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Getting Past ‘Pearl Harbor': Ask Warren Transcript - Part 1

This is part one of the transcript and video ofWarren Buffett's 'Ask Warren' appearance on CNBC's Squawk Box on Monday, March 1, 2010.

Announcer: This is a special presentation of SQUAWK BOX. The world's most famous investor live from Omaha, Nebraska; you ask, Warren Buffett will answer. A unique, interactive three-hour-long conversation not to be missed as SQUAWK BOX begins right now.

BECKY QUICK, co-host: Good morning, everybody and welcome to SQUAWK BOX right here on CNBC. I'm Becky Quick, and we are this morning at Piccolo Pete's restaurant in Omaha, Nebraska. This is a favorite hangout of Warren Buffett. He's going to be talking to us for the next three hours. Of course, Joe Kernen and Carl Quintanilla are back at CNBC's world headquarters live this morning. And, guys, we have plenty to be talking about this morning. We are joined by the "Oracle of Omaha" himself this morning, Warren Buffett. And he made it here early, guys, he is sitting down and he is ready to go. He is ready to take questions. So good morning, everybody.

JOE KERNEN, co-host: It's 4 AM?

QUICK: It's--yeah. It's 5 AM here.

KERNEN: It's 5 AM.

CARL QUINTANILLA, co-host: Yeah.

QUICK: It was 4:45 when he showed up, yeah.

KERNEN: Five AM, wow.

QUICK: Five AM here.

KERNEN: Wow.

QUICK: So he's ready to go.

KERNEN: What is...

QUICK: He is ready for your questions this morning, too, guys.

KERNEN: What is...

WARREN BUFFETT: Omaha's in--Omaha's in the middle of the country, Joe. That's why it's 5, yeah.

KERNEN: Middle, because Colorado's right around there, right?

QUINTANILLA: Right. We're a little farther west.

KERNEN: A little further and that's two hours, right?

QUINTANILLA: Mm-hmm.

BUFFETT: It's 4:00 in Colorado, right, 4:00 in Colorado.

KERNEN: It's so complicated, isn't it?

QUINTANILLA: Yeah.

KERNEN: What is Piccolo Pete's--what is the real specialty there? Is it appetizers? Is it big portions?

QUICK: I...

KERNEN: Is it drinks?

QUICK: No, I'm glad you--I'm glad you asked. This is a steak house, and they've got great steaks, they've got great Italian food that they bring alongside it. And Piccolo Pete's is a place that Warren's been coming for many years and also bringing some of his big out of town guests into as well. In fact, Joe, if you stick around for a minute, I want to show you a few pictures of people who have been to Piccolo Pete's. You wonder, you know, they come to Omaha, they want to see Warren, so they want to come down and get a good meal, and this is where he brings a lot of his people.

KERNEN: But he never--he never bought it.

QUICK: People like A-Rod, who's shown up.

KERNEN: He never bought it. He never just decided, `I like this business, I...'

QUICK: Do you buy? Oh, the business, itself. I thought you meant buy dinner for everybody when they come in.

KERNEN: I know--I know he...

QUINTANILLA: I think--I think he generally picks up the tab.

BUFFETT: (Unintelligible)

KERNEN: I don't think he does pick up the tab.

QUINTANILLA: Really?

KERNEN: Unless you pay $700,000. I think he'll sit down with you, but, otherwise, he won't even get the tip, really. Do you? I mean, you're frugal. You're known to be fairly...

QUINTANILLA: That's how you become a billionaire.

KERNEN: You're known to be fairly frugal, which is--which is--but why not buy it?

BUFFETT: Jeff and I sat--Jeff and I sat here for two hours, each waiting for the other to pick up the check.

QUICK: Jeff, you know he's talking about, Joe, who's in town just a few weeks ago and also who, I think, had dinner with him then, too. So we're talking A-Rod, Jeff Immelt, who have come in, you're talking Bill Gates, you're talking Charlie Rose.

BUFFETT: Yeah, yeah.

QUICK: Ben Stein was here.

BUFFETT: Ben Stein. Yeah. Everybody comes here. And last Friday I had 189 students from seven schools here. I bring--I bring the schools that come in for the day, we come down here for lunch and I get more letters, frankly, about how good the food was than how good the teaching was.

