2001: Why did Buffett sell Freddie Mac?

AUDIENCE MEMBER: My name is Steve Sondheimer. I live in Chicago and I’m 14 years old. I’m a third generation shareholder and my question is, I noticed that you sold our position in Freddie Mac. What risks do you see in that industry?

WARREN BUFFETT: Are you Joe’s granddaughter?

AUDIENCE MEMBER: Yeah.

WARREN BUFFETT: Oh, good. We have an amazing number of second and third and even fourth generation shareholders, which I’m delighted with. I mean, I don’t think lots of companies — big companies on the stock exchange — are in that position.

It is true, we sold the Freddie Mac stock last year. And there were certain aspects of the business that we felt less comfortable with as they unfolded — and Fannie Mae, too.

And the consequences of what we saw may not hurt the companies, I mean, at all. But they made us less comfortable than we were earlier, when, actually, those practices or activities didn’t exist.

We did not — I would stress — we did not sell because we were worried about more government regulation of Freddie and Fannie. If anything, just the opposite, so —

It was not — it was not — Wall Street occasionally will react negatively to the prospect of more government regulation and the stocks will react sometimes short-term for that reason. But that was not our reason. We were — we felt the risk profile had changed somewhat.

Charlie?

CHARLIE MUNGER: Yeah, but that may be a peculiarity of ours. We are especially prone to get uncomfortable around financial institutions.

WARREN BUFFETT: We’re quite sensitive to —

CHARLIE MUNGER: Yeah.

WARREN BUFFETT: — risk in — whether it’s in banks, insurance companies or in what they call GSEs here, in the case of Freddie and Fannie.

We feel there’s so much about a financial institution that you don’t know by looking at just figures, that if anything bothers us a little bit, we’re never sure whether it’s an iceberg situation or not.

And that doesn’t mean it is an iceberg situation, in the least, at banks or insurance companies that we pass.

But we have seen enough of what happens with financial institutions that push one way or another, that if we get some feeling that that’s going on, we just figure we’ll never see it until it’s too late anyway.

So we bid adieu without — and wish them the best — without any implication that they’re doing anything wrong. It’s just that we can’t be 100 percent sure of the fact they’re doing things that we like.

And when we get to that situation, it’s different than buying into a company with a product or something, or a retail operation. You could spot troubles usually fairly early in those businesses. You spot troubles in financial institutions late. It’s just the nature of the beast.

Charlie?

CHARLIE MUNGER: Yeah. Financial institutions tend to make us nervous when they’re trying to do well. (Laughter)

That sounds paradoxical, but that’s the way it is.

WARREN BUFFETT: Financial institutions don’t get in trouble by running out of cash in most cases. Other businesses, you can spot that way.

But a financial institution can go beyond the point — and we had banks 10 years ago that did that, en masse — but they can go beyond the point of solvency even while they still have plenty of money around.