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  "Our experience in shifting from savings and loan operation to ownership of Freddie Mac shares tends to confirm a long-held notion that being prepared, on a few occasions in a lifetime, to act promptly in scale, in doing some simple and logical things, will often dramatically improve the financial results of that lifetime," said Munger. "A few major opportunities clearly recognizable as such, will usually come to one who continuously searches and waits, with a curious mind, loving diagnosis involving multiple variables. And then all that is required is a willingness to bet heavily when the odds are extremely favorable, using resources available as a result of prudence and patience in the past."

  When a similar opportunity arose to buy Fannie Mae shares, Buffett and Munger faltered. Buffett said they should have taken a large stake in Fannie Mae as well.

  "My biggest lost opportunity was probably Fannie Mae. We owned a savings and loan, and that entitled us to buy 4 percent of Freddie Mac stock when it first came out. We did this and should have followed the same reasoning and bought more Fannie Mae stock. What was I doing? I was sucking my thumb."

  By 1989, THE ATMOSPHERE IN the S&L industry had become stultifying. Thrift institutions were folding all over the country and the administration of President George Bush had put in place a massive bail-out mechanism. Munger likened the process to "a Chevy Chase movie of extreme duration," and he cut no slack for industry leaders who, with their selfserving positions and lobbying in Washington, sought to save their own skins by perpetuating a bad situation.'

  "Charlie and I really thought what was going on was awful. We wanted no part of it. We both had a certain fervor," said Buffett.

  Like most S&Ls in the early 1980s, Mutual Savings belonged to the powerful trade and lobbying organization, the United States League of Savings Institutions. Munger shocked both the thrift industry and everyday citizens who kept their life savings in S&Ls, with a flaming letter to the U.S. League protesting the group's unwillingness to hack S&I. reforms.

  The letter was dated May 30, 1989.' It follows:

  Gentlemen:

  This letter is the formal resignation of Mutual Savings and Loan Association from the United States League of Saving Institutions.

  Mutual Savings is a subsidiary of Wesco Financial Corporation, listed ASE, and Berkshire Hathaway Inc., listed NYSE, which are no longer willing to he associated with the League.

  Mutual Savings does not lightly resign after belonging to the League for many years. But we believe that the League's current lobbying operations are so flawed, indeed disgraceful, that we are not willing to maintain membership.

  Our savings and loan industry has now created the largest mess in the history of U.S. financial institutions. While the mess has many causes, which we tried to summarize fairly in our last annual report to stockholders, it was made much worse by (1) constant and successful inhibition over many years, through League lobbying, of proper regulatory response to operations of a minority of insured institutions dominated by crooks and fools, (2) Mickey Mouse accounting which made many insured institutions look sounder than they really were, and (3) inadequate levels of real equity capital underlying insured institutions' promises to holders of savings accounts.

  It is not unfair to liken the situation now facing Congress to cancer and to liken the League to a significant carcinogenic agent. And, like cancer, our present troubles will recur if Congress lacks the wisdom and courage to excise elements which helped cause the troubles.

  Moreover, despite the obvious need for real legislative reform, involving painful readjustment, the League's recent lobbying efforts regularly resist minimal reform. For instance, the League supports (1) extension of accounting conventions allowing `goodwill' (in the financial institutions' context translate `air') to count as capital in relations with regulators and (2) minimization of the amount of real equity capital required as a condition of maintenance of full scale operations relying on federal deposit insurance.

  In the face of a national disaster which League lobbying plainly helped cause, the League obdurately persists in prescribing continuation of loose accounting principles, inadequate capital, and, in effect, inadequate management at many insured institutions. The League responds to the savings and loan mess as Exxon would have responded to the oil spill from the Valdez if it had insisted thereafter on liberal use of whiskey by tanker captains.

  It would be much better if the League followed the wise example, in another era, of the manufacturer which made a public apology to Congress. Because the League has clearly misled its government for a long time, to the taxpayers' great detriment, a public apology is in order, not redoubled efforts to mislead further.

