Letter to Shareholders
“Buffett's 1996 letter on the GEICO turnaround, why insurance float is Berkshire's most valuable asset, and the dangers of complexity in investing.”
Key Points
- GEICO policies grew 12% as turnaround strategy gained momentum
- Explained why insurance float compounds at rates that would be impossible without it
- Berkshire's book value grew 31.8% far exceeding the S&P 500's 20% gain
- Most investment complexity destroys value rather than creating it
1996 Letter to Shareholders
To the Shareholders of Berkshire Hathaway Inc.
In 1996, Berkshire's book value grew 31.8%, our best performance relative to the S&P 500 in years. This performance came not from clever trading but from the compounding of excellent businesses held for decades.
"Complexity is the enemy of execution. Most investment products and strategies are far more complex than they need to be, and this complexity costs investors far more than it delivers."
GEICO: The Turnaround Continues
In 1996, GEICO policies in force grew by 12%—the best growth rate in over a decade. The turnaround that Tony Nicely began in 1993 continued to gain momentum.
The key to GEICO's success is simple: lower prices and better service than competitors. Our direct sales model eliminates the agent commission that adds 15-20% to competitors' costs. We pass these savings to policyholders.
GEICO's technology investments are paying off. Our quote system can provide coverage in 20 minutes, and our policy issuance is nearly instantaneous. These improvements in customer experience translate directly into growth.
Insurance Float
Our insurance float grew to $22 billion in 1996. This float—held for decades, invested at high rates of return—is the foundation of Berkshire's investment strategy.
The magic of float is that it compounds without taxation. Every dollar of float we retain generates returns that build on prior returns. Over decades, this compounding effect is enormous.
The Perils of Complexity
Most investors are drawn to complexity. They believe that sophisticated strategies and complex products must be better than simple ones. They are wrong.
Every layer of complexity adds cost. Every complexity adds the possibility of misunderstanding. And complexity makes it impossible to evaluate the true risk-return characteristics of an investment.
Simplicity, by contrast, is transparent. You can see exactly what you own, exactly what you are paying, and exactly what risks you are taking. This transparency is invaluable.
Looking Forward
Our approach remains simple and will remain simple:
- Own excellent businesses — Quality compounds; mediocrity erodes
- Hold forever — Time is the investor's best friend
- Think independently — The crowd is usually wrong at extremes
- Stay simple — Complexity is the enemy of good investment returns
Warren E. Buffett February 1997
Concepts in This Letter
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