The Essays of Warren Buffett : Lessons for Corporate America
Compiled of excerpts from his annual reports over 20 years – This is an excellent read.
Get the truth on value creation, all flavoured with his Omaha charm.
Book rating: 5.0 of 5.0 stars
Charlie Rose with Jamie Dimon
First Post in a long, long time.
An excellent 2 hour interview with the CEO of JP Morgan – A man who seems to be everywhere now due to the purchase of Bear.
Part I:
Microfinance – A zero sum game?
Newsflash: Natalie Portman is simultaneously embracing myspace and microfinance. I came across the bit of news at one of my regular reads, dealbreaker.com. The best part, though, was located in the comments section:
how does one end poverty? isn’t that like getting everybody to be above average? The redistributionists will always complain that people are in the bottom decile, quintile, quartile, whatever and that we need to take from the top and give to them. Seriously, when I hear people say we need to eliminate poverty I always scratch my head as to what that means.
Posted by: joe | May 3, 2007 05:23 PM
That’s right Joe – it’s a zero sum game. That’s why when bums ask me for money I kick them in the nuts and take their change.
Posted by: BSD | May 3, 2007 05:34 PM
Am I crazy? This is the funniest thing I’ve seen all day. A beautifully sardonic response by BSD.
It’s amazing to me how many people falsely believe that trade, or investment, is a zero-sum game (and microfinance is a form of investment, not charity or merely redistribution as joe mentioned above). Let’s take a look at how value is created through trade, and subsequently through microfinance:
Trade in Undeveloped Economies
Here we have a simple barter exchange. Johnny trades his apples for Mahir’s Chicken. Johnny chooses to make the exchange because he feels he is better off with the chicken rather than his apples – Likewise, Mahir feels better off with the apples rather than his chicken. In this example, as in all trades made under free will, all parties believe they are better off making the trade rather than not. There is no loser – they are both educated about the products they are buying, and have the expectation they will end up wealthier. The economic system has been enriched – greater wealth has been created, and Johnny didn’t need to kick Mahir in the nuts.
Trade/Lending in Developed Economies
The process is similar in developed economies. Jasbir the banker has chosen to trade his little blue piglet filled with coins for a future cashflow from Ping the small business owner (who has decided to invest in his business). In this example, as above, all parties enter the contract expected to be better off, and a net creation of wealth occurs. In this example, as above, both Ping and Jasbir need to be educated of the risks they are undertaking.
Lending in Undeveloped Economies
Unfortunately, here is where the problem starts. Mahir, like many others in undeveloped economies, lacks two critical pieces to the wealth creation puzzle:
Unlike when Mahir traded his chicken for Johnny’s apples, Mahir now lacks the necessary knowledge to assess whether he is getting himself into a good deal. Mahir knows his chickens, but doesn’t know his future cashflows; because of this, the risks to both Enrico and Mahir are increased. Enrico the usurious lender is in an advantageous position – He has a scarce resource and an informational advantage. Mahir does not have the opportunity to shop for other lenders, due to both to collusion and limited market size. In this case, either the deal will not go through (and wealth will not be created), or somebody will get kicked in the nuts.
Microfinance in Undeveloped Economies
Here comes Olga the microlender to even the playing field for Mahir. In addition to providing Mahir with greater access to capital, she also provides the necessary education for Mahir to understand the process of borrowing and the risks associated. With this information, Mahir is in a better position to invest into his business(He buys a cart to carry more chickens to the market improving his productivity), and successfully meet his obligations. Additionally, Olga, unlike Enrico, does not rely on usurious rates, and instead aims to perpetuate the microlending process by recycling capital and lending to others like Mahir – Her goal is one of sustainment, rather than either profit or charity. In this example, just as when Mahir traded with Johnny, wealth is created – Fortunately for others, the wealth created will be spread between Mahir, and the future trading partners of Olga.
It’s important to also recognize that along with the increased risks associated with investing in undeveloped economies, there’s my favorite benefit: Due to the lack of capital and excess of available labour in these economies, the marginal productivity of capital will greatly exceed that of developed nations. Unfortunately, this is partially countered by a lack of productivity enabling infrastructure. Opening countries up to more fluid investment will benefit all, but requires political stability, intelligent investments in infrastructure, and adoption of current technology.