  We know that there is a school of thought that trade associations are to be held to no high standard, that they are supposed to act as the League is acting. In this view, each industry creates a trade association not to proffer truth or reason or normal human courtesy following egregious fault, but merely to furnish self-serving nonsense and political contributions to counterbalance, in the legislative milieu, the selfserving nonsense and political contributions of other industries' trade associations. But the evidence is now before us that the type of trade association conduct, when backed as in the League's case by vocal and affluent constituents in every congressional district, has an immense capacity to do harm to the country. Therefore, the League's public duty is to behave in an entirely different way, much as major-league baseball reformed after the "Black Sox" scandal. Moreover, just as client savings institutions are now worse off because of the increased mess caused by League short-sightedness in the past, client institutions will later prove ill-served by the present short-sightedness of the League.

  Believing this, Mr. Warren E. Buffett and I are not only causing Mutual Savings to resign from the U.S. League of Savings Institutions; we are also, as one small measure of protest, releasing to the media, for such attention as may ensue, copies of this letter of resignation.

  Truly yours,

  Charles T. Munger

  The U.S. League was clothed in the righteousness of the majority, and was fortified by friends in the administration. Jim Grohl, spokesman for the League, told the Washington Post that he wouldn't debate Munger's letter, but added, "I think we have represented the views of our membership. I can assure you we have more resignations from members who think the League is not pressing hard enough to change the Bush plan."'

  Incidentally, Munger's fury at the S&L industry did not mean he opposed the concept of deposit insurance, as did some government critics. Quite the contrary in Munger's case: "I want banking insured. Bank panics are for the birds."9

  That same year Munger resigned Mutual Savings from the League, congress proposed legislative reforms to the industry.

  The next year Munger wrote: "When Wesco's annual report went to press last year, Congress was mid-course in considering revisions to the savings and loan laws. But it was clear that associations were shortly to be 're-regulated' into some mode less likely to cause a fresh torrent of deposit-insurance losses, borne by taxpayers. Provoking that legislative action was a previous torrent of losses which now seem likely to exceed $150 billion. These losses were caused by a combination of (1) competitive pressure on the `spread' between interest paid and interest received put on associations and banks when federal deposit insurance is provided to entities free to pay any interest rates they wish in order to attract deposits, (2) loose asset deployment rules for associations, (3) admission and retention of crooks and fools as managers of associations without regulatory objection, (4) general real estate calamities in certain big regions, and (5) continuous irresponsible protection and enhancement of unsoundness by the savings and loan lobby and certain members of Congress beholden to the most despicable savings and loan operators.""'

  Munger took some pride in the idea that Mutual Savings contributed to tough legislative action by his dramatic and widely printed resignation letter from the U.S. League of Savings Institutions. Just as he had on the issue of legal
ized abortions, Munger had taken off on a divergent path from his friends in the Republican party. The U.S. League leadership was heavy with California supporters of President Reagan. As is traditional, the Federal Home Loan Bank Board was headed by a presidential appointee. In this case, it was a man who formerly worked for California S&L baron Gordon Luce, an old friend of Reagan's, and a major Republican party contributor.

  At the same time Munger was haranguing the government and industry leaders over the S&Ls, he helped deal with legal problems at the Buffalo News. The surgery on his left eye went awry and he had to learn to live with limited vision. The year he wrote the scathing letter resigning from the S&L League, 1989, his beloved oldest sister Mary died after years of suffering from Parkinson's Disease.

  In Wesco's 1989 annual report, Munger said Mutual Savings expected to stay in the S&L business if all went well, but if not, it would get out of the business all together. Despite his optimism that legislative reform would be for the better, it was not. Munger's frustration with the S&L business grew. He described some of the new instruments then being purchased by S&Ls as nothing short of ridiculous.

