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Timeless Investment Lessons from Warren Buffett's Business Partner, Charlie Munger

A look at the worldview and investment philosophy of one of the great investors of our time. Plus, five ETFs that we believe have many of the characteristics that Munger (and Buffett) look for.

Robert Goldsborough, 04/24/2013

With Berkshire Hathaway's BRK.A annual meeting--the Woodstock of Capitalism--set for Saturday, May 4, many investors are preparing to flock to Omaha once again to hear pearls of wisdom both from Berkshire's chairman Warren Buffett and vice chairman Charlie Munger.

It's virtually impossible to overstate the influence that Munger, who recently turned 89 years old, has had on Buffett and on Buffett's investing discipline. Buffett regularly labels Munger as his "partner" at Berkshire, and fills the firm's annual shareholder letters with phrases like, "Charlie and I believe..." In fact, in Berkshire's 2012 letter, Buffett makes reference to their long and fruitful working relationship, noting that "more than 50 years ago, Charlie told me that it was far better to buy a wonderful business at a fair price than to buy a fair business at a wonderful price." That insight has guided Buffett over the years and helped him become more comfortable with paying up for outstanding businesses with economic moats, or sustainable competitive advantages.

Given Munger's age, no one can say how much longer investors can expect to see him sitting at Buffett's side each May, delighting audiences with his wisdom and also chiming in with his favorite line, "I have nothing to add," immediately after Buffett expounds on a topic.

As Berkshire's annual meeting nears, now is an appropriate time to pay tribute to Munger and to some of the core investment principles that he has espoused. Most of these can be found in the excellent 2005 book "Poor Charlie's Almanack," a collection of Munger's best talks, quotations, and thoughts. Modeled after "Poor Richard's Almanack" by Munger's hero, Ben Franklin, "Poor Charlie's Almanack" lays out Munger's worldview, including his "multidisciplinary" approach to clear, elegant thinking.

It's obviously not just investors in Berkshire Hathaway who can benefit from the collective investing wisdom of Buffett and Munger. Exchange-traded fund investors can employ certain funds as a way to tap investment themes the duo have espoused.

The World According to Charlie
One of Munger's principal frameworks is to more broadly understand, collect, and organize the factors affecting an investment candidate. This means drawing what he calls "multiple mental models" from a variety of disciplines, including engineering, mathematics, physics, chemistry, and psychology. Driving this need to understand the various dynamics surrounding an investment--both in its internal and external environment--is Munger's understanding that these various factors can work in concert. Munger termed that dynamic a "Lollapalooza Effect"--when anywhere from two to four forces all are driving the investment in the same direction. And yet, Munger noted in Outstanding Investor Digest in 1997 that the effect isn't "simple addition" but rather more akin to a "nuclear explosion."

One doesn't need to be an academic to tap these different models, including the modern Darwinian synthesis model from biology or cognitive misjudgment models from psychology. Indeed, Munger himself acknowledges that his understanding of these models is entirely self-taught.

Munger's invocation of multiple mental models has given him having a mindset characterized by four guiding principles that any ordinary investor should follow: preparation, patience, discipline, and objectivity. When practiced correctly, these attributes should result in buying great businesses at good prices and keeping one's portfolio turnover low. As Munger himself once said, "You're paying less to brokers, you're listening to less nonsense, and if it works, the tax system gives you an extra 1, 2, or 3 percentage points per annum."

Robert Goldsborough is an ETF Analyst at Morningstar.
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