Jonathan Macey explains the logic of Warren Buffet's investment in Bank of America:
The lead news story across America on Friday was Warren Buffett’s $5-billion investment in Bank of America.... Buffett’s investment surprised many market watchers because Bank of America — like many other giant U.S. banks — is in no better shape now than during the financial crisis of 2007 and 2008....
Certainly the Obama administration wants to assert that Buffett’s investment means that giant financial institutions — like Bank of America and Citigroup — have finally turned the corner. This interpretation would bode well for the economy....
Unfortunately, while Buffett’s $5 billion likely was a savvy investment from the billionaire’s point of view, it doesn’t tell us much, if anything, about the financial health of the nation’s biggest banks. In fact, on closer analysis, what little it does tell us is discouraging.
Buffett’s investment likely signals not that he is confident that Bank of America is a good bet, but rather that he is confident that the government will again step in and bailout the bank if his bet turns out to be a bad one.
To understand why, it’s important to know that Berkshire Hathaway is not buying the regular, so-called “common” stock available to ordinary investors. Instead Bank of America is to issue Buffett 50,000 preferred shares, for which Berkshire Hathaway is paying $100,000 each.
Unlike the paltry returns available to most other investors these days, Bank of America is promising to pay Buffett’s investment a whopping annual dividend of 6 percent to be paid out quarterly. ...
This translates into Bank of American making cash dividend payments to Berkshire Hathaway of $300 million a year. And, of course, these payments come out of the pocket of the company’s lowly common stockholders.
Many of whose taxes Buffet recently called for raising, by the way. But back to Macey:
In addition, Bank of America has sweetened the pot by giving Berkshire Hathaway securities, called warrants, that give him the right to buy an additional 700 million shares of BofA over the next 10 years, for around $7.14 per share. When Buffett made this deal Bank of America’s shares were trading at around $8.15. This valuation translates into an immediate profit to Berkshire Hathaway of approximately $1 billion profit — assuming that Buffett exercised his warrants immediately....
His warrants give him a huge upside – because, if things go well for Bank of America, his right to buy stock at this low price will be worth many more billions than it already is.
Yet if things continue to go poorly, Buffett is sure that the U.S. taxpayer will again come to Bank of America’s rescue — providing a nice cushion for the billionaire on the downside.
And so we once again learn some valuable lessons about Saint Warren. The supposedly savvy stock picker these days often makes most of his money by cutting sweetheart deals that no other investor could get. He's also investing in firms that are too big to fail--like Goldman Sachs and GE, and now BofA--fully confident that "the government will do whatever it takes to prevent mega-firms like Bank of America from failing," which means he faces no downside.
From this perspective, it's not really surprising that Buffet favors higher taxes on the rich. He wants to make sure that the government has plenty of money available to bail him out if his big investments go south. Of course, as Tim Carney pointed out, that's not Buffet's only reason:
Buffett regularly lobbies for higher estate taxes. He also has repeatedly bought up family businesses forced to sell because the heirs’ death-tax bill exceeded the business’s liquid assets. He owns life insurance companies that rely on the death tax in order to sell their estate-planning businesses.
So the next time you hear Buffet complaining about how his taxes are too low, remember that (a) he's lying, at least in part, and (b) he's got personal financial interests in a high tax system.
