Following Buffett is Risky Business

Posted by Ray on August 25, 2011 under Main | Be the First to Comment

Today we saw a typical Buffet move as he surprised everyone by taking a $5B investment into BAC. Everyone is talking about it and praising how good this is for the company, I guess it kind of is, but there are others, like me, who are more worried now than before Buffet made the investment. I do not own BAC and I am not short BAC or any financial firm right now so I have no self serving purpose for this.

What concerned me is the fact that the figure was $5B just like the Goldman deal. This seems to be a figure Buffet is comfortable risking in times of duress. Buffet has billions on hand, but only $5B that could yield him 6% something isn’t right. Now, I considered the pre-Buffet chatter about BAC to be the typical rumor mill stuff, illiuid, cut off from the markets, huge liabilities that haven’t been realized and the like, but nothing real or substantially true. However, I admit the massive selling of pieces of their business did strike me as if they were concerned about things, but it did not strike me as they were going out of business it was merely troubling. However, now with Buffet adding in his now typical $5B ‘petty risk cash’ into the firm does make me concerned about BAC.

Clearly the firm needed the cash as it was presented to and accepted in, what, 12 hours. You do not take $5B paying out 6% when we are in a zero interest rate environment and can issue paper cheaper without raising any suspicions. Frankly, taking a middle of the night cash infusion from Buffet is strikingly similar to 2008 for my taste. BAC got hosed on this deal, as many others have already said, and they are paying way too much for this cash. A case can be made that BAC paid the premium for the Buffet ‘seal of approval’ but that seal did not work for Goldman in 2008.

If one followed Buffet in 2008 on the Goldman deal they lost out pretty bad. After the cash infusion was made Goldman dropped to $48/share, about $70/share below Buffets investment, and the average investor would have probably sold at a loss given the events of 2008. If they were smart they would have doubled up, but come on, it was 2008! Regardless, Buffet was too early and could have done much better if he waited, but more to the point what kind of due diligence did he do back then? I am thinking more than he did with BAC, but no one knows for sure. What I do know is the government had to follow up on Buffet’s investment to the tune of $700B as they had to save the whole system. The government bailed out Buffet in the Goldman deal, basically.

What is different this time is the fact that countries are going broke now, not just banks, and there is risk everywhere. With BAC not only do you have sovereign risk, but you have derivatives risk and a whole bunch of mortgage issues from put backs to just bad loans altogether. I believe this time is very different because it is sovereign risk and we have had this issue before… in the 1930’s. In the Depression Europe had defaults and many countries devalued their currency which hurt the U.S. as we, at that time, were a net exporter of goods. The European issue deepened our Depression and the same thing will happen this time around, unfortunately. Not only may BAC hold European debt on its books, but they might have CDS exposure as well, not that we would know about that, thanks Frankendodd. In any event BAC is one hot mess and the sad thing is that BAC will not drop from $110 to $48 because it is at $7 already, you do the math to see what a similar drop would look like for BAC.

I do not think BAC is finished, it might be, but I doubt it. I do believe it will be stuck in the single digits for a very long time. For crying out loud, they bought Countrywide, just a reminder.

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LIBOR Overnight Shoots Higher

Posted by Ray on March 16, 2010 under Main | Be the First to Comment

Just a week or so ago the overnight LIBOR rate, this is the rate banks loan money to each other at (such as prime plus LIBOR or similar), was a paltry .17% and today it is a whopping .22%. While this is might not seem like a huge issue, and it is not on its own, it is a signal of something. Perhaps it is signaling that the wall of liquidity is coming to an end or that there is more risk lending to institutions than originally thought. Or, perhaps, Zero Hedge’s rumor mill was right and some of the GSE’s cut off 10 European banks from lending which caused the overnight rate to shoot up, it looks like they had it nailed.

I typically do not act or comment on rumors because some 90% are not true, but this one I watched because LIBOR was one of the signals preceding the credit crisis beginning in 2007 to 2008. If this rumor ends up being true, and it looks that way, I think there will be some negative implications for the equity markets as the rally is liquidity driven. However, LIBOR at .22% is nothing to worry about, at all, and unless it climbs higher I would not be worried, but it is on my ‘watch’ screen as it has implications. Also, the LIBOR rate is outside of the Fed’s control, frankly, as they already spent all their ammo in that department.

Well, let me rephrase that, they would need to start up recently closed programs and institute new programs in order to bring down the interbank lending rate. The markets are not fully healed and credit is still tight meaning that trust is still lacking in many areas. Credit is merely trust and, frankly, would you really trust a European bank right now? Who knows how much Greek debt they hold or other PIIG debt they have on the books. If you do not know you cannot trust them. If you can’t trust them you do not extend credit to them or you charge them more for credit to cover the potential risk. It is a vicious cycle and the system cannot handle any other shock or it will be in jeopardy again.

I am not saying there is much to read into, yet, but keep an eye on it as little things like the LIBOR usually signal or are the first sign of potential larger problems. It also looks like the Zero Hedge rumor mill was on to something, I am going to email them to see if they have a follow-up on the story. In the mean time, do not look for anything exciting from the Fed meeting, nothing will happen and the language will not change, which should concern you as well. Trade carefully and the market that is in front of you, I bought August VIX calls today as volatility is way too cheap, historically the VIX is at 20, and there seems to be no one betting it will go down, look at the put action.

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