Buffett, Grantham and China: What the Savers Are Buying

Looking back, the signs of a market tops and bottoms are so obvious. Hindsight is 20/20 and all that. When you’re in the middle of it all though, it’s not nearly as easy to see. Many records were made during the peak these past couple of years.

For instance, CEOs were booking eight and nine figure paydays, with the average bonus at Goldman Sachs (GS) passing $600,000, and thousands of part-time real estate flippers were getting rich a bit too easily. However, a lot of that money was spent – err – squandered. It wasn’t saved. The smart money was saving. In fact, many of the world’s greatest investors were gladly selling out to the herd when things were getting a bit too crazy. Others were just waiting everyone out.

After all, that’s what the smart money does. They use the good times to save up and use the bad times to buy away. That’s why I like to say, to the saver goes the spoils. And, right now, as the indices are retouching their liquidity crunch lows, the savers are moving.

I’m not going to give you some long-winded ants and grasshoppers speech here, it’s all pretty basic. Savers have money when no one else does, and spenders, who overspent buying assets, have to sell out to pay down debts, cover living expenses, etc. (that is, of course, as long as the government doesn’t step in and change the rules to reward the spenders and punish the savers – a.k.a. bailouts).

That’s how savers buy low/sell high. It’s the essence of investing successfully. Yet so many people have a tough time following it.

Regardless, the savers appear to be changing their ways a bit, and some of the world’s biggest savers are buying. They’re seeing the signs of a bottom (emphasis on signs – it’s still a bit early to be calling a true bottom yet) and tapping into their reserves. They’re taking this opportunity to buy assets, which would have cost five or ten times as much, less than a year ago.

Who are some of these savers, you ask? Well, they’re some of the best investors in the world.

For instance, Warren Buffett only opened up new positions last year in two stocks (keep in mind, he hasn’t been buying many stocks lately – he’s mainly been making loans). GMO’s Jeremy Grantham has quietly spotted something he’s “definitely” about to start buying, and the big money in China committed to plunge $25 billion into this asset without drawing much attention.

So let’s take a look at what spoils these savers are going after.

Buffett’s Bet on Wet

Warren Buffett’s track record speaks for itself. He entered this crisis with more than $40 billion at his command and he’s been gobbling up some fantastic deals ever since. Many of those deals, as we noted, were fantastic deals with unique structures (e.g. Goldman Sachs “synthetic convertible preferred” financing) and individual investors should not follow in behind with common shares.

Despite a number of great deals Buffett led his holding company, Berkshire Hathaway (NYSE:BRK.A), into over the past few months, he managed to buy into two positions that regular investors can too.

One of them was Constellation Energy Group (NYSE:CEG). This well-publicized deal was part of a takeover deal, and it fell through when a higher bidder came along.

Last quarter, Buffett was buying common shares of Nalco (NYSE:NLC). Nalco is a relatively small water services company (market cap $2.7 billion). It’s nothing near the size of the Coca-Colas (KO) and the Johnson & Johnsons (JNJ) Buffett’s known for buying, but it has everything else Buffett looks for like solid cash flow, years of growth ahead of it, a “moat” protecting it from competition, etc.

Although Berkshire only picked up around 8.7 million shares of Nalco (currently trading for around $11.60), it was good to see it uncover some value in the market somewhere. Who would have thought it would be on a global water infrastructure company?

It’s not only Buffett continuing to bet big though. Some other big savers have been waiting too for this opportunity.

Jeremy Grantham: “…I’m definitely a buyer”

By avoiding stocks for the last decade or so, Jeremy Grantham has been labeled a perma-bear. Now that the S&P 500 has fallen back to 1997 levels, he has been more or less vindicated.

Therefore, he’s been on the sidelines for a lot of the recent run and saving up for an opportunity like this. Now he’s starting to get “a bit interested” in oil and we’re close to the point where he says he will “definitely be a buyer.”

In a recent interview, Grantham revealed (view video here) his thoughts on oil:

I thought that after 100 years at $16 a barrel, it had jumped to maybe $36 or $37 in real terms. And I think it has probably jumped again. It will be revealed in 20 years to what level. But my guess is $60, $65, maybe even $70.

But what people underestimate, even in the oil industry, is how volatile the asset class is. In other words, if the trend is $65, it is fairly routine for oil to sell below half, say $30, and more than double, say $145.

And people never get that. So you don’t want to be too quick to buy into weakness or sell into strength, necessarily. But it can go a long way. But below 40, I must say, I do get a bit interested. And below 30, I’m definitely a buyer.

Now, I realize we’ve spent quite a bit of time delving into how much demand will be eroded by the economic downturn and there’s no reason at all to rush out and load up on oil, but he does raise some good points.

Oil is very volatile. It overshoots to the upside and to the downside, and now is probably one of the times it is overshooting to the downside. The odds of a quick rebound in oil prices are still extremely low. There are massive stockpiles of oil sitting around ready to be sold on any uptick in prices. For instance, Frontline (NYSE:FRO) reported:

Trading companies are storing an additional 80 million barrels aboard 35 supertankers and a handful of smaller tankers, the most in 20 years.

