Berkshire Hathaway
You are probably right, and it is certainly not the recommended AA. I had been trying to diversify out of Berkshire the last few years, but the net effect of that diversification has been negative so far compared to Berkshire's returns and so my BRK percentage is still very high. I diworsified in other words.
I guess the reason my risk tolorance has been so high is because I've never had a real job but always worked on commission or owned a business. When I owned the business all my eggs were in that one basket and it paid off pretty well (except for my exit strategy). I funnelled almost all of the profits of the businness into Berkshire over the years and that has paid off pretty well. So, I guess old habits are hard to break, but now that I'm not working I am having second thoughts about blowing myself up.
If Berkshire failed and I had 50% AA would it blow me up? Yes. Well, it would blow retirement up and I would have to go back to work.
25%? I think I can cut expenses to still stay in ER at this level.
How could Berkshire blow itself up ?
1. Sell a bad reinsurance policy-- they actually did this back around 911 when they realized a large policy didn't have WMD disclaimers on it so that was scary.
2. Next management team is ineffective-- I don't think they will hire someone stupid, but they could certainly become arrogant or ineffective over the years so there is risk over time they may not do well so the new team would be on a short leash.
3. Warren/Charile die-- that is certain to happen and while it will cause ST price pressures it will not IMO kill the company unless #2 above happens. May see a dividend goinig forward with new management if they are unable to spot good uses for capital, which would be fine with me.
What are the odds Berkshire will totally blow itself up? 1-5% maybe?
I wonder what the odds makers would have said about Lehman, Bear, et al about blowing up in comparison to Berkshire. Their balance sheets were way overleveraged compared to Berkshire's, and the risk model they used, VaR, (
Yappa Ding Ding: Risk Part 3: Case Study - How Poor Risk Management Caused the Crisis) focused on the 95-99% of the time the system did work but ignored the 1-5% when it didn't work.
Much of the probability and statistics work—for instance, Monte Carlo simulations like in Firecalc—are based upon thousands and thousands of spins of the wheel. But if you kill yourself that one time, you can’t spin again.
In the current crisis, it has turned out that the unlucky outcome was far more likely than the backtested models predicted. What is worse, the various supposedly remote risks that required trivial capital are highly correlated; you don’t just lose on one bad bet in this environment, you lose on many of them for the same reason. This seems to be what happened to the traditional divirsification across different asset classes-- the different classes were actually closely correlated and the entire portfolio went down. I guess my point is if you divirsify across different asset classes according to standard theory but you really don't understand the correlation because you really don't understand what's in all the asset classes, then you could be in trouble in times like we are having now.
So yes, my underdivirsification is a risk, but hopefully one I can quantify so it doesn't blow me up.
Thoughts?