Tuesday, November 3, 2009

The Berkshire Hathaway Arbitrage (BRK.A: BRK.B; LAB)

UPDATE: "Baby Berkshire split may put shares in S&P 500 Index"
Original post:
This is a repost from February, with a couple additions at the end.

As a followup to yesterday's "Buffet Urges Investors to Read Graham’s Chapters 8 and 20 in Times of Financial Crisis (but wait, there's more!)", Market Movers brings a pair trade to our attention (it's not a classic arbitrage as the "B" shares are not good delivery for the "A"):

...Now the B shares have 1/30th of the economic value of the A shares, but only 1/200th of the voting rights. They began the week worth about 1/31 of an A share, and ended it worth less than 1/32 of an A share. Given that the seeming arbitrage persisted all week, the market might well be starting to value those A-share voting rights.

"In my opinion," says Warren Buffett, "when the B is at a discount of more than say, 2%, it offers a better buy than the A." Right now the discount is a whopping 7%. So if you want to take Buffett's advice, start buying up B shares. If, that is, you want to buy his stock in the first place. Which is a different matter entirely....SOURCE

We are conversant with the issue. From Berkshire Hathaway (oops, just noticed that Mr. Salmon has the link to the memo, here it is anyway:...Memo

Whose the happiest guy on the floor today? From Barron's, April 25, 2005:

Meet Mr. Nickel

A veteran Big Board specialist says penny increments in stock trades have been "a disaster"

AT AGE 74, HAVING LOGGED 55 YEARS on Wall Street and more than 30 as a New York Stock Exchange specialist,

Jim Maguire no longer has to trek to work on the floor every day.

In fact, since selling Henderson Brothers, the firm he once led, and 19 of his 22 NYSE seats to LaBranche & Co. (ticker: LAB) for $230 million at nearly the exact top of the market in early 2000, Maguire has no need to work anywhere at all.

And yet, every day he can be found at his post on the floor of the Big Board, where he referees the trading in Berkshire Hathaway (BRK-A) shares and acts as something of the exchange's institutional memory.

In those roles, Maguire certainly doesn't need to lead a lonely, long-shot crusade to persuade Wall Street and Washington leaders to enact a radical change in the way stocks are traded.

But that's just what he's been doing for more than three years, as he's attempted to focus decision makers' attention on the idea of pricing stocks in minimum increments of five cents, rather than the current pennies.

A Quixotic Quest?

Acting strictly on his own and not as a representative of LaBranche or the New York Stock Exchange, Maguire has, by his account, made his pitch to thousands of industry and regulatory folks in the past few years. He paid for an op-ed-like ad to appear in the Wall Street Journal in January to broadcast his message. He has made pilgrimages to Washington to interest trade groups and regulators in his self-appointed mission. Depending on your point of view, he's leading a promising crusade or riding a hobbyhorse that's likely to take him nowhere, especially in light of last week's announcement that the NYSE is buying Archipelago, one of the premier electronic-trading organizations. That could push the Big Board more squarely in the direction of computer-controlled trading and everything it entails, including tiny price spreads on orders.

Maguire, however, seems to be enjoying his ever-more quixotic quest.

"My wife tells me to stop talking about it, because people will start thinking I'm a kook," says Maguire, whose impish grin helps make him look at least a decade younger than his age. "I tell her she knew I was a screwball when she married me (in 1960), and I'm a screwball now. What can I say, she bought a stock and it went down."

But, for all Maguire's kidding at his own expense, others are slowly beginning to buy into his favorite cause.

Maguire: "My wife tells me to stop talking about it, because people will start thinking I'm a kook."

All U.S. stock exchanges began trading shares in penny increments in early 2001 as part of regulators' mandate to substitute decimals for the old fractions, most recently sixteenths. This move effectively cut price increments by 80% (from 6.25 cents to one cent). The goal was to foster narrower spreads between bid and offer prices, and to reduce trading costs.

Over the past four years, however, nearly everyone intimately involved with trading has become frustrated by the penny regime. While the apparent bid-ask spreads have narrowed, the amount of stock available at the quoted market prices has shriveled to insignificant levels.

Because displaying a bid or offer is an invitation for another trader to step in front of the order for the price of a mere penny per share and get a trade off first, limit orders have become scarce....MORE

From Mr. Buffett's 1989 Letter to the Shareholders of Berkshire Hathaway:

With more than a year behind him of trading Berkshire's
stock on the New York Stock Exchange, our specialist, Jim Maguire
of Henderson Brothers, Inc. ("HBI"), continues his outstanding
performance. Before we listed, dealer spreads often were 3% or
more of market price. Jim has maintained the spread at 50 points
or less, which at current prices is well under 1%. Shareholders
who buy or sell benefit significantly from this reduction in
transaction costs.

Because we are delighted by our experience with Jim, HBI and
the NYSE, I said as much in ads that have been run in a series
placed by the NYSE. Normally I shun testimonials, but I was
pleased in this instance to publicly compliment the Exchange....

Henderson Brothers was purchased by LaBranche & Co. in March 2000.

In the same letter Warren had some comments on the company jet, The Indefensible:

...Last summer we sold the corporate jet that we purchased for
$850,000 three years ago and bought another used jet for $6.7
million. Those of you who recall the mathematics of the
multiplying bacteria on page 5 will understandably panic: If our
net worth continues to increase at current rates, and the cost of
replacing planes also continues to rise at the now-established
rate of 100% compounded annually, it will not be long before
Berkshire's entire net worth is consumed by its jet.

Charlie doesn't like it when I equate the jet with bacteria;
he feels it's degrading to the bacteria. His idea of traveling in
style is an air-conditioned bus, a luxury he steps up to only
when bargain fares are in effect. My own attitude toward the jet
can be summarized by the prayer attributed, apocryphally I'm
sure, to St. Augustine as he contemplated leaving a life of
secular pleasures to become a priest. Battling the conflict
between intellect and glands, he pled: "Help me, Oh Lord, to
become chaste - but not yet."

Naming the plane has not been easy. I initially suggested
"The Charles T. Munger." Charlie countered with "The Aberration."
We finally settled on "The Indefensible." ...