most Americans today as Congress once again tries to simplify and reform the 74,608-page Federal Tax Code and Federal taxes. Their task is particularly challenging since about 40% of citizens feel that they pay more than their fair share, according to Pew Research. The groups that don’t pay enough include corporations (80% agree), wealthy people (78% agree), and poor people (40% agree).
 
Overall, 56% of Americans feel that the existing system is either not too fair or not fair at all. But how exactly does the Federal tax system work? Is it truly unfair?

Here’s Everything You Need to Know About Taxes and Fairness

To answer the question “Is the U.S. tax system fair?” we must first explore:

  1. The Necessity of Taxes. The American colonists’ complaint of “no taxation without representation” was misleading. According to historian Richard T. Ely, “One of the things against which our forefathers in England and the American colonies contended was not against oppressive taxation, but against the payment of taxes at all.” For decades, the American government relied on excise taxes, tariffs, customs duties, and public land sales. Are income taxes necessary?

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  2. Our Current Tax System. What taxes do Americans pay? According to one blog, Americans pay 97 different taxes each year. We pay taxes on the income we earn, the property we own, and the goods and services we buy. The government taxes gifts we make to others, assets we leave to our families, bad habits in which we indulge, and ill-gotten criminal gains. Who are the winners and losers of America’s existing tax system?

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  3. The Difference Between Statutory and Effective Tax Rates. Misperceptions complicate understanding and agreement – especially those surrounding the Federal tax system. A 2017 poll found about a third of Americans claim to understand a “fair” or a “great deal” about U.S. tax policies but are unable to reach agreement on basic facts, such as whether the average Federal income tax rate is higher or lower than other Western democracies. This lack of understanding fosters disagreement about policy and complicates reform efforts.

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  4. The Definition of Fairness. John Stuart Mill, in his “Principles of Political Economy,” wrote, “If anyone bears less than his fair share of the burden, some other person must suffer more than his share, and the alleviation to the one is not, on the average, so great a good to him as the increased pressure upon the other is an evil. Equality of taxation, therefore, as a maxim of politics, means equality of sacrifice.” Should taxes be proportional or progressive? Are they solely a revenue source or a method of social justice and income redistribution?

 
The complexity of the tax code, the machinations of those with special interests, and the sheer scope of administering, paying, and collecting taxes promotes misunderstandings, myths, and even malevolence about the role of taxes in society and the character of those charged with their administration.
 
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