Berkshire Hathaway is Down 41% in 2008

There are a few things that I'm used to.

The Cubs not winning the World Series. Rain on my days off. Berkshire Hathaway being a steady ship in a sea of volatility.

Something strange is happening though. Berkshire Hathaway is getting absolutely pounded right now. The markets had a rough day on Wednesday, sure - however Berkshire Hathaway dropped 12% on the day, more than double the decline that the major market indexes suffered. For a long time follower of Warren Buffett, this type of decline is unusual and downright frightening.

Berkshire Hathaway is still outperforming the S&P 500 (41% decline for Berkshire vs a 45% decline for the S&P 500), however a one-year 40%+ loss seems unfathomable for the cautious and brilliant Buffett, who is considered by most to be the greatest investor of all time.

Particularly worrying to followers of Buffett (and investors in Berkshire Hathaway) is the fact that credit-default swaps have soared for Berkshire Hathaway in the past couple of months. This is the cost to protect against Berkshire being unable to meet its debt payments. Two months ago the swaps were at 129 basis points - today they are at 475 bp.

What exactly is going on at Berkshire?

First off, some of Berkshire's biggest holdings (American Express, etc) have taken an absolute beating so far this year. Given the carnage that we've seen in the stock market over the past 12-18 months, it can't be surprising that Berkshire Hathaway's largest holdings have taken a beating as well. Buffett is a long-term investor, and some of his biggest positions are taking a pounding. This has contributed to a great deal of the weakness in Berkshire Hathaway.

Second, Berkshire's insurance businesses are suffering greatly. Berkshire historically generates a great deal of its annual profits from its (normally) strong insurance businesses. These businesses are suffering and taking their toll on Berkshire's quarterly earnings. Berkshire has posted four straight profit declines, which is an extremely unusual occurrence for the company.

Third, investors are growing increasingly uneasy about a very large bet that Buffett made on world equity values more than a decade from now. According to Bloomberg, "Buffett sold contracts to undisclosed counterparties for $4.85 billion protecting the buyers against declines in four stock indexes including the S&P 500." Berkshire could end up being on the hook for as much as $37 billion dollars, and has already written down these contracts by almost $7 billion dollars.

These three things are conspiring to worry investors and cause credit-default swaps on Berkshire to soar.

Buffett is taking a beating in the press right now, mainly due to his recent op-ed piece in the New York Times in which he implored investors to buy American equities. This article surprised many who are used to Buffett being guarded and cautious in his words.

What next for Berkshire Hathaway? Their fortunes are obviously closely tied to the overall direction of the stock market. If the markets lift, then the black cloud that is currently over the heads of Warren Buffett and Berkshire Hathaway will dissipate.

If we continue lower - things are going to get pretty interesting. One thing is for sure - Berkshire Hathaway's annual meeting next year will be very interesting.





Filed under: The Economic Meltdown | General Market News