QUICK: All right, so gentlemen, we are here this morning, and we've got three hours to do it, plenty of things to talk about, so why don't we start right off the top. We've got a lot of questions from viewers and we're going to get to as many as we can through it. But, Warren, we're here because you came out with your annual shareholders letter...

BUFFETT: Right.

QUICK: ...and--over the weekend, and this is a little different. You were addressing about 65,000 new shareholders this time around, added to the 500,000 you already had on the books because of the acquisition of Burlington Northern. So this shareholders letter was really written as a how-to guide, an owner's manual, if you want to call it, for owning Berkshire-Hathaway. Why'd you set it up that way?

BUFFETT: Well, it was--it was a freshman orientation course, in effect, because we not only gained at least 65,000, maybe quite a bit more from the Burlington deal, but we also gained--during the year, we think we gained almost 100,000 now. In another couple of months, I'm going to actually run something with street name holders to find out how many holders we have. But I--it looks to me like we're gaining really many tens of thousands a month because the A is getting converted into B and it--that would indicate that's going on.

QUICK: Because the B shares were split 50 for one, so you've got a much lower price point for people to be able to get into this stock.

BUFFETT: Right.

QUICK: Also, it was added into the S&P 500.

BUFFETT: Yes. We--we'll know in a couple of months exactly how many we have, but I know we--I know that there's probably 150,000 people reading the report this year that haven't ever read it the report before. So I wanted to go through sort of the basics of Berkshire and make sure that everybody was on the same page.

QUICK: You know, a lot of people will wonder what happened with this new influx of shareholders who are there. You've always said that you don't want people to be short-time investors.

BUFFETT: Right.

QUICK: You're not interested in people jumping in and out of the stock, that you want them to be long-term holders, but how much of a risk is there to the culture when you have such a sea change in the investors who are coming in?

BUFFETT: Well, that's my job. I mean, I am there to tell them what sort of a restaurant it is. I mean, it--you know, when we come to Piccolo's, we know what kind of food is going to be here; and if they were serving fancy French food or something like that, I'd be very disappointed when I got inside. So I come for this very basic food, and that's--and I'm satisfied when I walk out. I do--I want to do the same thing with Berkshire. I want--I want to make sure that people know the kind of organization they're joining, what our goals are, what our time horizons are and all of that. And then I have to deliver. But at least they're in sync with me when they enter the door, and that's true of all the new shareholders that are coming in, too.

QUICK: You know, we have a lot of questions from shareholders that have been coming in and many of them have questions about Berkshire, some very basic things and some very thoughtful ideas that they put through. We're going to get to a lot of those questions through the show, but why don't we start out this morning talking a little bit about where you see the economy. When you sat down and talked to us, I guess it was back in the fall of 2008, you talked about how we were in an economic Pearl Harbor. Where do you see things right now based on all the businesses that you have?

BUFFETT: Well, we got past Pearl Harbor, but we will win the war, but--and it's going slightly our way at the present time, but the spill-over from the financial panic into the real economy was huge and particularly things like housing had to stop because we had this huge over supply. I--we've got about 80 businesses now, and I get figures on them on a very real time basis. And I would say that there's a few businesses that really have had a fair amount of bounce, in terms of electronic components and that sort of stuff...

QUICK: Mm-hmm.

BUFFETT: ...which we distribute. There's others that've had no bounce at all. And I would say that, if anything, it's getting better but at a very, very slow rate.

QUICK: Is it the consumer businesses that are struggling the most?

BUFFETT: Consumer businesses are struggling. The--they're--the American public is deleveraging to some degree. They can't refi anymore. I mean, they have a whole different mindset about buying things than they had a couple of years ago and that means that business in many areas is slow. It's particularly--you have to be a little careful about the comparisons now because if you're into February and March, you're comparing with a period when we were in free-fall last year. So I compared it two years ago, and our businesses are not doing as well, in--on average, are not doing anywhere near as well as two years ago.

QUICK: Does that mean this idea that people think jobs are going to start coming back, do you think that's further off than other people are forecasting at this point?