Solow Model – Moving developing economies from K0 to K* makes more sense than moving us from K* to K1
That’s enough of me playing with clipart today. I hope I made my point – There’s no need to be kicking anyone in the nuts.
CFA Interview for BCJobNetwork.com
Although the post is long, it should appeal those considering the CFA designation (My current status is “CFA Charter Pending”, meaning that I have passed each of the three exams, but still have to submit my sponsorship application for the Charter)
Below, you will find my response to a series of questions for an article at BCJobNetwork.com. My answers are in blue.
What made you pursue a career in the finance sector?
The focus during my initial time at university was to create as many options as possible; I saw that people with financial backgrounds move into many different industries, and often transition into leadership roles. Once I began studying finance, I enjoyed the material I was being taught, and I could easily see that the principles taught were applied practically by analysts mentioned everyday in the media.
Why did you choose to further that with a CFA?
Several factors led to the decision. Here they are in rank of priority:
- Strong program reputation – Beyond the widely recognized financial rewards for earning the CFA charter, Charter holders are held in high esteem for their analytical abilities, and strong ethical backgrounds
- Intrinsic educational value – To complete the required coursework, you’ve got to have discipline, and a desire to learn the material. Without a real interest in the material, it would be extremely onerous to stay motivated for 3+ grueling years.
- Ability to work while earning the designation - Early in my career, I wasn’t ready to leave my job to go back to school. The CFA charter was a way to stay learning, and improve my financial credentials.
- Low relative costs - Although textbooks and exam costs are not negligible, relative to most other alternatives (and relative to the rewards of the program), the costs are less than one would expect. Costs are ~3-10% of the costs of an MBA.
What do you like about it?
I like learning the material on my own – being able to set they pace for my own learning. I also appreciate the relevancy of the material. Updated the curriculum (aka Learning Outcome Statements) every year means that textbooks are more expensive, but material stays fresh.
Also, the regional CFA societies offer many great resources – from providing selected conferences, to CFA job boards.
What are your day-to-day responsibilities at IBM?
My title is ‘Financial Management Consultant’. Our consulting organization is organized in a matrix, so my functional area is Financial management, while my industry is Healthcare.
Day to day responsibilities vary depending on what kind of project I’m on, but there are some common themes – I have worked on many healthcare strategy engagements, where we usually have a team of 3-6 consultants, with each consultant specializing in a particular role. A team could include several of the following roles: a project manager, a financial analyst, a data analyst, an architect, a business analyst, and several SME’s (subject matter experts). I would typically serve as the financial or business analyst, and would be responsible for developing financial models, stakeholder engagement materials, risk assessments, current state assessments, and coordinating with other team members for their respective responsibilities.
Our final deliverable is a report that outlines what recommended strategies the client should take – The recommendations are supported by a Current State, Future state, Gap, and Risk analysis. My projects have typically lasted up to 5 months, and I have worked in Ontario, Alberta, BC, and remotely with the US.
The teams are composed of individuals from across Canada, and the world – So I often spend much of the day on the phone, or on IM talking with coworkers. The team will come together every couple of weeks to meet with the client, or coordinate deliverables.
What are your long-term career goals and how are you getting there?
Long Term goals include developing both my people management and technical skills. I’m aiming to create quality work, and build a strong reputation within the industry. Right now, I’m working towards my goals by continuing to work on challenging projects, progressively increasing my level of responsibility within the projects I take, taking leadership roles for internal initiatives, and, most importantly, associating with people that have similar outlooks and expectations from their professional and personal lives.
And then with your education: What major did you have at university?
I graduated with a BBA from SFU – Concentrating in Finance
Why did you pick SFU?
My final choice was between UBC and SFU – The choice to go to SFU was made based primarily on the flexibility of the program (you can switch majors/ concentrations with ease; Co-op program offered; strong business faculty) and the school’s academic reputation. I was also an athlete during my university days (Football), so the athletic situation also influenced my decision. I essentially considered SFU and UBC to be academic equals – personal preference was what determined my choice.
What were the major challenges you faced while going through the certification?
