A Bath, Bank and a Fairy Tale

David Frost // Blog


August 25  

Not sure if he is the “best” investor of all time, but he certainly earned respect by making some great investments at opportune times and amassing an enormous fortune for himself and his shareholders, if they got in early, of course.  Nobody can take that away, and we’re not trying to.

However, this Bank of America thing just doesn’t pass the smell test.

The story was told today on Tout TV (aka: CNBC) that Mr. Buffett while taking a bath (more information than we needed) Wednesday morning decided it would be a good idea to invest in Bank of America.  He didn’t know the CEO Brian Moynihan and therefore asked his assistant to find the number and get him on the phone.  They spoke and Mr. Buffett offered an unsolicited investment to take preferred stock in Bank of America that would pay him a 6% annual return.  This investment also comes with warrants to purchase about 700 million shares in the bank within a 10 year period of time.  If exercised this would equate to about 7% of the company.  Mr. Moynihan called an emergency board meeting and within 24 hours they approved the offer, and it was done.  Nice deal and very easy, right?

We don’t think so!  (unless you believe in Mary Poppins, The Tooth Fairy and The Wonderful Wizard of Oz)

First of all, nobody makes an investment of $5 Billion without their own boards approval.  Nobody would make an investment into a seemingly failing bank without financial analysts and lawyers rifling through mountains of documents.  And that’s not even close to the best part.

About a week ago, the CEO was on TV and holding conference calls with investors to assure everybody that there were no problems at the bank, the financial stability was fine, they had no credit or counter party risk issues, and not to worry.  (we’ve never heard or seen this routine before)

On Tuesday of this week, Dick Bove and other financial analysts were paraded on Tout TV to state how ridiculous the valuation and stock price of Bank of America was and that they would be buying it with both hands at these levels.  After all, “they have $140 Billion in cash on hand” which makes the stock price significantly lower than book value.  How can you possible not buy this stock!


If they have $140 Billion in cash, why do they need $5 Billion more?  It’s less than 3% – what difference would it make in any scenario?

(It’s like raising taxes on the people who have regular income over $1 Million or own a corporate jet.  Nobody bothers to mention that this collective group is about 8000 people deep and payed approximately $54 Billion in tax – Raising them even 10% would equate to $5.4 Billion.  How do you suppose that would help to solve Washington’s spending problem where we owe $14 Trillion and counting?  OK, back to the issue at hand)

If they needed cash, why not borrow from the Fed at the window for zero percent interest rather than pay 6%.  Wouldn’t that be a better deal for the Bank of America shareholders?  Why should the shareholders be subjected to over pay for money and potentially be diluted of their holdings?  Did anyone ask that question today?

The credit market was pricing BAC bonds as if they were high risk.  The stock market was taking them out behind the woodshed and driving the equity lower day by day.  Does anyone really think both markets were wrong?  Are the markets ever really wrong, or are people wrong?  What Mr. Buffett is saying is that everyone was wrong, except him of course.

Seems unlikely and too much reminiscent of the recent past shenanigans of Bear Stearns and Lehman Brothers, et al.

We shall see, but in the end the markets are always correct, whether we like it or not.  As for the story created by Tout TV and Mr. Buffett….I don’t think we’re in Kansas anymore!

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About the Author

Trading and investing in markets is second nature to some, but a mystery to others. The goal is to provide a forum where everyday people aspiring to be part time or full time traders will learn how view markets differently and profit beyond their wildest dreams.

David Frost