BUFFETT: I think they'll be slow to come back. But we're going to hire more people. We let go a lot of people last year. If you take our carpet business (Shaw Industries), we're going to sell a lot of carpet over the years, but our employment from the peak is down 6,500 people. Now that's a lot on a base of around 30,000 or a little larger. I get the orders every day on carpet and see what they are. When we get--when the orders come in, we will hire people. I mean, we're dying to hire people, but we're not going to hire people if--to stand around. So jobs will respond to demand, and that's why, in effect, the government in typical, you know, Keynesian fashion, feels you have to kick-start demand. Jobs don't come--I mean, you can have various jobs, programs and offer me a tax credit of $1,000 or forgive payroll taxes or something of the sort, but that's not really a good reason to hire somebody. The reason to hire somebody is because you have a customer out there that needs that somebody.

QUICK: Is the government doing the right thing? You say it's a Keynesian response, but the jobs bill that they've just passed, is that the right way to get jobs moving?

BUFFETT: We're doing the conventional things, but that doesn't mean that they'll have huge effects or instant effects. I mean, it is important that the government step in with demand when private demand falls off, but it's no miracle worker. And we're going to be testing Keynesian principles pretty severely here. This is not exactly like anything we've had before. And we don't have anything better to go with, but we should not expect miracles.

QUICK: Carl has a question as well. Carl.

QUINTANILLA: Yeah, Warren, I--looking at your letter over the weekend, a lot of various things made their way into the headlines. You talk about some of your construction businesses bouncing along the bottom, as you put it, but you also say that in a year, the worst of our housing troubles may be behind us. Can you sort of elaborate on where you see housing and how that effects the rest of the broad economy?

BUFFETT: Yeah. Residential construction, we got way ahead of ourselves a few years back. We built more houses than there was true demand for and it was fueled by financing and all that sort of thing. And that just--that--you might call that an inventory correction that's needed. We have to use up that inventory, and we're creating households every day in this country, and those households are going to want places to live. So with housing starts down to 550,000, that chews up the inventory, but it takes time. You know, we build inventory for years, so you don't create--you don't correct the inventory situation in a day or a week or a month, but we are correcting it in a very significant way. We will still have at the high end supply and demand situations way different than if you get into medium-priced and lower-priced houses, and there's a few areas of the country that are going to still be very over built a couple of years--a year from now, but I would--my best guess is that within about a year, for 80 percent of the housing market, you're going to have a reasonable balance between supply and demand. That doesn't mean prices are going to shoot up, but it does mean that houses will be moving and there won't be further deterioration.

QUINTANILLA: Right. Unless, as you say...

QUICK: But what about if interest rates are rising?

QUINTANILLA: I mean, I was going to say, unless, I don't know if you read this, Joe, in the letter, unless we let teenagers cohabitate, in which case household formation goes to the moon, right?

BUFFETT: Well, yes. Yeah, I--yeah--and actually I--that may have started a trend when I wrote about that. I didn't realize the degree at which that would get picked up, but I'm getting a lot of support for that idea.

QUICK: Warren, what about the idea, though, that interest rates are very likely going to be rising; they're not going any lower. And if you start to see the housing tax credits go away, if you see interest rates rise, will that put a crimp into this recovery in housing?

BUFFETT: It has--it will have some effect, but there's some doubling up that occurs during a recession. I mean, but...

QUICK: Doubling up in households, you mean? Where...

BUFFETT: Yeah. But if your in-laws are moving in with you, I mean, you may want to get them out of there as fast as you can, too. So basically, it's household formation measured against the inventory of houses and the new ones that are being created that determine it, but there's no question if interest rates go up, it makes it tougher. It means you can buy a little less house. And, in the past, we let people buy houses they couldn't afford to stay in on the theory they'd refi them or something like that, but that day is probably over for quite a while. So if you buy--if you're going to buy a house and you're going to devote 31 or 32 percent of your income to monthly payments and interest rates go up, you can't buy as much of a house. And, of course, in the last year, the Federal Reserve has bought over a trillion dollars worth of residential mortgages. Now, if you think about it, normal--in a normal year, there's only a couple trillion created. So that--they've been a huge factor in the market, and they've announced that they're not going beyond a certain point.

QUICK: Not going to buy.

BUFFETT: Yeah.