That’s a lot of oil to work through before oil prices can move up more than 10% or 15%.

From a long-term perspective, which Grantham certainly has, it’d be tough to get burned too badly buying oil under $30, which we’re not far away from. Grantham’s not the only one getting interested in oil now, as China’s preparing for its post-crisis needs as well.

China Shopping Spree Continues

It’s no secret Russia is facing some problems. Nouriel Roubini, noted economist and front man for this crisis, has spoken at length about the problems that Russia’s resource-based economy will be facing in the months ahead. Even Russia’s vast foreign currency reserves probably won’t be enough to allow the Russian ruble to ride out the storm very easily.

Despite it all, Russia still has what a lot of other countries want: oil and natural gas. And in bad times, China has shown it’s more than willing to write some big checks to secure oil.

Even though oil prices have fallen another 10% in the past few weeks, the country hasn’t changed course. On Wednesday, China announced an oil-for-loan deal with Russia.

Under the terms of the deal, state owned China National Petroleum (CNPC) will loan two state-owned Russian oil companies (Rosneft and Transneft) a total of $25 billion in exchange for 20 years of guaranteed delivery of about 300,000 barrels of oil per day. This deal would have been almost impossible to complete a year ago. Let alone, at the relatively small cost of $25 billion.

Once again, a saver like China reaps the benefits patience and prudence can provide.

Searching for a Market Bottom

Now, I’m not about to tell you we’ve hit an official bottom, and Grantham and Buffett will be the first to admit they’re probably a bit early.

At the Prosperity Dispatch, our 100% Free e-letter, we’ve been over many signs of a market bottom, and we’re seeing more and more every day. For instance, the latest one comes from a new book from Michael Panzer, When Giants Fall: Economic Road Map to the End of the American Era. The book calls for the equivalent of economic Armageddon. According to its publisher, the book will show, among other things, the “growing conflict and wars, shortages, logistical disruptions, and a breakdown of the established political and monetary order.”

I haven’t read the book and haven’t decided whether it will go on the “must read” list, but its publication does show us one very important thing. You see, book publishers are in business to make a profit. They want to sell books that people want to read, so they have to publish books on “hot topics,” if they want to sell to the masses – a.k.a. the herd. Therefore, the important thing to note here is not whether the book’s predictions are right or wrong, it’s whether it sells well.

Remember, the doomsday books sell well when times are bad. They become top sellers when times are really bad and a bottom must be near. The opposite is true during good times. The overly positive books sell great when expectations are high. I mean, imagine how many copies of the tech bubble classic, Dow 36,000, you’d be able to sell now - not many. Now, I’m not about to go “all in” (or think of telling anyone else to) just because of a new book that is predicting a disastrous period is ahead of us. However, I will add it to the list of “we should have known that was the bottom,” candidates.

It's times like these, we can’t forget our mantra since all of this really kicked off last summer:

This may be the buying opportunity of a life time. Don’t forget there is the possibility for the buying opportunity in five life times to come along soon.

Despite it all, it is good to see some really smart money get interested and some really big money start getting put to work.

Disclosure: None

Comments

[ROLEXDAYTONA:]

Mr. Buffett will be one of few survivors who is buying everything on sale, when value is 1$ Buffett is paying 0.10$-0.50$ today, when in other time it would be like a dream.
I think BRK.A,BRK.B in 20 years will be 5-10 times bigger and have even more influence in every part of the US economy.
The only stock that is worth to place all your savings, is Buffett's stock, it will not rise immediately, but after time - you will be a king when most investors will lose their shirts.

Feb 20 06:21 AM

[misiosnechacz:]

better to be a bit to early than far too late.

Feb 20 08:47 AM

[Greenmonday:]

Andrew,

I respect the fact that you are trying to contrarian and signs of extreme pessimism are there but keep in mind a couple of things. If we are in a depression (severe, prolonged recession whatver you want to call it) pessimism like this can linger for a long time. How would have the traditional sentiment indicators fared in 1929-1932? They would have called bottom way too early and many smart people who called the top and profited lost everything getting back in too early.

That being said, one shouldn't neccessarily expect an exact replay of 1929-1932....I always keep an open mind. Another thing to remember is this, the so called "smart money" including buffet were cautious/bearish about US markets for 4 straight years from 1996-1999 and were wrong.

Final point....the book by Panzer that you mentioned does seem over the top bearish and perhaps a good contrary indicator but this same guy came out with a book called Financial Armagedon near the market peak in 2007 and he really nailed it.

I suspect at the true bottom nobody will be talking about it and the bulls after being burned dozens of times trying to call it will be too scared to proclaim it and since the market hit record overvalued levels in 2000 I think its only logical we will see the opposite extreme before its all over and we aren't there yet but that doesn't mean we can't have another 3-5 year bull market first before we get there...the permabears need to realize this possibility and they sure didn't from 2003-2007 and got burned badly.

