Warren Buffett is a billionaire investor who has taken out stakes in some of the largest United States banks, who tells us that the lenders have rebuilt their capital to the levels where they aren’t a possible threat to the economy any longer.
“The banks will not get this country in trouble, I guarantee it,” said Buffett – the CEO and chairman of Berkshire Hathaway, based out of Omaha, Nebraska – in an interview that he gave over the phone last week. “The capital ratios are huge, the excesses on the asset side have been largely cleared out.”
Major lenders including Citigroup Inc. and Bank of America Corp. have sold off their assets, bolstered their balance sheets and cut many jobs after they repaid the 2008 taxpayer bailouts, when these companies were truly overwhelmed by losses on housing market related securities. All of those actions helped raise the value of Berkshire Hathaway’s holdings, and increase financial stocks at the same time.
Berkshire Hathaway has invested in at least four of the seven biggest lenders in the United States of America by assets, and has also taken out more than a $14 billion stake in Wells Fargo and Co., based out of San Francisco. They have a $5 billion stake in Bank of America, and they have $5 billion worth of warrants to purchase shares of Goldman Sachs Group Inc. Berkshire Hathaway has a stake in U.S. Bancorp as well.
“Our banking system is in the best shape in recent memory,” said Buffett.
Past bank regulators and executives tell us that the biggest lenders still pose some risk to the United States economy even four years after the bailout, plus 2 1/2 years since legislators passed the largest major reforms to regulation on Wall Street since the Great Depression.
Trading Loss
Last year, J.P. Morgan Chase and Co. took a trading loss of $6.2 billion, which reminded America of our concerns for the banking industry. Sandy Weill, former CEO of Citigroup, mentions that lending money and taking deposits should be split off from investment banking as a way to prevent another major financial crisis.
Other investors have also spoke about their doubts and the accounting of banks. Even after the stock rally last year, J.P. Morgan, Bank of America, Goldman Sachs and Citigroup are all trading at less their book value, which is a calculation of how much a company’s assets should be worth if you subtract their liabilities.
There were mergers taking place during the financial crisis that brought about criticism, saying that too big to fail banking companies are getting even larger. Buffett mentions that this shouldn’t worry investors at all. Canadian banks managed to get through this crisis a lot better than other banks in many nations, as the biggest firms in Canada took hold of more market share than their counterparts in the United States did.
U.S. Advantages
“We do not have an unusually concentrated banking system compared to the rest of the world, and there are certain advantages in the largest capital market in the world to have banks that are somewhat consistent with the size of those markets,” said Buffett.
The biggest United States banks are going to face another round of Federal Reserve stress tests to figure out whether or not they have enough capital to raise dividends and buy back shares of their stock. Brian T. Moynihan, CEO of Bank of America, tells us that he’s confident BOA is going to pass even though they failed in 2011, when he did not receive the approval to increase the dividend.
Buffett also lent Bank of America credibility by providing the bank capital during 2011, after the company saw a 45% decline in share price during an eighth month period. This trade also followed moves during 2008 that Warren Buffett made by helping out General Electric Company and Goldman Sachs during the financial crisis. Both of the companies bought back the preferred shares that they sold to Warren Buffett. He also expects that Bank of America may potentially do the same.
Improved Condition
“Their condition has improved so significantly, and interest rates are so low, that they have the chance to do a number of things in that respect,” said Buffett. “I may like to keep it, but if it makes sense for them to call it, they’re going to call it.”
The preferred shares that Berkshire Hathaway owns of Bank of America pay an annual dividend of 6%, and they can redeem them at any time for the amount of $5.25 billion, according to the terms of the deal that was made. The deal also gives Warren Buffett 10 year warrants to buy 700 million shares of common stock from Bank of America at $7.14 apiece. Bank of America recently closed at $11.43 per share. If Warren Buffett were to exercise that option at those prices, he would make about $3 billion.
Buffett mentions that Berkshire Hathaway is most likely going to wait toward the end of the contract before they exercise that option.
“We’re in no hurry,” said Buffett. “Nine years from now I would think that Bank of America as well as Wells Fargo and probably the other major banks will be worth considerably more than they are now.”
A spokesman for Bank of America named Larry DiRita chose not to comment on Warren Buffett’s Bank of America investment.
Their Tier 1 capital ratio has almost reached 9% as of September 30 based on the newest standards internationally, and it’s up from about 8% just three months earlier. Their long-term debt dropped to $286.5 billion by the end of the third quarter, and this is down from $399 billion just one year earlier.