The Buffett bandaid move, coming 48 hours after Buffett's conversations with Obama, and which also comes oddly enough just 24 hours before Bernanke was expected to announce QE3, succeeds in temporarily sending the stock back to early August levels. It also succeeds in sending the financial sector higher, which as we explained yesterday is the main reason for why the 2s10s had to be steepened, so as a result Operation Twist now can go back to its original formulation of broad 2s30s flattening and result in purchases of bonds across the board. As for what to expect with this surprising move out of Omaha? Absolutely nothing. The $5 billion in cash, unlike Buffett's investment in Goldman, will be laughably insufficient, considering that the bank's mortgage exposure is in the tens of billions, while its litigation liability is another $20-30 billion. This does nothing to change our thesis that BAC will need to come to the market again and again to raise capital. However, as this "raise" confirmed, BAC only has access to private investments: we hope Buffett has very deep pockets to keep doubling down. The other news to come out of this - Paulson will be saved with another deus ex machina and will not need to sell his gold or GLD holdings, removing the liquidation overhang from spot gold. The only good news out of all of this: the taxpayer bailout of Bank of America, when it comes, will be $5 billion less.
Here is a track record of Buffett's previous bailouts:
- GS deal struck Sep. 23, 2008 while GE deal struck Oct. 1, 2008.
- GS fell 67% from Aug 25 $155.71 to low of $52 on Nov. 20
- GE fell 42% from Oct 2 $22.15 to low of $12.84 on Nov. 20
- NOTE: Buffett warrants in GS, GE were worthless by Oct. 8, 2008 amid rout in stocks
BAC since the beginning of the year:
And the, traditionally shady, HFT trading on the news:
Lastly, here is Peter Tchir's take:
So after denying the need for capital, BAC has decided to give a great deal to Mr. Buffett? He invests 5 billion in preferred shares. These pay a 6% dividend (cumulative). So anyone who bought shares yesterday at $7 was hoping to geet a 0.57% dividend yield, non-cumulative. So much better current income, the cumulative gives an additional advantage, and if it all goes bad, he is higher in the capital structure. The preferred are callable by bofa at 105% of par. So if they call the preferred shares Buffett will get 5.25 billion. He has warrants to buy 700 million shares at 7.14. He could have bought 700 million shares at 7 (the closing price). That extra 14 cents on 700 million shares, is $100 million. But he will have made $250 million on the preferreds getting called, so net even if he converts to shares, he will have made an extra $150 million. This may be great news, but in many ways it stinks. Will BofA actually get sued by some existing shareholders this time around? They seem to have made legal mistake after legal mistake, and it is possible existing shareholders won't be so happy to see such a sweatheart deal go to someone else this time around?
When the stock opens above $8, I expect we will see all sorts of reports on how much the value of the deal is to Berkshire. The same thing happened with Goldman and GE back in 2008. GS went on to new lows after the investment.
Buffett gets - high income, some seniority, and cheap options. BofA pays up to get capital they didn't need. Market is going to react positively, maybe for a long time, but I think it would have been a much stronger signal if he bought $5 billion of common shares at $6.50.