In 1961, Buffett
reported that some of his investors wished to hear more often from him. A year,
to them, was a long time between drinks.
So he did write one in July 1961. He spoke little of specific investments. But
instead we learn some more about the structure of the partnerships, the size of
the funds, his fees, and another glimpse into his character.
In the first half of
the year, the Dow Jones Industrial Average went up 13%. The partnerships did
slightly better. But as usual, Buffett is quick to point out that if a year is
a short period to judge an investor’s performance, six months is much less so.
Also, if the market continued to go up at this rate, he expected to only equal
and even perhaps underperform the market. He also warns his partners to not
succumb to thinking short-term, just because he’d now write to them twice a
The most interesting
part of the letter is about the structure of the partnerships themselves. The
investments that Buffett managed were not through a single partnership firm,
but several. Presumably, each firm was created for a few selected partners that
came in as a group. In 1961, an effort was underway to merge all these
partnerships into a single structure, thus obviously reducing administrative
There were three different fee structures that they had. While formally there was a provision for interest, it was effectively a hurdle rate. In one setup, the hurdle was 6% and the profit share above the hurdle was 33% for Buffett. The second provided for a 4% hurdle and a 25% profit share. And finally, when there was no hurdle, the profit share dropped to 16% (1/6th actually). After merger, he intended to move everyone to a 6% hurdle and 25% profit share setup. He pointed out that partners in the first two setups were better off in the new one; and the third category was better off too, as long as returns were upto 18%. There seems to be no fixed fee at all. The combined assets of the firms would be about $4m. [It seems that $4m in 1961 is the equivalent of almost $345m in 2020 dollars! Buffett was 31 at the time].
This brings me to Buffett’s character. The man seems to have been a simplifier, and eminently fair-minded to boot. He clearly gave up a fair amount of money by moving to the new structure. He clearly valued the simplified structure enough to do so. This would allow him to focus on what mattered. But it also shows that he was fair minded. He did not try to convince people to move to a structure that was equivalent etc. He simply gave up possible upside to get everyone to buy into the plan. In pursuit of simplicity, he even said he’d personally absorb any small tax demands relating to the merger etc. instead of bothering the partners.
He went further
still. At a time when I don’t think there were any rules requiring him to, he
commits to not buying any securities outside of the partnerships. He
effectively put serious skin in the game.
The letter seems like an administrative one. But it packs quite some insight into Buffett’s thinking.
Read the original here.