It can be very difficult to work heavy hours, spend up to week 12 hours traveling, and then have to study until 1AM every night in the hotel room. During the times where I was studying, social life took a back seat to studying. Eventually, I developed a comprehensive study plan that outlined what I would be studying for each hour of every day. There were several deviations from the plan however; two entire weekends were unexpectedly lost to the DVD collection of the TV series ’24′.
What is the regulatory body called for the certification?
It was formerly known as AIMR, but has now changed to the CFA Institute http://www.cfainstitute.org/
And…
What kind of person/career seeker would you recommend to become a member of the finance sector?
The first requirement is that you must be an analytical person. Your personality type can determine what kinds of job you can have within finance (and should not be a precluding factor), but without and analytical background, you would be at a disadvantage.
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For more on the CFA, click here.
Personal Finance and Simulation Modeling
CFA studying can be tough, and sometimes you need to take a break; During one of my study breaks, I came up with a Monte Carlo model to estimate my (or your) future net worth. In this posting I explore that model, and take you on a journey of personal finance wonderment.
A Monte Carlo simulation (at least in my model) works by generating random numbers that act as inputs into a predefined model (with appropriate assumptions). Each time the model is taken through an iteration, a different result will occur, driven by these random inputs. When the model is run multiple times, you are able to determine the probabilities that certain outcomes will occur.
Below you can see the results of several of the iterations in my model[kml_flashembed movie="http://simran.crownpac.net/blog/wp-content/uploads/2006/08/iterationgraph1.swf" height="230" width="450" wmode="transparent" /]
As mentioned above, each iteration is driven by both inputs and assumptions. The inputs for my model were the return on equity for each of the 40+ years, while the assumptions used are listed below (and are fairly realistic):
As you can see, the results from each iteration appear unique. Although you can anecdotally get a sense of what you might expect to be worth by watching each iteration, the real insight comes when you start to produce a histogram (all values are shown in today’s dollars):
Probability of Net Worth at Age Seventy
Interpreting this graph, you can see that you will have a 1% likelihood of being worth $0-$2M, and a 19% chance of being worth $5M-10M. Notice that despite our assumption of a normal distribution of annual returns, the expected value of the portfolio is positively skewed: There are a greater number of very high results, and the most expected result is lower than the average.
What I find more useful than the histogram, however, are the cumulative probabilities as shown below. Interpreting the following graph, you can see that at age 70 (and with no debt in the portfolio), there is an 80% chance you’ll be worth at least $2M-5M, and a 12% chance of being worth at least $12M-15M.
[kml_flashembed movie="http://simran.crownpac.net/blog/wp-content/uploads/2006/08/leverage1.swf" height="250" width="450" wmode="transparent" /]
As with any model, the fun part comes when you play with the assumptions. I’ve included some buttons on the above graph to facilitate your play: you can choose the leverage scenario for the portfolio, and see the impact it has on the cumulative probabilities.
Notice that as you increase the debt level, your likelihood of being very rich increases, while the likelihood of being worth less remains the same? Debt in your portfolio, over the long term, is a good thing.
The graph above shows only the upside of increased leverage. There are, of course, downsides that will ultimately determine the optimal balance of debt and equity for your portfolio. What are the constraints that should limit debt exposure and determine your optimal capital structure? read away:
There are many more variations we can build off of this model. For instance, if you where interested how soon you could expect to be worth $5,000,000, you could use the following graph:
With a little bit of work, we could also examine:
Whatever you are interested in, the model can be built to examine your needs.
Despite the long post, this is a relatively brief look at what these kinds of models can do for you. Some takeaways:
I hope you found this long and flashy post interesting. Let me know if you have any comments or questions.
CFA Exam Result Summary (Levels I, II, and III)
Cross me off the list of Level III Candidates, my status is now CFA Candidate, Charter Pending. I got the results last night after waiting far too long for the CFA web servers to work.
I’ll provide a more complete Level III review in the future, but in the meantime, here is the history of my CFA Experience:
What’s left now? I just have to complete my work requirements, submit my paper work, and I’ll soon be a CFA charterholder.
Congratulations to those who passed this year, and good luck to those still in the program. Feel free to browse around the site for more CFA material, or contact me below with any questions you have.
