1 Boring Old Man

Buffett Backs Goldman Sachs on Abacus Trade, Praises Blankfein
Bloomberg
By Andrew Frye and Betty Liu
May 02, 2010

Berkshire Hathaway Inc.’s Warren Buffett praised Goldman Sachs Group Inc. Chief Executive Officer Lloyd Blankfein and said the bank shouldn’t be blamed for losses suffered by clients who invested in mortgage bets at the center of a fraud suit filed by regulators. “He’s done a great job running that firm,” Buffett said yesterday in Omaha, Nebraska, in a Bloomberg Television interview before Berkshire’s annual shareholders meeting. He said he supports Blankfein “100 percent.”

Buffett, 79, has become one of Goldman Sachs’s most visible advocates after the firm was sued last month by the U.S. Securities and Exchange Commission for misleading clients who invested in a collateralized debt obligation known as Abacus 2007-AC1. The SEC said that firms including ABN Amro Bank NV weren’t told that the hedge fund led by John Paulson helped pick the mortgages in the CDOs and was betting on them to fail. “I did not hold it against Goldman Sachs that an allegation has been made,” Buffett said. He said he’d review the case further “if it leads to something more serious.” Buffett also backed Blankfein in January, saying the bank’s leader since 2006 “has been the right man” for the job. He said yesterday that Blankfein is “smart. He’s high grade.”

Buffett, who is also Berkshire’s CEO, invested $5 billion in Goldman Sachs in 2008 and has praised the bank for its risk management. Berkshire makes $500 million a year in interest on its Goldman Sachs preferred stock. The warrants Buffett negotiated as part of the deal give Berkshire the option to buy $5 billion of common stock for $115 a share. The shares closed at $145.20 on April 30.

Berkshire’s paper profit on the warrants is about $1.3 billion, down from about $3 billion before the SEC lawsuit was announced. The bank, which said the suit is unfounded, must weigh the risks of a legal battle against the benefits of a more immediate resolution. Politicians have vilified the firm as a symbol of the Wall Street excess that led to the collapse of the subprime residential real estate market…

Berkshire has four decades of experience with Goldman Sachs and no expectation that the bank would offer investment advice or disclose its own stance on trades, Buffett said yesterday. “We are in the business of making our own decisions,” Buffett said. “They do not owe us a divulgence of their position.” Senator Carl Levin, who led a subcommittee that pilloried Blankfein on April 27, accused the bank of conflicts of interest for selling mortgage bets to clients as it cut its own housing exposure.

It “wasn’t so obvious” when the investments were sold in 2007 that the housing market would collapse, Buffett said yesterday. “I can’t see what difference it makes if it were Paulson on the other side of the deal or Goldman Sachs or Berkshire Hathaway.” Berkshire swung to profit in the first quarter as rising markets increased the value of investments and a recovering economy boosted results at its industrial operations…

But when I read this, I decided to try to get into Buffett’s dog-eat-dog world and think like one of these people. What happened was that I found myself thinking about the Abacus deal myself and something occurred to me. There is another scenario besides the one the SEC proposes. Here’s the one on the table [left figure]. GS&CO leads on ACA – allowing them to think Paulson is going long on this bet. They sell $150 million to IKB. ACA Capital hears about it from ACA Management and buys in for $800+ million, thinking they’ll ride the Paulson Gravy train.

But there’s another possibility [right figure]. Abacus is issued and IKB only buys $150 million. Paulson wants a bigger bet. So ACA Capital buys $800+ million and insures it with ABN – passing on the liability to another foreign Bank [ABN]. Could the ACA purchase have been a ruse? A way to up the ante? Certainly ACA could’ve been in on the deal – buying long, then covering with a CDS from ABN is as good as selling this loser to ABN in the first place. The rogues!