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Minyan Mailbag: Mr. Buffett's Interesting Moves


Mr. Buffett is an opportunist...


Prof. Succo,

I understand that insurance businesses are largely put option sellers, but were you surprised to see WEBCO (WEB) selling equity options?

Perhaps it's not that simple, and I would think Buffett priced them favorably. Just seems 'interesting' given the times…

Hope things are well.
Matt Ford


As you state, insurance businesses essentially sell options: an option seller collects time premium to take risk; an insurance company collects fees to take risk. So no, I was not surprised to see him do this. There are several other reasons I was not surprised.

Mr. Buffett is an opportunist, and I mean that in the most complimentary way. When a mutual fund manager gets in cash, he puts it into the market…period. Statistics show that mutual funds have very low cash relative to assets: that is not tactical, but strategic and is a long term trend. Mutual fund managers are under more pressure not to miss the upside of stocks than to protect risk, so there is a strong propensity to put money to work whether or not there is real opportunity.

Mr. Buffett is under no such pressure, or more accurately, he has not allowed himself to be put in that situation. He is happy to sit on the sidelines until he sees a situation where the reward for risk is attractive: the more attractive, the bigger he gets. This trade is no exception I believe.

There is no question in my mind that Mr. Buffett has market contacts in everything and is extremely flexible (his knowledge base is vast and he understands how to structure almost any trade) in seeking opportunity. I am positive that he did not seek out to do this trade, but was responding to a put buyer in the market.

If he went to a broker and wanted a bid on a 15 year put, he would get a very poor bid; an option that is long in duration has extremely high price risk, so a broker in committing capital is likely to make a very poor bid. If there is anything Mr. Buffett won't do, it is trade at the wrong price. On the other hand, if a broker came to him with an order to buy a put, the price again would be very advantageous for the seller for there are few brokers that would make an aggressive offer for the same reasons. Mr. Buffett, being a natural seller of premium, opportunistically sold a high priced option, not the low priced option that people assume occurred because of overall low premiums in the market. The market for a 15 year option is very independent of the implied volatilities trading in one year options where everyone is making a market.

Also, the size of this trade is likely to be viewed by Mr. Buffett as "normal business" or even a small hedge against the rest of his portfolio. With $45 billion in cash alone, another $75 billion in marketable securities, and another "lots" of billions in long term investments in other businesses, selling premium on $14 billion notional is not significant. Selling a 15 year option takes in a lot of cash, something Mr. Buffett likes to have. Delta hedging that option requires little cash up front and if Mr. Buffett got the price I think he got and invested the premium in bonds, he made a nice trade for a long period. He, unlike a dealer, is not sensitive to short term marking fluctuations.

Mr. Buffett is more active than most people believe. Of course he has long term positions, but he also has shorter term ones to round out his portfolio. Selling a high priced option in a low volatility market (even if volatility picks up dramatically, this is still a good trade and Mr. Buffett is likely to benefit from that increase in the rest of his portfolio) is a good opportunistic trade.

Mr. Buffett is successful primarily because he is an opportunist, the opposite way of thinking of almost every other fund management and the phenomenon called "other people's money."


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