Saturday, October 18, 2008

Warren Buffett Buys Stocks, The Snowball Chapter 2 and J. Kyle Bass

So some of the legends are stating publicly that they are buying US stocks: John Neff Is Buying Again And Shares What He Buys! and Warren Buffett Puts His Money Where His Mouth Is

I indeed had a wide smile on my face when I posted Warren's Buy American, I Am (
Warren Buffett Puts His Money Where His Mouth Is ) for I had just finished the 2nd Chapter of The Snowball: Warren Buffett And The Business of Life.

I for one did not know the events stated in Chapter 2. I was rather surprised to read that Warren E. Buffett had actually made a stock prediction back in 1999 in Sun Valley and again, I am utterly impressed with Alice style of writing. For once, this did not seem as if I was reading yet another investment book but it was as if I was reading a poetic history of a legendary man but yet in it, it contained the best ever lesson on the stock market and mind you, I have only just finished Chapter 2.

Now I cannot reproduce everything from the book here.. but the following are some of the passages I loved in that Chapter.

  • The audience, full of technology gurus who were changing the world while getting rich off the great bull market, sat silent. They were perched atop portfolios that were jam-packed with stocks trading at extravagant valuations. They felt terrific about that. It was a new paradigm, this dawning of the Internet age. Their attitude was that Buffett had no right to call them greedy. Warren — who’d hoarded his money for years and given very little away, who was so cheap his license plate said “Thrifty,” who spent most of his time thinking about how to make money, who had blown the technology boom and missed the boat — was spitting in their champagne.

    Buffett continued. There were only three ways the stock market could keep rising at ten percent or more a year. One was if interest rates fell and remained below historic levels. The second was if the share of the economy that went to investors, as opposed to employees and government and other things, rose above its already historically high level. Or, he said, the economy could start growing faster than normal. He called it “wishful thinking” to use optimistic assumptions like these.

    Some people, he said, were not thinking that the whole market would flourish. They just believed they could pick the winners from the rest. Swinging his arms like an orchestra conductor, he succeeded in putting up another slide while explaining that, although innovation might lift the world out of poverty, people who invest in innovation historically have not been glad afterward.


  • Another light chuckle. Some were getting tired of these musty old examples. But out of respect, they let Buffett get on with it.

    Now he was talking about their businesses. “It’s wonderful to promote new industries, because they are very promotable. It’s very hard to promote investment in a mundane product. It’s much easier to promote an esoteric product, even particularly one with losses, because there’s no quantitative guideline.” This was goring the audience directly, where it hurt. “But people will keep coming back to invest, you know.
    It reminds me a little of that story of the oil prospector who died and went to heaven. And St. Peter said, ‘Well, I checked you out, and you meet all of the qualifications. But there’s one problem.’ He said, ‘We have some tough zoning laws up here, and we keep all of the oil prospectors over in that pen. And as you can see, it is absolutely chock-full. There is no room for you.’

    “And the prospector said, ‘Do you mind if I just say four words?’

    “St. Peter said, ‘No harm in that.’

    “So the prospector cupped his hands and yells out, ‘Oil discovered in hell!’

    “And of course, the lock comes off the cage and all of the oil prospectors start heading right straight down.

    “St. Peter said, ‘That’s a pretty slick trick. So,’ he says, ‘go on in, make yourself at home. All the room in the world.’

    “The prospector paused for a minute, then said, ‘No, I think I’ll go along with the rest of the boys. There might be some truth to that rumor after all.’

    “Well, that’s the way people feel with stocks. It’s very easy to believe that there’s some truth to that rumor after all.”

    This got a mild laugh for a half second, which choked off as soon as the audience caught on to Buffett’s point, which was that, like the prospectors, they might be mindless enough to follow rumors and drill for oil in hell.

    He closed by returning to the proverbial bird in the bush. There was no new paradigm, he said. Ultimately, the value of the stock market could only reflect the output of the economy.