  "As we select mortgage-hacked securities, we will probably not be buying any complex instruments. Despite our love of comedy, we are going to avoid the newest form of 'Jump Z tranches in REMICS.' This refers to a particular contractual fraction-the 'Z Form'-of a pool of mortgages, now subdivided by obliging issuers, advised by obliging investment bankers, into two new contractual fractions: (1) the 'sticky Jump Z' and (2) the 'non-sticky Jump Z.' At this rate, subdivision will soon get down to quarks. We are deterred from buying such securities partly by our hatred of complexity. We also dread the prospect of state and federal examiners, none of whom has a PhD in physics, reviewing, one after the other, our choices for soundness and billing us on a cost-plus basis to reflect value thus added. Some of the wonders of modern finance go on without us as we yearn for a lost age when most reasonable people could, with effort, understand what was going on.""

  The U.S. League, which in 1989 had about 2,800 S&Ls as members, eventually collapsed, and Munger's gloomy predictions regarding the cost of deregulation came to pass. Ultimately, the savings and loan crisis became one of the greatest financial scandals in the nation's history. It took nearly a decade to resolve and some analysts claim it cost taxpayers $1 trillion, or $4,000 for every man, woman and child in the United States.'

  BUT BEYOND THE ABSURDITY OF IT ALL, Munger realized that the new federal law would have a negative impact on Mutual Savings, a company that was a far different animal from most S&Ls, and had been for quite some time.

  Under the re-regulation of S&Ls, Mutual Savings would be forced to dispose of a portfolio of high quality preferred stocks of companies that paid a dividend yield of 10.8 percent per year. The portfolio was carried on the books at a value of $41.1 million at the end of 1989. The sale of the securities would bring Mutual a profit of about $8.7 million, but deprive it of a remarkably high yield from the investments.

  Linder the new law, Mutual would need to sell its convertible preferred stock of Salomon Inc. which had a tax-advantaged dividend rate of 9 percent per year. The securities had been acquired for $26 million, and though Munger felt that a profit would he realized on the sale of those securities as well, he preferred to play out the Salomon hand in his own way.

  The law required that Mutual Savings hold 70 percent of its $300 million in assets primarily in real estate loans. Additionally, deposit insurance premiums would be increased. "... by the mid-1990s the new premium rates will reduce Mutual Savings' annual earning power by about $200,000 from the level which would have occurred if it were still paying at the 0.083 percent-of-deposits rate which was in effect for years, instead of the new rate of 0.23 percent," Munger told shareholders.'3

  In 1992, Mutual Savings gave up its S&L charter, liquidated many of its assets, and in 1993 Wesco became a financial holding company not regulated under the S&L laws. Munger explained that the S&L took up a lot of his time in relation to the capital that was involved. About $300 million in capital was transferred to Wesco-Financial Insurance Co., which did business from Berkshire's National Indemnity offices in Omaha. Wes-FIC writes su- percatastrophe insurance or "supercat" coverage. Wes-FIC kept Mutual Savings' Freddie Mac stock, however, Mutual Savings had previously sold its $92 million loan portfolio and its $230 million in deposits to CenFed Financial Corp. CenFed took over the operation of Mutual Savings' two offices.

  By the time Wesco dedicated most of its assets to the insurance business, Berkshire had built one of the world's largest property-casualty insurance organizations in terms of capital. It seemed like a good business for Wesco and a good fit for Munger and Buffett. "So why shouldn't we do more of what works well for us and what's less complicated," Munger asked.'

  Tiiut ;ii Mt r'u; EASED WESCO OUT of the S&L business, he was not fully convinced that it would be an easy go as a holding company, since it had become so difficult to find good acquisitions.

  "To Wesco, which does not engage in leveraged buy-outs, making good acquisitions was always tough," said Munger. And that game has become increasingly like fishing for muskies at Leech Lake, in Minnesota, where Munger's earliest business partner, Ed Hoskins, had the following conversation with his Indian guide:

  "Are any muskies caught in this lake," asked Hoskins.

