Irrational fears erode Buffett premium

Irrational fears erode Buffett premium
Berkshire Hathaway shares lost more than 30pc in 2008, and more since. The value of the investment group's investment portfolio fell just 10pc.

By Richard Beales, breakingviews.com
Last Updated: 10:38AM GMT 02 Mar 2009

Warren Buffett, chief executive, doesn't focus on the share price. But the Sage of Omaha says risks, formerly under-appreciated in the investment world, are now being overpriced. And as that corrects, shares of the billionaire's investment company could benefit.

Buffett admits he "did some dumb things", like buying billions of dollars of ConocoPhillips stock when energy prices were near their peaks.

Even so, the per-share book value, or assets minus liabilities, of Berkshire's holdings fell a smidgeon less than 10pc in 2008 - against a 37pc loss on the S&P 500 index and a near-20pc fall for the average hedge fund. In that context, the Nebraskan investor's worst performance since 1965 - and only his second annual decline in book value - doesn't look so bad.

Berkshire shares tell a different story. At the end of 2007, they traded at a premium to book value of more than 80pc. By the end of last year, the premium had shrunk to less than 40pc. Now, it's only just more than 10pc based on the year-end book value, admittedly now too high.

Buffett sees the economy in a "shambles" through 2009 and probably beyond. That affects both Berkshire's own businesses and those of companies whose stock it owns. But other potential worries look less rational. One centres on derivatives. Berkshire has written put options on global stock indexes and various derivatives on corporate credit.

These have generated $13bn-odd of paper losses between them so far. Yet not only is Buffett's record comforting as to the eventual outcomes, the exposure is scaled to Berkshire's capacity - unlike, say, that of the flailing American International Group. An improbable total loss on the credit derivatives, for instance, would absorb only half Berkshire's cash on hand.

A fearful market could be focusing too much on the unhappy keywords attached to Berkshire: finance, derivatives, investments and insurance, to name a few. When irrational fears start to subside, the Buffett premium could return. While it might be damped by the fact that the 78-year-old isn't immortal, that could still help Berkshire stock even before the underlying investments turn around.


http://www.telegraph.co.uk/finance/breakingviewscom/4926633/Irrational-fears-erode-Buffett-premium.html