Is This the End of Berkshire Hathaway?http://www.fool.com/investing/value/2009/03/02/is-this-the-end-of-berkshire-hathaway.aspx Morgan Housel
March 2, 2009
Nothing lasts forever. There's no such thing as a free lunch. If it sounds too good to be true, it is. If it can't keep going, it won't. Caveat emptor.
Had to happen eventually
Berkshire's share performance, unfortunately, has been markedly worse. Shares are off 45% in the past year, falling back to 1998 levels.
Such is life. Most stocks are on a similar trajectory these days. Factor in investments in battered financials like Wells Fargo (NYSE: WFC ) , American Express (NYSE: AXP ) , and Bank of America (NYSE: BAC ) , not to mention its dozens of operating subsidiaries waist-deep in industries like construction and retail, and a 45% plunge probably seems justified.
That, however, is hardly the main driver behind the recent nosedive. The growing fear is not necessarily over Berkshire's core holdings; above all, the worry is over a set of equity derivatives that, thought goes, could ultimately implode Buffett's track record of domination.
No one's perfect
Since most of the options were sold in the glory days of yesteryear-- when indices were as much as twice as high as they are today -- Berkshire's current mark-to-market loss sits at $10 billion and grows by the day -- as global markets disintegrate.
Here's where the doomsayers come in: If indices fall to zero on and between 2019 and 2028, Berkshire could be on the hook for as much as $37.1 billion. That, even by Berkshire standards, would be a catastrophic loss.
It's all a bunch of ballyhoo
More importantly, the uproar ignores the most important part of the derivative contracts: that Berkshire received $4.9 billion up front, and won't be liable for a penny until they expire between 2019 and 2028. I know: $4.9 billion is peanuts compared to a potential $37.1 billion liability, but it's still a lot of money, and 10-20 years is a long time.
Long enough, in fact, that even if the derivatives do ultimately end up in the red, the future value of the $4.9 billion would likely offset even a massive loss. Using a 15-year timeframe (roughly the average time from now until 2019-2028), here's the pre-tax compounded value of $4.9 billion under different returns: