Monday, November 24, 2008

Buffett Will Give More Information on Derivatives (BRK.A)

There were a flurry of stories about Berkshire Hathaway and Mr. Buffett last week:
From Bloomberg, Nov. 18:

Berkshire's Credit Risk Soars on $37 Billion Bet
The cost of protecting against default by Warren Buffett's AAA rated Berkshire Hathaway Inc. has almost tripled in two months, a sign of just how skittish investors have become amid the global financial crisis.

The cost to protect against Berkshire being unable to meet its debt payments, based on credit-default swaps, is more than four times that of rival insurer Travelers Cos. At those levels, the swaps are typical of companies rated Baa3 by Moody's Investors Service, one level above junk. The price may have risen on concern that the billionaire's firm could lose a $37 billion bet on world stock market values more than a decade from now.

``That's just so stupid,'' said Mohnish Pabrai, head of Pabrai Investment Funds and a Berkshire shareholder. The swap buyers are projecting ``present circumstances into infinity'' and concluding Buffett's bet will cost the company $40 billion, Pabrai said. ``It will never happen,'' he said....MORE

Bespoke Investment Group, Nov. 20:
Berkshire Hathaway Down Nine Days in a Row
...Since November 7th, which was the last day Berkshire finished up on the day, the stock has declined by 29%. This is by far its largest percentage decline over a nine day period.


Nov. 21, The Big Picture:
Jon Markman: Buffett in Trouble?

I’m not so sure I believe the wild speculation part of this (last para), but I know Jon Markman, and he is a thoughtful and sober guy.

He writes:

Shares of Warren Buffett’s insurance holding company are on the ropes this month, plunging 30% in part because the famed investor dabbled in an area of the market he has long publicly derided: derivatives. And due to a tangled web of financial relationships, they may be taking Goldman Sachs shares down with them....

And from Market Movers, Nov. 20:
What's Happening to Berkshire Hathaway?

Jonathan Stempel of Reuters has a very useful look at what's going on at Berkshire Hathaway, which fell $6,500 per share today to close at its lowest level in over five years. After reading his article, I think we might be one step closer to understanding why Berkshire's CDS are trading so very wide right now. But first, here's David Gaffen:

In recent weeks, the credit-default swaps has seen a marked decline in liquidity and trading, so a smaller amount of insurance contracts purchased can still cause large shifts in prices of a particular credit-default swap...MORE
Today, Market Movers adds:

Berkshire's CDS and Counterparty Hedging

In Barron's this weekend, Andrew Bary brought up the subject of Berkshire's credit default swaps, and why they're trading at such a wide level:

The Street talk is that Berkshire's counterparties, believed to include Goldman, are worried about their Berkshire financial exposure and are trying to hedge that by buying protection in the credit-default swap market....MORE
While Bloomberg tells us:

Buffett Will Give More Information on Derivatives
Billionaire investor Warren Buffett will provide more information to investors on how he calculates losses on his Berkshire Hathaway Inc.’s derivative bets in the firm’s annual report early next year.

The report will disclose “all aspects of valuation” and cover “deficiencies in the formula” for pricing the derivatives, “which we nevertheless use,” Buffett said in an e- mail sent by his assistant, Debbie Bosanek.

The information may calm investors concerned about losses and potential ratings downgrades tied to Berkshire’s sale of derivative contracts. Buyers of the derivatives would be entitled to billions of dollars from Omaha, Nebraska-based Berkshire if four stock indexes drop below agreed-upon levels on dates beginning in 2019. Berkshire shares have fallen about 18 percent since Nov. 7, when the insurer said writedowns on the contracts totaled $6.73 billion at the end of the third quarter.

Buffett’s e-mail said the four stock indexes, including the Standard & Poor’s 500, would all have to fall to zero for Berkshire to be liable for the entire $35.5 billion that’s at risk. The sum was last estimated at $37 billion in a Sept. 30 filing and shrank because of fluctuations in currency exchange rates, he said....MORE

The stock was recently trading up 7.7%, giving it a market cap just $1.5 billion lower than G.E.'s.