Buffett on Derivatives

Buffet gets funnier from year to year, similar to Reagan before the Doctors confirmed the rumours.

Buffet´s role as a Guru is completely overestimated;
his strategy is basically to buy firms that have huge cash-reserves and then to use the reserves for further investments.

Call it a scheme, fraud, whatever you want. The journalists call him the "Oracle of Oklahoma" and I disagree.

 

"Suddenly he seems to understand alot about tech when the price is low enough."

you got it.

To sell insurance, you want people to have fear. To be a vulture and get people to sell you things cheap, you want people to have fear. Buffett is preaching fear, he is a very shrewd man and he knows that his words effect the markets.

 

refering to the book "fooled by randomness" by taleb.

 

I wholeheartedly agree.

 

Derivatives 'time bombs,' Buffett warns
By JOHN PARTRIDGE
From Tuesday's Globe and Mail

Billionaire investor Warren Buffett is sounding the alarm over derivatives contracts, calling them "time bombs" and potentially lethal "financial weapons of mass destruction."

The warning appears in Mr. Buffett's annual letter to shareholders of Berkshire Hathaway Inc., the Omaha company he heads. The letter, to be published Saturday in Berkshire Hathaway's annual report, has been excerpted in this week's edition of Fortune magazine.

He has in recent years taken a leading role in pushing for changes in accounting and corporate governance matters, such as the recent campaign to force firms to start expensing the cost of stock option compensation in their financial statements.

He has had particular cause to focus on derivatives recently. Berkshire Hathaway is in the process of closing down General Re Securities, a derivatives dealer it acquired when it took over reinsurer General Re Corp. of Stamford, Conn., in 1998, having failed in attempts to sell it.

Alluding to the scandal-plagued collapse of Houston energy trader Enron Corp. in 2001, Mr. Buffet says in his letter to shareholders that derivatives have facilitated some "huge-scale frauds and near frauds," adding:

"In the energy and electric utility sectors, for example, companies used derivatives and trading activities to report great 'earnings' — until the roof fell in when they actually tried to convert the derivatives-related receivables on their balance sheets into cash."

Derivatives contracts, as Mr. Buffett defines them, are instruments that call for money to change hands at some future date, with the amount to be determined by one or more reference items, such as interest rates, stock prices or currency values.

Financial institutions — including Canada's big banks — and other companies typically use swaps and other derivatives to hedge various types of risk they face from, for instance, fluctuations in currency exchange rates and interest rates.

The business has been growing rapidly. Data compiled by the New York-based International Swaps and Derivatives Association (ISDA) show that the notional or face value of interest rate and currency derivatives at dealers worldwide hit $82.7-trillion (U.S.) in the middle of last year, up from just under $37-trillion in mid-1998.

The business also has garnered plenty of bad headlines over the years. For instance, derivatives, specifically stock index futures, were blamed for the October, 1987, stock market crash; while U.S., Canadian and other regulators looked at the subject closely in the mid-1990s after a series of spectacular flameouts linked to the often complex contracts, including the near-destruction in 1995 of venerable British investment bank Barings PLC by a single rogue trader.

Mr. Buffett admits he sometimes uses large-scale derivatives transactions to facilitate investment strategies for Berkshire Hathaway.

<b>However, he contends that the "macro picture is dangerous and getting more so" because large amounts of risk have become concentrated in the hands of "relatively few" derivatives dealers, who also trade widely with one another.

"The troubles of one could quickly infect the others," he says, adding that "linkage, when it suddenly surfaces, can trigger serious systemic problems."

He cites the "leveraged and derivatives-heavy activities" of New York-based hedge fund Long-Term Capital Management. The fund ran into liquidity problems in 1998 that caused the U.S. banking regulator, the Federal Reserve Board, "anxieties so severe that it hastily orchestrated a rescue effort," fearing "what might have happened to other financial institutions had the LTCM domino toppled."

Mr. Buffett in fact argues that central banks and governments have "so far found no effective way to control, or even monitor, the risks posed by these contracts."

Derivatives, he concludes, "are financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal."</b>

ISDA chief executive officer Robert Pickel sought to play down the significance of Mr. Buffett's apocalyptic indictment. Many of the same "sky-is-falling" criticisms have been raised about derivatives in the past, he said in a telephone interview, although, he admitted, never with quite the same "explosive, colourful language."

Mr. Pickel said the industry has typically responded to problems that arise by adopting procedures that help "mitigate the risk of those things happening again."

He also said that derivatives have frequently been defended by people ISDA sees as of "equal or greater prestige" than Mr. Buffett, such as Fed chairman Alan Greenspan. "He has pointed to the incredible value to the system that these contracts have brought, not only in allowing firms individually to better manage their risk, but [also] collectively for the system to better cope with situations," Mr. Pickel said.

Whether Canada's Office of the Superintendent of Financial Institutions shares Mr. Buffett's concerns with the business is not clear. Monday, a spokeswoman for the agency would say only that derivatives are one of the things it monitors as part of its "ongoing supervisory process."

One financial services analyst said that on a "pure numbers basis," Canadian banks are probably facing less risk now from derivatives than they were 10 years ago, because while their exposure has grown when measured in dollars, it has actually declined when measured as a percentage of their equity. However, the potential for more Enrons means the environment over all may be riskier, he said.

Whether or not it's the "next bomb" banks in Canada and elsewhere are facing, the analyst added, Mr. Buffett is a "bright guy, and it's worth sitting up and taking notice of what he has to say."

 

Yeh, yeh, yeh. This market is going nowhere but UP UP UP UP!!!!!!!

Hehe...Buffet, or anybody else who says anything negative about the market is getting dumped on. THAT is bearish.

Valuations suck...but it really, really, really is different this time.

Honest.

No kidding. Just let me get my mil and then you can flush it all down the drain and I'll be an expat.

m