QUICK: Joe:

KERNEN: Thanks. Warren, I read something kind of disturbing over the weekend about what's still on the average bank's balance sheet, that one out of--I think it was one out of 10 dollars earned bad loans or something like that and I'm just wondering whether you describe an economy now that obviously is better, but it's not gangbusters. Do you buy into this new normal idea that it's really going to take a while and that there will be a line drawn during the financial crisis that from there on out for at least 10 years we're going to have sub-par economic growth? Or is this going to be like everything else, and we come back quicker than we thought?

BUFFETT: Well, it's going to come back a lot quicker than 10 years, Joe, but it--I don't think it's going to bounce back fast. The banks are in better shape than they were a year or two ago. Although a lot of smaller banks have got troubles. They've got particular troubles in commercial real estate. So the FDIC puts out this list of problem banks and that list, we had 140 banks fail last year, we'll probably have more than that fail this year. To put that in perspective, there are about 7,000 banks, so about 2 percent of the banks failed last year. I think that number will be up some this year. It's mainly concentrated in smaller banks that themselves got very concentrated in bad areas of lending, particularly in commercial real estate. But I don't--the banks are in a lot better shape than they were a year, a year and a half ago.

QUICK: You also said in the past, though, that this was a great time to be a bank because you're being handed money, essentially, free...

BUFFETT: Yeah.

QUICK: ...and turning around and loaning it. As rates go up, does that change the outlook for some of these banks?

BUFFETT: It doesn't. It probably won't change the spread much because most banks, particularly larger banks, tend to be fairly asset and liability neutral. They have about as much that's going to fluctuate in terms of rate on the asset side as they have on the liability side. So, if their liability side goes up 100 basis points in terms of what they're paying for deposits, the chances are the loan side is about that much is getting adjusted as well. So it has an effect to a moderate degree, but it's not a big element.

QUICK: Joe...

BUFFETT: It's tougher--it's tougher for the customers, though...

QUICK: It is.

BUFFETT: ...the higher the rates go, obviously.

QUICK: It is, it is. Joe: q

KERNEN: Thanks. Like I think back to the--what--some of the stuff you said, Warren, about how you wish you had done even more, and I guess you're talking about in the investment in Goldman, I think about that, the investment in GE, but I think about all the ones you passed up. You passed up some companies that are gone, and it would've been bad if you bought Bear Stearns, some of the falling knives, Lehman Brothers, things like that.

BUFFETT: Yeah.

KERNEN: You passed up some companies that are gone, and it would have been bad if you bought Bear Stearns, some of the falling knives, Lehman Brothers, things like that.

BUFFETT: Yeah.

KERNEN: So when you finally stepped in, that was the right time? You wish you had a, what'd you say, a swimming pool instead of a thimble? But...

BUFFETT: Well, yeah, you want to be out there with a bucket, not a thimble.

KERNEN: Yeah, a bucket. Or a swimming pool, in that case.

BUFFETT: Well, that--yeah, that's true.

KERNEN: Could you have--realistically, with risk reward in mind, could you have done more? And what would you have done, looking back on it? Give me some of the--would you have bought more Goldman, more GE, American Express? What would you have done right at that time?

BUFFETT: Well, if I'd done it perfectly, I would have been buying about a year ago instead of--instead of 18 months ago in terms of the big money. I mean it was just about a year ago on the show that the Dow and the S&P hit the low. And so I was premature on some purchasing. Corporate bonds and municipal bonds in the first quarter of 2009 just got ridiculously cheap. I mean, access to the market just almost disappeared for companies. So you had--well, you had a Harley-Davidson issue that was priced in January which we got 15 percent on, and then they sold another issue in less than a year at, I think, 5-3/4 percent. Well, that, you know, that is a--that's huge in markets. So I was early. And by and large, we always--we never--we never want to take any chances at Berkshire, so we always wanted to have about $20 billion on hand. We--you know, you never knew exactly what was going to happen, so.

KERNEN: Yeah, me, too. All right. Don't you, Carl, typically want...

QUINTANILLA: Well, he calls 20 billion a pittance.

KERNEN: Yeah, but, you know. You want to have some...

QUINTANILLA: Imagine that.

KERNEN: You want to have some liquidity. So, I mean, you want to have that--that's typically the number I use, too, Warren.

