Lose $10 Billion and Then Come Talk to Me

It seems that regular people are not the only ones that are losing in this economy. Wall Street Journal reports that Warren Buffett has lost over $9.6B since January. If the “”Oracle of Omaha” can lose 20% of his net worth in ten months, then how can us normal folk make an money in this market? The answer is simple; We can’t! Stop listening to people that tell you how to “Buy in a Down Market” and “Short Your Way to Success.” This is a sucker’s game played by fools or people with more money than problems. Didn’t Warren Buffet call the stock market “safe to invest” just last week?

 

Other billionaires who lost money include: Oracle Corp.’s Larry Ellison, who lost $6.6 billion in value; Microsoft Corp.’s Steve Ballmer, down $4.8 billion; Amazon.com Inc.’s Jeff Bezos, $4.2 billion; and News Corp.’s Rupert Murdoch, $3.9 billion. Sure they can stand the hit because they still have billions left, but I would guess that it still hurts.

Take this $25 billion or else!

This is basically what Hank Paulson said to the CEO of Wells Fargo and other top bank CEOs after they said, “No thanks” to the Govt subsidy. Taking the money meant that the U.S. Govt would have some say in how the ran their businesses and they wanted no part of it. Granted most men in the room needed the cash and were in serious need of this low cost liquidity, but to those that did not need it, these “investments” would come at a high cost to other shareholders. To combat this insurrection, Paulson gave them a deal “that they could not refuse.” He told them that if their bank did not take this cash and it ran into trouble later, that he would let it take the “Lehman route,” and help from the Treasury would not be forthcoming.

Warren Buffett is not too happy about seeing his $5B investment in Goldman Sachs get diluted within weeks of its announcement. Mitsubishi/UFJ also took another hit (after watching MS stock price drop 60%) to its $9B investment in Morgan Stanley. The Treasury has “Senior Preferred Shares” which means that they get paid first. If there is only enough profit to pay the 5% fee to the Govt, then Buffett will not get his 10% dividend. Although Buffett and Mitsu/UFJ can afford to take the hit for a few years, I get the feeling that Buffett feels that Hank Paulson stabbed him in the back.

When GS banker Byron Trott called Warren Buffett about an investment in the firm, Hank Paulson said that they Treasury would not invest directly into banks – period. Buffett even talked with Paulson a few times about his plans and the need for direct investment from the private sector to avoid catastrophe. This was before the BailOut bill passed, so Paulson thought that the passage of the $700B bill would be enough to prop up markets until more stabilizing measures could be taken. The problem was that the BailOut effect only lasted for 1 session on Wall Street. What followed were continuous days of losses pushing the DOW below the 8000 mark for the first time in years. Unfortunately, that was not Warren Buffett’s problem. That was Hank Paulson’s problem. So Paulson did not need Buffett’s approval to complete then announce the $125B deal on Monday.

Get me once, shame on you; Get me twice shame on me. If you were paying attention, Goldman was not the only Berkshire Hathaway investment that got diluted on Monday. Wells Fargo reluctantly accepted $25B from the Treasury because it was already planning to raise $20B on its own relating to its purchase of Wachovia. The unspoken problem was that in this market he was never going to raise the $20B in time (if ever) to keep the bank on a sure footing, so Warren advised (and Paulson demanded) Richard Kovacevich (Chairman) and John Stumpf (CEO) to accept the cash. However, Paulson did leave a “trap door” for humongous bank shareholders to retrieve their “Priority 1” status.

According to the term sheet, the Treasury can freely pass the ownership of these Senior Preferred Shares to a third-party. This means that if someone (i.e. Warren Buffett) has enough cash to buy out the U.S. Govt’s share, they will get the same terms as the Govt. Although pushing $25B to the Treasury to maintain its status in Wells Fargo is a little far fetched, Goldman Sachs only received $10B. This amount is well within Buffett’s means and would be very wise indeed.

Lets say that Berkshire Hathaway buys $5B of the Treasury’s “Golden Shares” which carry a 5% dividend for the first five years. This means that Goldman will only have to pay the Treasury $250mm and then the next $250mm goes to Buffett; then the next $500mm (from his previous investment) will also go to Buffett. Buffett already held $5B in warrants to buy common stock from GS at a later date so technically, the money was already allocated to GS. He could also buy the entire $10B from the Govt and receive $1B a year from GS, accelerating to $1.4B if not paid off in five years. Other humungous investors should look at doing a similar deal if they think the bank is secure enough to survive this thrashing.

Joe Sixpack surpasses Warren Buffett as the Richest Person in the World!

With the recent $125B investment into the nation’s top nine banks by the Treasury, the American taxpayer stands to make a nice profit over the next five years. The preferred share investments carry a 5% dividend for the first five years and 9% after that. Not quite the 10% that Warren Buffett is getting from GE and GS, but good enough if you consider Buffett invested only $8B and we dropped $125B.

 

Here is the problem about high yields and preferred share dividends; if the companies fail outright or fail to produce profits then there will be no dividend payout. You say that they Govt feels that these banks are too big to fail, so that is not an option. If that is the case then the Govt will have to inject more cash, thus paying itself. (ex. 1+(-1)=0) The end result is we lose.

 

Here is the other fun thing about preferred share investments with dividends; we will never see any “ROI” from it because of the perennial black hole that is the U.S. budget deficit which now stands at about $483B.(This should not to be confused with the National Debt which is over $10 trillion.) Do not lose heart; this financial engineering is needed to smooth the global fear that has spread around the world. If it can serve as any consolation, the European governments have committed to investing $2.3 trillion into their companies and I expect Asia to follow with at least $1T. This should hold us until November 4th.