  • He had worked his way back around to the same subject: that one couldn’t extrapolate from the past few years of accelerating stock prices. “Now, is there anyone I haven’t insulted?” He paused. The question was rhetorical; nobody raised a hand.

    “Thank you,” he said, and ended.

    “Praise by name, criticize by category” was Buffett’s rule. The speech was meant to be provocative, not off-putting — for he cared a great deal what they thought of him. He had named no culprits, and he assumed they would get over his jokes. His argument was so powerful, almost unassailable, that he thought even those who didn’t like its message must acknowledge its force. And whatever unease the audience felt was not expressed aloud. He answered questions until the session ended. People began to stand, awarding him an ovation. No matter how they saw it — a masterful exposition on how to think about investing or the last roar of an old lion — the speech was by any standard a tour de force.

    Buffett had stayed on top for forty-four years in a business where five years of good performance was a meaningful accomplishment. Still, as the record lengthened, the question always loomed: When would he falter? Would he declare an end to his reign, or would some seismic shift dethrone him? Now, it seemed to some, the time had come. It may have taken an invention as significant as the personal computer, coupled with a technology as pervasive as the Internet, to topple him, but he’d apparently overlooked information that was freely available and rejected the reality of the approaching millennium. As they muttered a polite “wonderful speech, Warren,” the young lions prowled, restive. And so, even in the ladies’ room at the break, sarcastic remarks were heard from the Silicon Valley wives.

    It was not just that Buffett was wrong, as some felt, but that even if he were eventually proved right — as others suspected he would be — his dour prediction of the investing future contrasted so sharply with Buffett’s own legendary past. For in his early glory days, stocks were cheap, and Buffett had scooped them up in handfuls, almost alone in noticing the golden apples lying untouched on the path. As the years passed, barriers grew up that made it harder to invest, to get an edge, to figure out what others didn’t know. So who was Buffett to preach at them, now that it was their turn?
    Who was he to say that they shouldn’t make money while they could off this wonderful market?

    Throughout the rest of the lazy afternoon, Herbert Allen’s guests played one last game of tennis or golf or headed to the Duck Pond Lawn for a leisurely chat. Buffett spent his afternoon with old friends, who congratulated him on his triumph of a speech. He believed he had done a convincing job of swaying the audience. He had not given a speech full of such commanding evidence simply to go on the record.

    Buffett, who wanted to be liked, had registered the standing ovation, not the mutterings. But the less flattering version was how many were not convinced. They believed that Buffett was rationalizing having missed the technology boom, and they were startled to see him make such specific predictions, prophecies that surely would turn out to be wrong. Beyond his earshot, the rumbling went on: “Good ol’ Warren. He missed the boat. How could he miss the tech boat? He’s a friend of Bill Gates."

    A few miles away at the River Run Lodge later that evening, with the guests at the closing dinner again arranged according to some invisible plan, Herbert Allen finally spoke, thanking various people and reflecting on the week. Then Susie Buffett took the stage beside the windows that overlooked the pebbly Big Wood River and once again sang the old standards. Later the guests returned to the Sun Valley Lodge terrace, where Olympic skaters axeled and arabesqued in the Saturday night ice show.

    By the time fireworks exploded across the sky at evening’s end, Sun Valley ’99 had been declared another glorious five-day extravaganza. Yet what most people would remember was not the rafting or the skaters; it was Buffett’s talk about the stock market — the first forecast he had made in exactly thirty years.

And that was Warren's first forecast which he warned about the insane valuations in the tech stocks and now almost 10 years later he's sending a powerful message that he's putting His Money Where His Mouth Is and buy American Stocks, He Is!

Now here's a differing viewpoint from someone who deserves to he heard and he is J. Kyle Bass.

Say who? Just who is J. Kyle Bass?

