Wednesday, March 2, 2011

Importance of liquidity

Extracted from Berkshire Hathaway 2010 Annual Report.

Every serious investor should read Berkshire Hathaway annual report. Obviously you should know that the biggest take away I have after reading 2010 Berksire annual report is the importance of liquidity.

Who would have known that the simple lesson that you learned at home help you run business. Who would have imagined that $ 1,000 reserve lesson has help one of the richest man on the planet to manage a multi-billion $$$ business. Berkshire has a policy at any one time of keeping $ 20 billion cash. Average earning of Berkshire for the period of 2006 - 2010 is roughly about $ 6 billion/year. This translates to easily about 3.3 years of earnings. Wow! A normal personal finance consultant will ask you to keep a reserve of 6 months salary and if we want to apply this rule, it will be 36 months. It's very conservative but that's what margin of safety is. You should be able to outlast any bear market if you have 36 months of cash(salary) in hand. Cash, truly, is king!

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