Business

Whitney Tilson: Analysis Of Fannie & Freddie; Buffett On Booms, Bubbles And A Party Invitation

Whitney Tilson in his email discusses Omaha parties; UBS report on BRK; Buffett on Booms, Bubbles, and Busts; Mend, Don’t End, Fannie and Freddie; Erin Callan Tells Her Side of Lehman’s Collapse; Billions; Samsung Galaxy S7 edge; Teenage Drivers? Be Very Afraid; Buffett’s NCAA tourney prize.

Whitney Tilson: Berkshire Hathaway 2016 annual meeting

1) If you’re going to be in Omaha for the Berkshire Hathaway annual meeting this year, I’d like to invite you to two events on Friday evening and Saturday afternoon, both in the St. Nicholas Room at the Omaha Hilton:

1)    My friend Chuck Gillman and I are hosting our annual cocktail party from 8pm-midnight on Friday, April 29th. No agenda, no speeches, no dress code – just come, enjoy the drinks and snacks, and meet other value investors.

2)    Chuck and I are also sponsoring a casual get-together immediately following the annual meeting on Saturday, April 30th – just walk across the street or take the skybridge to the Hilton. It will end around 6pm.

(I have to leave early to get back to NYC for a friend’s wedding, so I will only be at the Friday night event.)

To RSVP for either of these events, please email Jill at [email protected] and include:

  • Which event(s) you plan to attend
  • Your name as you wish it to appear on your nametag
  • Your city as you wish it to appear on your nametag

I look forward to seeing you!

Whitney Tilson: UBS initiates Berkshire Hathaway with a Buy rating

2) Speaking of Berkshire, UBS just came out with an initiation on it with a Buy rating. Here’s the first page:

Whitney Tilson BRK

Whitney Tilson: A collection of some of Buffett’s wisest words

3) A good collection of some of Buffett’s wisest words, from his just-released 2010 testimony to the Financial Crisis Inquiry Committee:

One way to make sense of what happened is piecing together stories from those involved. The government tried this six years ago when it set up the Financial Crisis Inquiry Committee, interviewing dozens of bankers, regulators, top investors and politicians to try to figure out what happened.

One person the committee questioned was Warren Buffett. The interview took place in 2010, but the transcript wasn’t public until last week.

You can read the whole thing here. It’s 103 pages and totally fascinating.

I pulled out a few of my favorite parts. The quotes are lightly edited for clarity.

…On the nature of bubbles:

“My former boss, Ben Graham, made an observation, 50 or so years ago to me that it really stuck in my mind and now I’ve seen evidence of it. He said, “You can get in a whole lot more trouble in investing with a sound premise than with a false premise.”

If you have some premise that the moon is made of green cheese or something, it’s ridiculous on its face. If you come out with a premise that stocks have historically done better than bonds [and history shows that’s the case, people put their money behind it.]

On debt and risk:

“It gets down to leverage overall. I mean, if you don’t have leverage, you don’t get in trouble. That’s the only way a smart person can go broke, basically. I’ve always said, “If you’re smart, you don’t need it; and if you’re dumb, you shouldn’t be using it.””

On the psychology of bull markets:

“When your neighbor has made a lot of money by buying Internet stocks, and your wife says, “You’re smarter than he is and he’s richer than you are, so why aren’t you doing it?” …

People don’t have to be trained to want to gamble in this country, but they have this instinct — a great many people — they’re encouraged when they see some successes around. That’s why the bells and whistles go off in the casino when somebody hits a jackpot, you know.”

On companies promising results:

“Any time a large financial institution starts promising regular earnings increases, you’re going to have trouble, you know? … If people are thinking that way, they are going to do things, maybe in accounting, that I would regard as unsound.”

Whitney Tilson: In-depth analysis of Fannie Mae & Freddie Mac

4) Bethany McLean with an in-depth analysis of the GSEs: why it’s been so hard to come up with a solution for them (both economically and, even harder, politically), and a spot-on conclusion (full disclosure: I’m long FNMA):

here we are in 2016, and—surprise!—the companies are still very much with us. The Dodd-Frank Wall Street Reform and Consumer Protection Act, which was supposed to reshape the financial sector and which President Obama signed into law in the summer of 2010, quite deliberately did not deal with Fannie and Freddie. Nothing has happened since then, either. The GSEs remain wards of the government. As the longtime housing analyst Laurie Goodman wrote in a 2014 paper, “The current state of the GSEs can best be summed up in a single word: limbo.” It turns out that solving the problem of Fannie and Freddie is the most difficult problem of the financial crisis.