  "More muskies are caught in this lake than in any other lake in Minnesota. This lake is famous for muskies.

  "How long have you been fishing here?"

  "Nineteen years."

  "How many muskies have you caught?"

  "None. "'s

  "Wesco continues to try more to profit from always remembering the obvious than from grasping the esoteric," said Munger. "It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent. There must be some wisdom in the folk saying, `It's the strong swimmers who drown.'"

  Nevertheless, some of the businesses acquired by Wesco did not perform well. Such was the case with New American Electric, a company discovered by Glen Mitchel, a Caltech electrical engineer and a friend whom Munger believed had good business abilities.

  Charlie suggested Mitchel buy the business, and agreed to go into it with him. Charlie was short of cash at the time, so he and Rick Guerin invested in the electrical supply company through the New America Fund. For years New America Electric, which sold electrical equipment to Southern California home builders and mobile home parks developers, was a cash cow.

  It was still a cash cow when New America Fund liquidated. At that time Munger gave Mitchel three choices: (1) distribution of New America Electric shares to New America Fund shareholders, which would turn New America Electric into a small publicly traded company, dominated by Mitchel; (2) sell New America Electric in its entirety in any way Mitchel wished; or (3) have Wesco buy 80 percent of New America Electric at a price approved by Buffett, 70 percent coming from New America Fund and 10 percent coming from Mitchel, leaving him with 20 percent. Mitchel selected the third alternative. However, business conditions soon changed and Mitchel's choice appeared far from optimal for Mitchel, bad for Wesco, and good for New America Fund shareholders like Munger. The next year California went into one of its periodic real estate nose dives and the company lost about 30 percent of its value.

  "It was the worst recession in Southern California since the Depression. New America Electric got clobbered," said Munger. "Wesco sold it at a moderate loss. It wasn't as if I knew it was going to result in a loss to Wesco. If so, I would have never done it. It was very embarrassing."

  BESIDES THE FREDDIE MAC STUCK and some preferred shares, all that remains from Wesco's Mutual Savings days is a small real estate subsidiary, MS Property Company, that holds tag ends of assets and liabilities with a net book value of about $13 million. MS Property manages office buildings in downtown Pasadena and a small shopping center in Upland, California. It was under Wesco's property seg
ment that Munger developed "Mungerville," or Montecito Sea Meadow in Santa Barbara.

  As it has evolved today, Wesco can be divided into an investment segment, the securities in its insurance subsidiaries, and its business portion. In one year, 47 percent of Wesco's net income came from realized gains on securities it held.

  At the end of 1999, Wesco's consolidated balance sheet contained $2.8 billion of marketable securities, stated at market value. The largest holding was Freddie Mac, with a value of $1.9 billion. This holding is the 28.8 million shares of Freddie Mac purchased in 1988 for $71.7 million. The second and third largest holdings were shares of The Coca-Cola Company and The Gillette Company, with a combined value of $800 million. Like Berkshire, Wesco has held preferred stock positions in Travelers, U.S. Airways, and small equity positions in American Express and Wells Fargo.

  Wesco's business segments fall into two major categories-insurance and industrial. The company has four major subsidiaries: Wesco-Financial Insurance Company (Wes-FIC, the Omaha-based supercat re-insurer), the Kansas Bankers Surety Company, Precision Steel, and Cort Business Services Corp.

  At the end of 1999, the Wes-FIC subsidiary held $2.5 billion in investment assets. Munger called it "a very strong insurance company with very low costs ...... Nevertheless, Munger often has warned shareholders that "supercat reinsurance is not for the faint of heart. A huge variation in annual results, with some very unpleasant future years for Wes-FIC is inevitable."',

  As part of its on-going search for appropriate acquisitions, Kansas Bankers Surety Company was purchased in 1996 for $80 million in cash. Founded in 1909, the Topeka, Kansas, company insures about 1,200 banks, including 70 percent of the banks in Nebraska. Originally the KBSC served mainly as a deposit guarantee company.