BUFFETT: It--we want...

KERNEN: I mean.

QUINTANILLA: Petty cash.

KERNEN: That's a good number.

BUFFETT: Yeah.

KERNEN: We all agree on that.

BUFFETT: It--it's a yardstick. Yeah. But when you get over 20 billion, Joe, go out and spend it.

QUICK: Well, you have 20 billion right now.

QUINTANILLA: Don't worry about that.

QUICK: How quickly do you start adding back with the cash flow that the businesses kick off with some of the other situations? I mean, how fast do you build that back up?

BUFFETT: Yeah. Well, if we earn--and not making any projections, but you'd certainly expect in a normal year, with our present businesses or even a little subnormal, you know, we earn 9 billion or something like that. And our float in insurance has tended to grow. It grew about 3 billion last year.

QUICK: Right.

BUFFETT: So that--if--you know, that means 12 billion there, assuming nothing--no securities mature or that nothing comes in from sales. So we get replenished fairly fast. But in this world, anybody that depends on anyone else for huge money is making a mistake. We never want to be in a position where we have to look to anybody else to--for our checks to clear. So that...

QUICK: And you've proved that with this last huge downturn in the economy. I mean, in 2000...

BUFFETT: Well...

QUICK: ...2008, everybody was looking around for cash. Berkshire was one of the few places that was actually providing liquidity.

BUFFETT: Yeah, we--they--we had money, and there were some other people that had money, probably, but that were afraid to use it. We're never afraid to use it. But we are afraid to use money that we might need under the most extreme circumstances. I envision a situation where the stock markets close. Now, in your lifetime, the only time it's closed for any length of time was after 9/11.

QUICK: Right.

BUFFETT: But if you go back to 1914, my friend Kay Graham's father, Eugene Meyer, they closed the stock exchange for months. You never know what's going to happen in finance, and you--you've got to be prepared for extraordinary things. And if you're going to last a hundred years, it means you have to last every day of the a hundred years. It isn't good enough to last 99.9 percent. So we're prepared for that.

QUICK: OK. Warren, we have a lot more questions to get to. We have to still ask you about what you think about Coca-Cola's deal. But if you're willing to stand by for a minute, we're going to get to some of the other top headlines of the morning.

BUFFETT: I'm not going any place.

QUICK: OK. So why don't--why don't you tell us about some of those things, and then we'll get back to more questions with Warren.

KERNEN: All right, let's get to some of these top stories.

(News headlines)

QUINTANILLA: You got--you got something to add, Beck?

QUICK: Yeah. Actually, we were just listening to what you were talking about with the earthquakes, and Warren mentioned that they write earthquake insurance, too, and thought maybe we could get his thoughts on what happened with Chile over the weekend, too.

KERNEN: Yeah, that's a...

BUFFETT: Well, you're right about that--about a nine being a hundred times what a seven is. The power is just unbelievable. If you go back to the New Madrid quake in the United States back in the early 1800s, the Mississippi ran backwards and church bells in Boston were ringing from it. So earthquakes have enormous power. But I--most of our earthquake exposure's in California, and I have a sister that lives in Carmel, and I tell her to call me anytime the dogs and cats start running in circles so that we can cancel all the policies.

QUICK: With...

KERNEN: You have to move fast.

QUICK: Over the...

QUINTANILLA: Meow!

BUFFETT: Yeah. No, but she's on her toes.

QUICK: You know, over the weekend, though, with any of the stuff you said, mostly it's in California and beyond. But California was under a tsunami watch. Does that cover--are you covering those things, too, if it was the--if it was the aftereffect of an earthquake?

BUFFETT: Well, it's interesting. The--one of the--we have a big policy on something called fire following a quake. And the terminology in the quake business is the losses come from shake and bake. And the shake cost is covered by your earthquake policy, and the bake is covered by your homeowner's fire policy. A lot of people don't have an earthquake policy. So they have a great incentive to say that their house went from a fire and not from the quake itself. But, you know, in the San Francisco earthquake it was caused by fire.

QUICK: Yeah, exactly.

BUFFETT: I--if you have a big quake--the Pacific Northwest is vulnerable to a very big quake, too. But, really, the Midwest is very occasionally.

