B000U5KFIC EBOK (32 page)

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 legalized 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.'"