The Federal Reserve’s decision to lower interest rates for the third time this year was widely expected. However, trying to predict what the future holds for interest rates and the economy in general tends to be almost impossible.
The global economy is a complex system, with billions of moving parts driving demand, consumption and activity. Trying to predict what all of these billions of consumers and companies are doing, or are planning to do over the next few weeks, months or even years is impossible.
But that does not stop Wall Street from trying. There are hundreds of macro analysts that work to predict the direction of the global economy and offer advice on how to trade it.
Considering the uncertainty this comes with, it is no surprise that Warren Buffett (Trades, Portfolio) likes to ignore what the news tells him when it comes to macro factors. His advice on the topic of macro investing is particularly relevant right now, considering the uncertainty that clouds the outlook for the global economy.
What is not knowable
Speaking to MBA students at the University of Florida in 1998, Buffett said that he does not concern himself with the “macro stuff” because it is so difficult to understand. “What you really want to do in investments,” Buffett went on to explain, “is figure out what is important and knowable. If it is unimportant and unknowable, you forget about it. What you talk about is important [macro factors] but, in my view, it is not knowable.”
What is knowable is what falls inside of your circle of competence, and for Buffett, those are companies like Coca-Cola and Wrigley’s.
Understanding Coca-Cola is knowable or Wrigley’s or Eastman Kodak. You can understand those businesses that are knowable. Whether it turns out to be important depends where your valuation leads you and the firm’s price and all that. But we have never not bought or bought a business because of any Macro feeling of any kind because it doesn’t make any difference.
Let’s say in 1972 when we bought See’s Candy, I think Nixon put on the price controls a little bit later, but so what! We would have missed a chance to buy something for $25 million that is producing $60 million pre-tax now. We don’t want to pass up the chance to do something intelligent because of some prediction about something we are no good on anyway.
Concentrate on companies you know
The primary takeaway from these comments is that the macro environment is totally unpredictable. Therefore, it does not make sense to try and guess what may or may not be about to happen.
On the other hand, you can, to some degree, predict how a company will be trading five or ten years from now if you know that business. Buffett went on to give the examples of General Re and Executive Jet, two acquisitions Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) had completed in 1998. It might have been impossible at the time to tell where interest rates were heading, but you could assume, with a reasonable degree of certainty, that five to ten years later people would still want to fly on private jets, and there would always be a demand for insurance.
This advice is just as relevant today as it was 20 years ago. There’s no telling how the Fed will react with interest rates during the next 24 months, but in five years, it’s highly likely people will still be using Apple phones, drinking Coca-Cola and using banks like Bank of America. Concentrating on understanding these businesses rather than trying to predict the unknowable is probably the best use of any investor's time.
Disclosure: The author owns shares in Berkshire Hathaway.
Read more here:
- Why Warren Beffett Decided to Enter the Utility Business in 1999
- Learning From Warren Beffett's Mistakes
- Seth Klarman: 'What I've Learned From Buffett'
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