Definition of an Actuary
From the CFA Forums:
An actuary is a person, who passes as an expert on the basis of a prolific ability to produce an infinite variety of incomprehensive figures calculated with micrometric precision from the vaguest of assumptions based on debatable evidence from inconclusive data derived by persons of questionable reliability for the sole purpose of confusing an already hopelessly befuddled group of persons who never read the statistics anyway!
Source – Not Required
CFA Review (Level II)
There is plenty of interest in this designation out there right now, so I thought I’d share some of my experiences. I wrote level II in early June, and was informed of my passing grade on August 19th (Far too long for an Item set test that is marked by computers).
Here are my thoughts organized into several convenient topics:
Content Difficulty – Level II is known to be the most difficult in terms of content. The topics covered don’t change much (See my Level I cfa review), but the depth of knowledge needed to get through the exam does. While writing level I, I found that there was very little material that I hadn’t covered in my undergraduate degree – I could prepare for level I very quickly. Level II introduced topics that I had not had much experience with, especially on the accounting side (especially international accounting). However, if you do have an accounting background, I don’t think the accounting material will prove very challenging – just shift focus over to the economics, portfolio management or one of your weaker subjects.
Change in Format – 2005 was the first year that the Level II exam did not include a written portion; The written portion was replaced by Item set questions. I can’t comment on whether the exam has become easier or more difficult because of this change (This was my first time writing Level II), but I do think that the type of questions asked have shifted as a result in the changing format. More than I expected, the exam focussed on having a qualitative understating of material rather than centering on calculations and quantitative answers. There were many answers where you had to pick the best answer: “A only; A and B; A and B; A, B, and C”.
Study Material – My strategy here differed from the recommendations of the CFAI (formerly AIMR). I used the study notes and software provided by Stalla as my primary study aid. Where I felt I couldn’t get an adequate understanding from the notes, I would either consult my undergraduate textbooks, or the recommended texts of CFAI. My choice of study notes provider was made based on my liking of the PassPro software that stalla produces – the software is well integrated with the study notes and exceeds that of other providers. Schweser is the other big game in town, and they also provide quality notes (many feel that the schweser texts do a better job of covering the material). There definately isn’t one note provider that stands out from the other – you choice will have to come down to preference not quality.
I wouldn’t recommend only using study notes (and no textbooks) for anybody who hasn’t had plenty of academic finance experience – The notes tend to be only refreshers, and if you are looking at the material for the first time, it will be difficult to absorbe any of the material.
Scheduling – According to my estimates, I studied approximately 250 hrs. for the exam, slightly below the recommended allocation of 300 hrs. – I would generally study 16 hours per week, with an average of 8 hours of studying during the week, and another 8 hours split up during the weekend. Here is how I approached the chapters:
I was able to stay relatively close to the plan I had set out at the beginning. When you’re working heavy hours, it’s not an option to fall behind. Here are the chapter topics:
Actual Exam – As mentioned earlier, the exam was very qualitative, which I found surprising. The exam questions did not relate to what I studied, in terms of question format and specific material. With many of the questions, I felt that I was looking at the material for the first time, despite being able to comfortably pass each of the six practise exams that I had written. I don’t feel that studying more would have made much of a difference for my own success, or would have led to a higher exam score – Having a background outside of the assigned material definitely helped.
The morning exam was seen as being relatively easy, while the afternoon left everyone in the coliseum gasping for air (I wrote at the Pacific Colliseum @ the PNE, along with several thousand others). It’s fairly difficult to gauge the difficulty of the exam after only the morning session.
Passing Grade – 56% of people who wrote L2 passed, vs. approximate 32% last year.There are several possible explanations as to why this grade was so much higher than last year: the great number of rewrites this year (from all those who failed last time around), the change in format, the return to the more traditional pass rate for level II (which is aprox. 50%).
There is no way to really know why the passing level jumps – CFA institute is quite cryptic on how they set the passing grade. One thing we do know is that the delay in getting are results back (2 months) is partially explained by the amount of time it takes for them to set the passing grade.
Final thoughts – I left the exam thinking that I had failed (unlike level I where was confident I succeeded), but ended up passing fairly comfortably. This exam, more than any other I’ve written, feels like a crapshoot. You definately need to know the material to have a chance at passing, but knowing the material is really not enough to ensure that you do pass. There are many well-prepared, intelligent people who fail – and I think you need a bit of luck not to end up that group.