QUICK: Yeah.

BUFFETT: There was some itinerant preacher wandering around about 15 years ago saying that there was going to be a huge quake in the Midwest. People actually bought a lot of policies based on that. I'd like to find that guy so we could send him out again, because...

QUICK: Well, there's a minor--there was a minor earthquake in Chicago just a few weeks ago.

BUFFETT: Yeah, exactly. Oh, they're going to happen every place.

QUICK: See--yeah.

BUFFETT: I mean, this globe has got a lot of potential.

KERNEN: So he was an itinerant preacher walking around saying there was going to be a quake, like the end is near, or?

BUFFETT: Yeah, like December 11th, you know, 1992. And people ran out and bought policies. I mean, this guy was not an underwriter.

KERNEN: No, he's--he--I think he's moved on, he's got a global...

QUINTANILLA: He's now working for Geico.

KERNEN: He's working for Gore now. No, he's got a global warming sign, "The end is near," I think. He's moved on. That's a lot more...

QUINTANILLA: You saw the op-ed over the weekend?

KERNEN: I certainly did. I certainly did. I...

QUICK: I thought we were going to get into this.

KERNEN: `I swear it's true, I swear!'

QUICK: Al Gore had an op-ed in The New York Times. You saw it?

BUFFETT: I saw that.

QUICK: Oh, you saw it.

KERNEN: `I swear it's true!'

BUFFETT: Well, you saw that--there was a section in the Berkshire report called "An Inconvenient Truth" this year.

QUICK: Yeah, but it's referring to the warming in the--too much heat in the boardroom...

BUFFETT: In the boardroom.

QUICK: ...not in the other places and around.

BUFFETT: Yeah, right.

KERNEN: Of course, yeah.

QUICK: You know, Warren, I'd like to get to a few questions that people have sent in regarding Berkshire shares.

BUFFETT: Sure.

QUICK: And what they read in the letter and questions that they additionally have. One question came in from Dan O'Neil in Brookline, Massachusetts, who said, "When Lou Simpson retires," he's currently in his 70s, "who will manage Geico's surplus?"

BUFFETT: If Lou were to retire tomorrow, I would manage it. Lou has done a magnificent job of running Geico's investments for over 20 years. And when we bought Geico--all of Geico in 19--early 1996, we just left that as-is, and Lou's done a terrific job. He's made a lot of money through incentive pay because we'd be--we pay him based on how he does vs. the--vs. the market. But if he told me he wanted to retire tomorrow--and he won't--I would just take it over myself. When something happens to me, it's very likely that all of the Berkshire investments get farmed out over maybe three or thereabouts different managers who will then work for a CEO who will be in charge of the whole place.

QUICK: OK, we have another question that comes in from Lindsay Schumacher in Cedar Rapids, Iowa, who says, "What are the anticipated impacts on Berkshire Hathaway businesses (if any) from the recent ratings downgrade?" And another way to put this is, `Is the amount of capital required to maintain a AAA rating really worth it to the shareholder?'

BUFFETT: Yeah. It has virtually no impact on us. I mean, it--if it--maybe 5 basis points, who knows? But we sold 8 billion of debt right after the second downgrade, the one that came from S&P, and it had no effect on the sale.

QUICK: It had no...

BUFFETT: A triple--a AA and a--it's--I'd like to have the AAA. I think we deserve that. I think we deserve a AAAA, but they haven't gotten around to that. But it isn't--if you're looking at it from a standard model arrangement, it isn't worth it to have it in terms of return on capital. They have a model which we don't fit very well, that we're somewhat different than other organizations in terms of the configuration of Berkshire. So they've always struggled a little bit with us. But we now have been downgraded by Standard & Poor's as well as Moody's, and our credit spreads are way down.

QUICK: We will ask you more about that, because we have some people who have questions about credit defaults swaps and what they're showing with Berkshire right now as well. We've also got to get to Coca-Cola, which we're going to get your first news on what you think about that Coca-Cola news since it came out--as he drinks his Cherry Coke right here. And we'll get to many more of these shareholder questions that are coming up, too. Thousands of you have written in, and we will answer as many of those questions as we can. SQUAWK BOX will be back right after this.

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