Well back in Dec 19th 2007. Published on Bloomberg: Bass Shorted `God I Hope You're Wrong' Wall Street

  • Dec. 19 (Bloomberg) -- J. Kyle Bass, a hedge fund manager from Dallas, strode into a New York conference room in August 2006 to pitch his theory about a looming housing market meltdown to senior executives of a Wall Street investment bank.

    Home prices had been on a five-year tear, rising more than 10 percent annually. Bass conceived a hedge fund that bet on a crash for residential real estate by trading securities based on subprime mortgages to the least credit-worthy borrowers. The investment bank, which Bass declines to identify, owned billions of dollars in mortgage-backed securities.

    ``Interesting presentation,'' Bass says the firm's chief risk officer said into his ear, his arm draped across Bass's shoulders. ``God, I hope you're wrong.''

    Within six months, Bass was right. Delinquencies of home loans made to people with poor credit reached record levels, and prices for the securities backed by these subprime mortgages plunged. The world's biggest financial institutions would write off more than $80 billion in subprime losses, while Bass, his allies and a handful of Wall Street proprietary trading desks racked up billions in profits.

    Bass and investors like him saw opportunity in a range of new investment tools that banks created to sell subprime securities worldwide. These included mortgage bond derivatives, contracts whose values are derived from packages of home loans and are used to hedge risk or for speculation. The vehicles allowed hedge funds like Bass's to bet against particular pools of mortgages. (do read the rest
    here )

Anyway J. Kyle Bass has written a report and you can download it here: here

Here are the first two passages.

  • What’s Next?

    It is the "what’s next" that scares us the most. There is no doubt that many books will be written chronicling the times we are living through today. When we wrote to you in July 2007, we really meant "feet first"! The common denominator of everything that has gone wrong so far has been reckless amounts of leverage. The system both nationally and globally is still trying to de-lever as fast as possible, the problem is that everyone is being forced to do it at the same time. 3-month LIBOR is off the charts - not as many believe, because banks don't trust each other - but because THERE IS NO MONEY LEFT FOR THEM TO LEND TO EACH OTHER. We have argued for years now that there is not enough money at the bottom of the levered pyramid scheme the world has put together. In the U.S. alone, with Lehman, AIG, Bear Stearns, Fannie, Freddie, WaMu, IndyMac, Countrywide, and the rest of the companies that have failed to date (any many more "on deck"), there are $8 TRILLLION of assets already in receivership, conservatorship, liquidation, or "parked" with a big brother. Do you think the Government will be successful in purchasing illiquid assets off of the balance sheets of troubled companies? The odds (and the assets) are against them. Even if the Government invests equity to fill the "hole" that is created upon the sale of these assets, it leaves the same nefarious management teams in place to continue the problem by taking the money and levering it up again. The only way to solve this problem is to go THROUGH IT. We know it isn't politically popular or even popular on Wall St, but the fact is that the U.S. and the world need a Darwinian flush to rebuild our foundations and become even stronger on the backside of this mess.

    $700 Billion is Not Enough

    Let's do some quick math. We realize that there are many moving targets, but we must attempt to put things into perspective for those of you at home. To date, some $550 Billion has been written down by the world's financial institutions. In the United States alone, there is $10 TRILLION of "Prime" mortgage debt, $1.5 TRILLION of Alt-A mortgage debt, and $1.2 TRILLION of Subprime mortgage debt. Based on our assumptions, we believe we will see cumulative losses of AT LEAST 25% in Subprime, 20% in Alt-A, and 5% in Prime. Our expected default rates and severities imply that over $2.2 TRILLION of defaulted mortgage loans would result in AT LEAST $1.1 TRILLION of REAL LOSSES in mortgages IN THE U.S. ALONE. For those of you that want to talk implied roll rates, defaults, and loss severities, just give us a call. We review almost all securitization data each month. Many other countries around the world have actually lent even more aggressively than the U.S. Australia, for example, has lent on home values at 9 times median income! Historically, 3.5X is the number that actually allows borrowers to afford to pay (fathom that). The math for the rest of the world is pretty scary.