…Nor have Fannie and Freddie shrunk. They still have some $5 trillion in securities outstanding. By one important measure, they are in more precarious shape than they were in the run-up to the crisis: thanks to a 2012 amendment to the terms governing their conservatorship, the government is taking almost every penny of profit that the two companies generate, so Fannie and Freddie have not been allowed to rebuild any capital, which could absorb losses in the event of another downturn in the housing market. “The two mortgage funders are effectively federal bureaucracies, stripped of their independence, with basically zero capital, but still dominating the market for mortgage financing,” wrote the conservative pundits Alex Pollock and James Glassman in a recent Politico piece. “We are faced with running this business with really no cushion. It is a challenging situation for us,” Fannie Mae CEO Timothy Mayopoulous said on a conference call in early 2015. “It’s the last unsolved issue of the financial crisis, and the ramifications are enormous for everyone,” says Ryan Israel, a partner at a hedge fund called Pershing Square.

Not only is the issue unresolved, signs of movement toward resolution are few. The omnibus spending bill President Obama signed in December contains a provision effectively preventing the administration from taking any action, and leaving it up to Congress. And the issue has barely been mentioned by any of the 2016 presidential candidates.

This broad silence reflects the genuinely thorny nature of the problem, but also the fact that virtually everyone in Washington supports “solutions” that are ideologically or politically convenient but don’t make sense as policy.

…There is, however, a fourth option: fix the flaws in Fannie and Freddie and let them operate, as they did—effectively—for more than half a century, as the main public-private guarantors of the thirty-year mortgage. This idea might sound sensible to most Americans. But in Washington it is considered, if not completely insane, then at the very least a political nonstarter. Yet it does have some backers, including certain reform-minded financial analysts, think tank scholars, civil rights groups, lobbyists for small banks, and, curiously, a few hedge fund billionaires who bought Fannie and Freddie stock low and stand to make a killing if the companies are revived. While this odd assortment of players isn’t getting much of a hearing right now, their idea has one advantage over all the others: it would actually work.

…The best idea, whose most prominent backer is Graham Fisher’s Josh Rosner, is that the GSEs would operate as utilities, much like your electric utility, with a cap on the return they are allowed to earn, and regulated as such by a competent regulator with real teeth. The regulator, as Rosner writes, would “ensure that the firms employ their benefits of scale to minimize the costs to end-users while allowing them to earn acceptable, rather than excessive, rates of return.” They would be somewhat like the GSEs were in the 1980s, before all public companies faced inordinate pressure to grow their earnings and please investors. They would be well capitalized at a level consistent with that of other large financial firms, and they would no longer be able to hold mortgage securities on their own balance sheet. (Their portfolios of such securities have already shrunk dramatically.)

Rosner also writes that it is important that the GSEs serve as “countercyclical providers of liquidity.” What he means is that if the market is going crazy, and Wall Street is happily providing mortgage capital, the GSEs can and should stand back. That way, they will have dry firepowder if there are problems, and private capital flees the market. There’s already a taste of how that might work. Today, the GSEs are selling a portion of the risk they insure to other investors. The current way the GSEs sell risk is not without its flaws, but it is a start to doing exactly what President Obama said he wanted, which is getting private capital in front of the government.

This idea isn’t perfect, especially if you believe any government involvement in business opens the door to eventual corruption. It also requires regulatory competence, which is something that has been in short supply in modern times.

…But for citizens and taxpayers, it’s the right answer. We know that the basic infrastructure of the GSEs works, and worked well for fifty-plus years. On the other side, the argument that we shouldn’t settle for something less than perfect sounds a whole lot less compelling once you realize that no one has any vision of perfect, let alone any plan to get there, nor any clue about what glitches or outright corruption might emerge in a new model. And there’s this: all the talk about “comprehensive” reform is just empty words. Now, reform is in Congress’s hands, and one industry lobbyist says that everyone in Washington knows that after the failure of Corker-Warner, the chance that Congress will act is nil. All the words are a pretext for doing nothing.

Yet there’s also a risk to doing nothing. It’s impossible for the private market to resume functioning, even if it can, until the government decides what its role will be. More importantly, because the government has been taking all their profits, at this point the GSEs have less than $5 billion in equity supporting their more than $5 trillion in liabilities, leaving them with a capital ratio of 0.1 percent. To put that in context, when the Federal Housing Administration, which is fully owned by the government, had its capital fall below 2 percent, there was a political uproar over the potential loss to taxpayers. Indeed, the situation is painfully ironic in that the widespread belief is that capital is the one thing that makes the system safer. The largest banks are now required to have a capital ratio that is close to 5 percent. If there’s a recession and housing prices fall again, or if there’s a big swing in interest rates, Fannie and Freddie would have to be bailed out by taxpayers again. Don’t we deserve more of a plan than that?

In The Big Short, there’s a moment when Ryan Gosling tells the audience that he knows this stuff is really complicated, and it seems easier not to care, but that’s really dangerous, because what you don’t know can hurt you. When it comes to housing finance, Americans’ best interests have rarely dictated the answer, precisely because too few people care. That’s another thing the movie got right.

Whitney Tilson: Erin Callan’s Full Circle

5) I hope to find the time to read this new book by Erin Callan (now Montella), the former CFO of Lehman Brothers, who tried to commit suicide shortly after the firm collapsed:

Ms. Montella, 50 years old, also wasn’t the sort of person who prioritized her personal life over her work. The most important thing in her life was being a “Wall Street rock star.”

“Really, I was OK with throwing myself into the job because it was all that mattered to me,” she writes.

Full Circle,” which was released Sunday on Amazon.com, tells the story of how Ms. Montella rose to become the highest-ranking woman on Wall Street in 2008, only to resign from the firm six months after being named CFO.

On the night before Christmas Eve 2008, after Lehman’s fall was complete, Ms. Montella was hospitalized after attempting to take her life by overdosing on sleeping pills, she writes. Shortly afterward, she left Wall Street altogether and all but vanished from public life.

In 2015, 6½ years after she left Lehman, Ms. Montella received a phone call from former Lehman chief Richard Fuld. He said “every thing that I had wanted to hear for so many years,” she writes. He was sorry for leaving her alone on the March 2008 earnings call and he told her that she was the best person to be CFO.

Whitney Tilson: For those who watch Billions

6) Those of you who watch Billions will enjoy this:

Whitney Tilson: A review of the Samsung Galaxy S7 Edge

7) I recently upgraded my old Samsung Galaxy Note 4 to the new S7 Edge and love it! Thinner and lighter in the hand, razor-sharp screen, much better battery, massively better camera, continues to have a microSD slot, and, while I have yet to drop it in a pool, I have used it in the rain and like the fact that it’s waterproof. Below is a review in Gizmag:

We can’t decide if the Galaxy S7 and S7 edge are incredibly easy or incredibly hard to review. They get so many things right that it’s easy to sing their praises, but because they’re so good and polished, lacking the kinds of gimmicks that used to define Samsung phones, they almost make for a boring review (after all, problems and conflict are the root of all storytelling). We’ll do our best to keep things interesting, despite the lack of drama in these two near-perfect flagships.

Whitney Tilson: How dangerous teenage drivers are

8) My friend Bruce Feiler with a VERY important article in the NYT recently that should be required reading for anyone with teenagers. I knew teenage drivers were dangerous, but these statistics blew my mind (my emphasis added):

“If you’re going to have an early, untimely death,” said Nichole Morris, a principal researcher at the HumanFIRST Laboratory at the University of Minnesota, “the most dangerous two years of your life are between 16 and 17, and the reason for that is driving.”

Among this age group, death in motor vehicle accidents outstrips suicide, cancer and other types of accidents, Dr. Morris said. “Cars have gotten safer, roads have gotten safer, but teen drivers have not,” she said.

In 2013, just under a million teenage drivers were involved in police-reported crashes, according to AAA. These accidents resulted in 373,645 injuries and 2,927 deaths, AAA said. An average of six teenagers a day die from motor vehicle injuries, according to the Centers for Disease Control and Prevention.

Charlie Klauer, a research scientist at the Virginia Tech Transportation Institute, said her research suggested the numbers were even higher because many teenage accidents go unreported. “We believe one in four teens is going to be in a crash in their first six months of driving,” Dr. Klauer said.

How to address this problem is not as simple as it seems, especially as technology has taken over teenagers’ lives.

One father I know bought his son a manual-transmission car because it required him to use two hands, to eliminate the option of using a cellphone. I recently overheard a conversation between my sister and her 16-year-old son in which she reminded him not to text while driving, and he replied, “But I’m using Google Maps, and the text pops up automatically on the screen.”

So what’s a parent to do, especially one who knows teenagers are always one step ahead of any rules they try to impose?

FRIENDS DON’T LET FRIENDS DRIVE WITH THEM When I asked Dr. Morris what parents should be most worried about, she answered definitively, “Other passengers.” Adding one nonfamily passenger to a teenager’s car increases the rate of crashes by 44 percent, she said. That risk doubles with a second passenger and quadruples with three or more.