Choosing an MBA
I was talking with a friend last week, and he was considering education options. He’s currently in law school but is looking at a joint MBA/LLB.
Personally, I feel that getting an MBA makes sense if you approach it in one of two ways:
That’s my take on it anyways.
CFA Level I Review
Good evening all,
It has been awhile since I have last posted – I try to regulate the free-time I spend online, and, to the detriment of this website, most of my online time has been consumed by a webdesign project I’ve been doing.
Hopefully, that project will be up and running by mid-september, and when it’s up, i’ll be sure to post a fat link to it.
In other news, many of you know that I’m a CFA (Chartered Financial Analyst) candidate – well, last week I got my results, and I was fortunate enought to pass. I’m now 1/3rd of the way through the program.
Many people have asked me about the charter, and I’ll take this chance to give my impressions.
First off, here is the opening paragraph of the letter that came:
Congratulations! You have passed the 2004 CFA® Level I examination. The CFA Institute Board of Governors recognizes the challenge you have met and congratulates you on your achievement. Your success at Level I is an important step toward becoming a CFA charterholder. This June 34% of Level I candidates passed the examination.
Yes, that is right – there was a 34% pass rate. Ouch. Fortunately, most of the people I know who took the exam ended up passing. I’ve heard a couple theories as to why the pass rate has been continually dropping, but I feel that two factors are to blame:
To demonstrate the second point, there was an accountant sitting next to me during the exam (He was from one of the big 4) who said that even if he passed the exam, he wouldn’t sign up for level II. He had no idea how much work the program would be. Supporting this theory, the number of LI candidates who succesfully complete the program has fallen to 10% from what was once 30% (sorry, I coulnd’t find a link to support the numbers though). CFAI (CFA Institute) sent out a letter stating that they believed the reason for falling marks was due to the increased use of study guides in the place of recommended texts. I don’t buy their reasoning. The major study guides (Stalla, Schweser) are excellent, and do a great job of getting you ready for the exam.
The following is from an Email I wrote to a fellow SFU Finance major:
The CFA exam is a big commitment, but the material is honestly not that difficult for someone who went through SFU’s finance program. Most of the people I know who write it, pass pretty easily. In terms of study hours, CFAI recommends over 200, or even 250 hours.
The fortunate thing for us is that almost none of the material (at least in level I) is new – it’s like a six hour exam that covers all the topics we’ve done in school. The hard part is being able to retain so much information; there are no formula sheets. Level II and III are apparently a different story though, and there are very few people who feel comfortable after writing those exams.
While I do indicate that the material is not difficult for a finance major, I would feel sorry for any exam takers that didn’t major in finance. There is just so much material, that it can be overwhelming. The study guides may not be enought for those that do not have a strong finance background.
In case you are wondering what the program covers, here are the main topics:
The weighting varies, but Level I seems to focus more heavily on the accounting and ethics sections.
For all the Canadian bankers, brokers, and PFR’s out there that would like to use the CSC (Canadian Securities Course) as a measure, I assure you that the CSC pales in comparison both in terms of both depth and breadth of material covered. I did the CSC about a month before the CFA exam, so it was fresh in my mind. The CSC exam is probably 1/20th the difficulty of the CFA exam.
Now the big picture question: What does the CFA do for you?
The first thing to establish is that the charter alone is not a ticket for success. It alone will not open doors and get you to the top. What I feel it does do is give others a sense of security what you know – because it is standardized, it is recognized the world over – something that very few collegiate institutions can offer.
My reasons for taking the exam include career advancement, but I’m also taking it because I want to continue the learning process I started in University, to become secure in the knowledge I’ve gained through work and school. Am I an education junky? maybe, but a credentials whore I am not 
.
If you find the material enjoyable, I definately recommend the program. If you are only looking for career advancement, and find it difficult to stay focussed on studying – the program is going to be one tough experience. You’ll have to have a ton of discipline to maintain the commitment necessary to pass the program.
That’s it for now – I banged this post together quite quickly, so there may be some holes in what I wrote. If you’ve got any questions, feel free to ask, and if there is more interest, I’ll gladly write more on the subject.
To find more information, try the following sources:
