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Not So Strange Bedfellows: The Warren Buffett - Goldman Sachs Love Affair
"Money, its a hit. Don't give me that do goody bullshit." Pink Floyd -"Money" 1973
Warren Buffett has carefully crafted a public image of the benevolent grandfather to generations of individual investors. This folksy, homespun, Mid Western image has portrayed the “Oracle of Omaha” as the Walter Cronkite of the financial world.
Since the SEC fraud charges against Goldman Sachs (GS) and the recent efforts of Warren Buffett to weaken the Senate bill on derivatives, it may be a time to review Buffet's role in the financial crisis. It should also be noted the Buffett's Bershire Hathaway had a twenty percent holding in Moody's rating agency which rated Lehman Brothers debt as investment grade days before its filed for bankruptcy.
Image and public opinion is everything during this time of financial theatrics. So important that Goldman Sachs CEO Llyod Blankfein has instructed the companies employees to avoid making large high profile purchases that may draw attention and unwanted negative publicity.
Buffett's advice to individual investors, "Be fearful when others are greedy and greedy when others are fearful" has become part of our modern lexicon and helped build his franchise. A trustworthy, honest, regular guy who has managed to prosper while navigating the often corrupt waters of Wall Street.
During the recent financial crisis Buffett has quietly emerged as America’s new JP Morgan. A man so powerful that even Goldman Sachs is indebted too and so loved by the general public that Matt Taibbi fails to mention him or his cohort Byron Trott in his RollingStone article “The Great American Bubble Machine”.
While a Goldman Sachs/Warren Buffett romance seems like an unlikely marriage, Byron Trott’s role as matchmaker was instrumental in directing Cupid’s arrows to the heart of the financial crisis. Additionally, Buffett has “had a fascination with Goldman and first visited the firm when he was 10 with his father.”
According to a December 2007 article in the Wall Street Journal, Trott, who ran the Chicago investment banking office of Goldman Sachs is a protégé of former Treasury Secretary and Goldman Sachs chief Henry Paulson.
Trott was instrumental in the 2003 Berkshire Hathaway purchase of the McLane distribution subsidiary from Wal-Mart Stores and its 2007 $4.5 billion stake in the Chicago Pritzker family’s industrial conglomerate Marmon Holdings. In 2008, Trott brought Buffett into Mars Inc.’s $23 billion acquisition of Wrigley & Company.
Buffett, in a 2003 letter to Berkshire shareholders described Trott as an investment banker who understands Berkshire Hathaway better than any other.
In September of 2008 Goldman Sachs stock shares, GS, had fallen 36% over a ten day period and there was investor doubt that Goldman had the capital to survive during a period where Lehman Brothers had filed for bankruptcy and Freddie Mac, Fanny Mae and AIG were being bailed out by the Federal Government.
Bloomberg reported that Buffett’s close friend Goldman Sachs Lloyd Blankfein, who had repeatedly stated that GS could survive the financial crisis without radical change, was the only investment bank CEO present at New York Federal Reserve Banks September 15th meeting regarding the troubles of AIG. Though both Blankfein and Goldman Sachs CFO David Viniar denied Blankfien's presence at this meeting, disclosure under the Freedom of Information Act states that Treasury Secretary Hank Paulson spoke approximately 25 times over a ten day period.
Almost immediately, AIG had access to government financing and by Sept 26th only days after Buffett’s investment in Goldman Sachs, was able to meet collateral calls to its Wall Street trading partners.
The Wall Street Journal reported in September 2008, that Buffett, who had previously declined offers to assist both Lehman Brothers and Bear Sterns, received a call from his old friend Byron Trott.
Hours after Trott’s call, in a vote of confidence for both Goldman Sachs and the United States financial system, it was announced that Berkshire Hathaway would invest $5 billion in Goldman Sachs.
The Treasury Department and Federal Reserve Bank desperately needed to restore faith in a financial system that was crumbling because of the greed and avarice of its architects. Buffett’s beyond reproach image and the creditability it brought was actually more important than his capital investment.
Without Buffett’s involvement it is very likely that AIG would not have been rescued, and the ensuing bank bailouts may not have occurred. Public outcry and the political fallout would have been too great. With Buffett’s stamp of approval and trusted public image, his adoring followers would accept that the actions being taken were not only necessary but in the best interest of the people of the United States.
Part of the public’s love affair with Buffett is rooted in his well publicized mythology. How could anyone criticize a billionaire who owns a 1990’s American luxury car and still owns the same home in the “heartland” that he purchased a million years ago for a paltry sum? Whether he actually sleeps there or has several other automobiles or homes is seldom mentioned because this information would make him just another one of the super rich the public loves to hate.
On the surface it would seem that Buffett’s financial investment and personal endorsement was an altruistic act of faith in the American system. In reality the government and banking system needed Mr. Buffett more than he needed them. He was in a position to set the terms and call the shots. Making money by obtaining favorable deals is not a sin and Warren Buffett is a business man. His financial responsibility is to himself and the shareholders of Berkshire Hathaway.
As Goldman’s stock continued to fall after Buffett’s investment many began to think that he had lost his touch. In reality the bank bailout and government support of AIG had made this a low risk investment with great terms and a huge potential upside. Even after Goldman’s common stock had bottomed out after a 60% fall, Buffett’s Berkshire investment was still worth nearly $5 billion when including accrued dividends.
Keeping Goldman Sachs alive ultimately results in the company receiving $10 billion from TARP (Troubled Asset Relief Program) and allows AIG to funnel back another $12 billion indirectly after Goldman had refused to settle AIG trades at a discount. Goldman is now strong enough to do a stock offering that raises an additional $10 billion.
Goldman’s future earnings potential are also greatly increased by the fact that much it’s competition; Lehman Brother’s, Merrill Lynch and Bear Sterns were allowed to fail or be swallowed up. This lack of competition has helped Goldman Sachs make $100 million in trading revenues on 46 seperate days in the second quarter of 2009 and at least $50 million on 58 out 65 trading days. In fact, for the entire second quarter, Goldman Sachs had only two losing trading days. A winning streak like this has never been seen in market history.
The terms Goldman Sachs was willing to give Buffett are indicative of how close to failure they actually were. In return for his $5 billion and invaluable credibility Berkshire received:
• perpetual cumulative preferred stock paying a $500 million annual dividend
• warrants to buy 43.48 million GS common shares at $115, exercisable at any time before October 2013
• the assurance that GS will pay Berkshire $500 million if it redeems the preferred stock at any time.
According to Seeking Alpha, Berkshire’s 10 month return on its investment is between 3.1 and 6 billion dollars.
And the deal gets even sweeter. Reuters reports that Goldman executives, including Chief Executive Lloyd Blankfein are committed to protecting Buffett's investment by agreeing to “not to sell more than 10 percent of their common shares in Goldman until October 2011, or until Berkshire redeems the $5 billion in preferred stock it purchased last year.”
Byron Trott has recently announced that he will be leaving Goldman Sachs to start his own banking firm BDT Capital Partners. Trott’s new financial company will be backed in part by Buffett’s Berkshire Hathaway.
At this time it appears that everyone involved in this financial Armageddon has done pretty well financially. There is one notable exception, the United States taxpayer. Many of whom are currently unemployed, facing home foreclosure or worrying about their future. Unlike Goldman Sachs employees, no one needs to tell them not to make large purchases because they can't.
With all that has recently transpired it has become increasing difficult to be proud to live in America. Many feel that their country has betrayed their trust and abandoned them. If this feeling begins to creep into your psyche remember that you can still love your country even if you don’t’ love its politics, politicians or policies.
*** Buffett's Berkshire Hathaway disclosure on 2/16/10 shows stock holdings in American Express (AXP), Bank of America (BOA), Wells Fargo (WFC), U.S. Bancorp (USB), General Electric (GE), M&T Bank (MTB) and SunTrust Bank (STI) currently valued at more than $20 Billion. This number does not include stock warrants or his investment in Goldman Sachs (GS). ***