Most states have what are called “graduated driver’s licenses,” meaning some combination of learner’s permit, followed by a six-month or so intermediate phase, followed by a full permit. Restricting the number of passengers who are not family members is among the most common regulations in the early phases, but Dr. Morris said most parents disregard the rule once that time expires.

That’s a huge mistake, she said. “Even if your state drops the non-familiar-passenger restriction after six months, parents should make it their own rule,” Dr. Morris said.

Distraction is highest when boys ride with other boys, she said, whereas boys actually drive safer when girls are in the car. Altogether, passengers are a greater threat than cellphones, she believes. “Your cellphone isn’t encouraging your teen to go 80 in a 50, or 100 in a 70,” she said.

Whitney Tilson: The two winners of Buffett’s March Madness contest

9) A great story on the two winners of Buffett’s March Madness contest for Berkshire employees:

Two Guys Get The First 15 Games Right And Win $100k Each – The Closest Anyone Gets To Getting The First Two Rounds (48 Games) Right

“It’s been a heck of a weekend,” says Kevin Wills, who works at insurance company USLI in Wayne, Pa., and found out Friday that he was a co-winner of the Berkshire Hathaway (BRK-A) March Madness contest for employees.

Wills and Robert Keller, who works at Berkshire-owned Geico, will split $100,000. Both men had perfect brackets through the first 15 games of this year’s NCAA men’s basketball tournament, until Middle Tennessee State University, a 15-seed, toppled Michigan State, a 2-seed, on Friday night. In other words: Warren Buffett’s big contest didn’t even last two full days.

No one in the Berkshire contest (or in the country) came anywhere close to a perfect Sweet Sixteen– that would have earned them $1 million a year every year for life. Instead, Wills and Keller share the $100,000 prize for staying perfect the longest.

The co-winners correctly predicted the first 20 games of the tournament. Each of them predicted Yale (12) over Baylor (5). They called the University of Arkansas Little Rock (12) upsetting Purdue (5). They nailed Hawaii (13) beating UC Berkeley (4). After that happened, both men were certain they must be the last one standing, and both were surprised to learn they had a co-winner. After Michigan State lost, they were both out. That meant $50,000 each, not $100,000. (How disappointing.)

The two lucky winners couldn’t be more different in their approach to filling out the bracket, and in their interest level. Both spoke exclusively to Yahoo Finance on Monday.

Wills is a huge college basketball fan. He says he watches many games all season, unlike the many Americans who don’t start paying attention until the tournament begins. He’s the kind of person you would expect to win an office pool. “This week is always my holiday,” he says. “I take time off, get together with high school friends. I tend to watch all the late-night games when I get home. Lucky for me, I had gotten to watch Hawaii [before the tournament], and I thought they had a shot. And that was the team that put me through.”

Wills has worked at USLI for nine years as a product leader. He says that after his big win, “I’m a celebrity internally. I haven’t had a chance to do an ounce of work. Don’t tell Warren.” He and his wife plan to put the money away, except for perhaps buying some new furniture. “Maybe if it had been the whole hundred [thousand], we’d go on a trip,” he says. “Well, maybe I’ll take the family on a trip to Hawaii.”

Robert Keller, on the other hand, is no college basketball fan, and in fact, has never filled out a bracket or entered a pool before this one. He figures he hadn’t even watched a college basketball game in more than 20 years. “Never done a bracket, but this contest was going on, so I figured I might as well,” he says. “I sat down with my computer and tried to do a little homework. I consulted all the expert web sites, and I tried to pick some upsets, because you don’t win by picking the favorites.”

Keller, who has worked at Geico in Atlanta for nine years as a fraud investigator, continually refreshed the Berkshire website on Friday after every game, watching the field narrow. After Virginia Commonwealth University beat Oregon State, there were only 18 perfect brackets left of the more than 100,000 people who had entered the contest. After Hawaii beat Berkeley, Keller says, “I texted a friend of mine, and I said, ‘Out of 18 people I bet I was the only one to pick Hawaii.’ Nope. One other guy. And then of course no one picked Middle Tennessee to win. So we tied.”

Keller says he plans to put the money toward his children’s college fund—after he buys a new barbecue for the backyard.

Here’s the craziest part of Keller’s win: He won’t even watch the rest of the tournament. “I haven’t watched the games since winning,” he says matter-of-factly. “I mean, I like sports, I like football, but I don’t really follow college sports. But when there’s 100 grand on the line, you’re going to watch.”

Both men couldn’t help but get excited when they were told, by their respective bosses, that someone from Berkshire had called to verify their employment. Wills says his boss texted him and asked jokingly, “You still work here, right?”

Whitney Tilson
Whitney Tilson