Munger on Banking — collected commentary from Daily Journal and Wesco AGMs
Banking is a business where you can do really well if you don't do anything stupid, and it's a business where you can lose your shirt overnight if you do.
The trouble with banking is that the temptation to do dumb things in pursuit of growth is enormous. When you can borrow at 2% and lend at 5%, with leverage, the gross income looks fantastic. But when the credit losses come — and they always come — that thin margin disappears fast.
Wells Fargo, in its better days, was a model bank — disciplined, low-cost, customer-focused. They learned the lesson that the best deposit franchise in the world is local consumer banking, where the cost of funds is essentially zero and customer relationships are sticky for decades.
The 2008 crisis was completely predictable to anyone who understood incentives. When mortgage originators were paid for volume but bore no credit risk, when rating agencies were paid by issuers, when CDO structurers were rewarded for placement not quality — every incentive in the chain pointed to bad outcomes.
I have been amazed at how dumb regulators have been at controlling banks. The thing about leverage is that it always works for a while, until it doesn't. And then everyone who relied on the system gets hurt — not just the gamblers but everyone.
The right lesson is that banks make money by being prudent and patient lenders to the local community over generations. Not by chasing yield, not by leveraging the balance sheet to chase trading profits, not by playing in derivative markets they don't understand.
If I were Czar of banking, I would have very simple rules: high capital, low leverage, no proprietary trading, no exotic securities, lend in the community you understand. The fact that this would cut bank profitability in half is exactly the point — banks should not be more profitable than the underlying economy they serve.
— Charlie Munger
Banking is a business where you can do really well if you don't do anything stupid, and it's a business where you can lose your shirt overnight if you do.
The trouble with banking is that the temptation to do dumb things in pursuit of growth is enormous. When you can borrow at 2% and lend at 5%, with leverage, the gross income looks fantastic. But when the credit losses come — and they always come — that thin margin disappears fast.
Wells Fargo, in its better days, was a model bank — disciplined, low-cost, customer-focused. They learned the lesson that the best deposit franchise in the world is local consumer banking, where the cost of funds is essentially zero and customer relationships are sticky for decades.
The 2008 crisis was completely predictable to anyone who understood incentives. When mortgage originators were paid for volume but bore no credit risk, when rating agencies were paid by issuers, when CDO structurers were rewarded for placement not quality — every incentive in the chain pointed to bad outcomes.
I have been amazed at how dumb regulators have been at controlling banks. The thing about leverage is that it always works for a while, until it doesn't. And then everyone who relied on the system gets hurt — not just the gamblers but everyone.
The right lesson is that banks make money by being prudent and patient lenders to the local community over generations. Not by chasing yield, not by leveraging the balance sheet to chase trading profits, not by playing in derivative markets they don't understand.
If I were Czar of banking, I would have very simple rules: high capital, low leverage, no proprietary trading, no exotic securities, lend in the community you understand. The fact that this would cut bank profitability in half is exactly the point — banks should not be more profitable than the underlying economy they serve.
— Charlie Munger