• Embed Doc
  • Copy Link
  • Readcast
  • Collections
  • CommentGo Back
Download
 
The Inoculated Investorhttp://inoculatedinvestor.blogspot.com/ 
In Defense of the Oracle
With Berkshire’s Q2 results due out later today, there is a whole lot of Buffett bashing going on in the blogosphere.In an article in Seeking Alpha today, Rolfe Winkler says that he feels betrayed by Warren Buffett. Also, Karl Denninger of The Market Ticker, a site that I follow daily, claims in this piece that Buffett is a hypocrite for blasting the bailout while investing in companies that benefited mightily from government assistance. The reason for thiscriticism? It seems that someone has leaked that BRK is about to announce blowout numbers, a fact that apparentlyrubs some people the wrong way, given the state of the economy.Assuming BRK did actually experience a large recovery in book value and a significant positive reversal of thevalue of its derivative exposure, the question is should we be upset? With 9.5% (as of today, probably moretomorrow) of Americans unemployed and over 16% under-employed, should we begrudge companies andindividuals that have seen their fortunes improve since the free fall the US economy experienced in Q4 2008 and Q12009? I actually don’t think either of those questions can be answered in generalities. Some people seem to relishcriticizing the capitalist machine as a whole, but from my perspective that lumps too many companies in together without considering their roles in facilitating the near collapse of our financial system or the means in which theyhave been able to regain their thunder.Specifically, BRK is not Goldman Sachs (GS) and I think it is unfair and foolish to put them in the same basket. Asthis articlein NY Times today reminds us, there are a lot of people who are very unhappy about Goldman’s bonusaccrual, high VAR, and proud refusal to change its risky business model that brought the company near collapse(apparently in a classic example of revisionist history, Goldman now disputes this fact even though it had to turnitself into a bank holding company just about overnight so it could have access to Fed funds). Furthermore, GS’s blowout Q2 profits and amazing trading record (on 46 days during Q2 GS made $100M or more in trading!) havemade many, including myself, concerned that GS is playing fast and loose with implicit taxpayer support.While the differences are obvious to people familiar with these companies, I think it is valuable to contrast thefactors that helped GS record a great Q2 with those that have buffeted BRK. First, GS received 100 cents on thedollar from AIG to the tune of $13B while Merrill Lynch apparently only got $.17 for its claims against the troubledinsurer. GS has also issued $3.4B in debt backed by the FDIC at rates well below those that companies that did nothave backing (think CIT and the 13% rate the company is paying on new debt
 
) had to pay. Also, being allowed toconvert to a bank holding company gave GS access to the Fed’s discount window without having to comply withregulations that govern such companies for 2 years. In effect, for 2 years GS gets all the benefits of being under theFed’s too big to fail umbrella without any real detrimental impact on the business model.On other hand, BRK has benefitted mainly from rising markets and slowly improving economic conditions. Theabsolute free fall the economy was in late 2008 and early 2009 seems to have subsided. So, while BRK’s operatingcompanies that cater to consumers will likely continue to face headwinds, it is logical to conclude that the bounceoff the bottom helped many of these companies in Q2. Also, the huge rally in the US equity markets has allowedBRK to recoup a decent chunk of the losses it experienced when the companies it owns big stakes in plummeted in price.According to today’s article from Bloomberg:The value of shares Berkshire reported holding as of March 31 increased 23 percent in the second quarter.Berkshire is the largest shareholder inAmerican Express Co., whose stock rose 71 percent in the threemonths ending June 30. Buffett’s firm is also the biggest investor in Wells Fargo & Co.,which jumped 70  percent, Goldman Sachs Group Inc.,which rose 39 percent, and Burlington Northern Santa Fe Corp.,up by 22 percent.Of course you can argue that the government and Fed have taken extreme measures to prop up the economy withlittle regard for future fiscal obligations. There is no question that the Fed’s actions and the government stimulus
 
The Inoculated Investorhttp://inoculatedinvestor.blogspot.com/ 
have been very beneficial for the stock market as investor confidence has risen dramatically. But BRK is certainlynot alone in seeing its holdings increase in value due to the rising tide. I didn’t see a lot of criticism of Bill Miller  because his fund was up close to 20% for the year . In other words, while I am cautious of the sustainability of the rally in stocks, it is hard to make the case that BRK is a direct and unique beneficiary of government largesse likeGS has obviously been. Next, I want to respond to some of the criticisms put forth by Winkler and Denninger in their pieces. I understandsome of their points for sure, but I also think that some of their concerns are overstated and exaggerated. First, let’sstart with Winkler who decided to entitle his article “Buffett’s Betrayal.” This is the crux of his argument:Today, Buffett remains famous for investing The Right Way. He even has a television cartoonin the works, which will groom the next generation of acolytes.But it turns out much of the story is fiction. A good chunk of his fortune is dependent on taxpayer largess.Were it not for government bailouts, for which Buffett lobbied hard, many of his company’s stock holdingswould have been wiped out.Really? So, buying American Express (AXP) after the salad oil scandal and buying Washington Post (WPO) becausehe thought it had a great moat was not investing the right way? The idea that the events over the past few years andthe subsequent investments that were made by Buffett somehow invalidate his previous success is ludicrous. Maybeit is true that he made the General Electric (GE) and GS investments based on some notion that the governmentwould not let them fail. But, if the government had not helped bring the financial system back from the abyssmillions of investors around the world would have been wiped out. Very few investors own no stocks of companiesthat were not materially helped by the emergency actions taken. Anyone who who follows me knows that I am not afan of a lot of what the government and Fed have done. But to single out Buffett for betraying investors because hedecided to invest in GE and GS is completely unfair.With all due respect Mr. Denninger, I would not call the rates that Buffett received from those deals usurious. Themarket was in turmoil and these companies needed capital and his support. It was the government that you criticizeevery day that underpriced the TARP investments. The Oracle only sought a return on his investment that wascommensurate with the risk he was taking on. Maybe Buffett used his position and status as an advantage andmaybe he understood that the government would not allow the financial system to crumble. But, just like he knewthe salad oil scandal was not going to kill AXP, he knew this crisis would not kill best in class companies like GSand GE. Accordingly, I look at this allocation of capital as savvy investing. I wish I had had enough experience toknow that at some point the government would literally intervene in the markets. If so, I would not have been on thesidelines for this massive rally. Not that I approve of everything that has been done, but pretending that thegovernment doesn’t care about the direction of the markets is like pretending that there isn’t a pink elephant in theroom. Neither is going to do you much good or make you rich.Additionally, I would like to respond to a criticism that both authors make in their pieces. Here is an example fromDenninger’s posting:Wells Fargo, a firm that Berkshire has a massive holding in, is a bank with dubious reserves and provisionsin its mortgage book. One of many, of course. Yet Warren, Mr. Ethics, has refused to demand that Wells(along with other financial firms he holds) come clean on their loan book valuations, despite overwhelmingevidence from seized banks thus far that
essentially every bank is and has been overvaluing these so-called "assets".
Berkshire owns a big chunk of Moody's, a stake they recently trimmed. But Moody's is in fact at the heartof the credit storm - it was only through the granting of ratings that we now know were absolutelyunsupportable that the credit bubble was able to be blown and maintained in the first place. Worse,Berkshire's other businesses, the core of which are insurance and banking-related firms,
were and areabsolutely reliant on that ratings business in order to raise capital in the markets.
of 00

Leave a Comment

You must be to leave a comment.
Submit
Characters: ...
You must be to leave a comment.
Submit
Characters: ...