Feb 20 09:01 AM

[auto44:]

Bears make money. Bulls make money. Pigs get slaughtered.

Feb 20 10:29 AM

[cameltrader:]

>> Trading companies are storing an additional 80 million barrels aboard 35 supertankers and a handful of smaller tankers, the most in 20 years.

That’s a lot of oil to work through before oil prices can move up more than 10% or 15%. <<

This is a bullish price signal. Traders are betting on higher future prices. Also, the volume in floating storage looks formidable but, in perspective, represents approximately 1 day of world consumption; 10 days of US consumption.

Feb 20 10:34 AM

[ArtfulDodger:]

For those willing to stick their toe into such markets as these for the long term, they should buy cash and free cash flow and little to no debt.

Debt, not a lack of credit, has gotten the world into this mess. Those companies that can produce and during these times will be the ones that have the most cash and the least debt.

If things get worse they'll also be the ones that make it through this mess alive.

Feb 20 11:26 AM

[HaavBline:]

Author owes Michael Panzer a gigantic appology.

The guy publish the book "Financial Amargeddon" in March 2007! All though 2007 and most of 2008, he showed up on perm-bull, Goldilock economist Larry Kudlow's show on CNBC getting a bashing (theatrical & civil) from Kudlow while consistently maintaining his super bearish stance from the beginning of the subprime crisis all through its contagion into the global financial armargeddon that we are still trapped in. Finally in late last year, the permanently 'optimistic' Kudlow had to grudgingly admit Panzer had been right all along.

I kicked myself for not following Michael Panzer's warnings whole heartedly and simply short the market and go away. I would have been much richer now.

Feb 20 12:43 PM

[HaavBline:]

Author is fortunate to not have learned about the Panzer book in 2007. He could have taken that 'doomsday' book as a sure sing of market bottom in 2007.

Feb 20 12:48 PM

[Conan the B...:]

Buffet is losing money hand over fist, His insurance company profits are smoke and mirrors. Wells Fargo a Mjor holding is going the way of the DoDo.

BNI bye bye, Bought heavy in Europe just before the Recesion hit there.

Sold Puts galore on S&P, Major losses there as well.
Traditional does not work in today's Markets.

Let's see what the Earnings are for the current quarter, my guess is negative.

Feb 20 02:13 PM

[Ricard:]

Great article. Completely agree with the analysis, and appreciate the author's admission regarding market timing. Finally, I like the author's general tone - it is much more constructive to discuss opportunity than it is to discuss blame political rabble-rousing.

It is interesting to note how the author lumps Buffett, Grantham and China as possessing similar styles of investing in this market. Most interesting indeed.

Feb 21 02:55 AM

[Conan the B...:]

The Reality of Buffet is his track record.

The Past 10 years with BRK.A:

In actual Fact, BRK.A spectacularly underperformed the DOW between 1998 and 2000, caught up to breakeven when the DOW crashed, mimicked it until the middle of 2007 when it finally outperformed for about 6 months.

Between 1998 and present, BRK.A has not appreciated.

This is Reality. You could have bought the DJIA Index and accomplished virtually the same thing.

The Oracle of Omaha? Wiki the definition of Oracle.

There is nothing infallible about Buffet.

Feb 21 04:10 AM

[veryold:]

BRK/B is the worst stock I have ever owned. More so because I thought it was so safe. Additionally, it pays no dividends, even though Buffett always makes certain the stocks he buys pays him a dividend. I won't live long enough for this stock to recover. And neither will he.

Feb 21 02:59 PM

[dakyne:]

Buffett is admittedly a poor market timer. Having said that, he has a horrific short-term track record of being early during recessions, but is long-term performance speaks for itself. So 10 years from now and beyond, he will probably be proven correct again.

However, his performance hasn't held up in a meltdown as severe as the 30's, and potentially the one today. Because if he is indeed early again, he will get crushed even more. If the markets don't hold at current levels (Dow 7400), you will see the markets plunge past circuit-breakers. Insurance companies are better funded, are less levered,and better capitalized than bank. The market's recent plunge drove many banks into insolvency, but merely stressed the finances of most insurers (with the huge exception of AIG, which doomed itself with CDS).

But, if equities continue to deteriorate, the circuit breakers for insurance companies will also bring into question insurer's solvency. We could see another 50% plunge from these levels.

Another metric for "value": during the depths of the Great Depression, the Dow/Gold ratio was 2:1. Think that was extreme? Yes, but don't think it can't happen again. Because in 1980, when gold spiked, the Dow/Gold ratio was 1:1. Even assuming a conservative ratio of 5:1, that could hypothetically suggest a Dow of 6000 and gold at $1200.

But if history repeats itself, things could get a lot worse for the Dow and/or a lot better for gold. Just sayin'.

Feb 22 12:44 AM

[Oregonrain:]

I liked this article in that it tries to talk about two of the best value investors of our time. But as is typical, Buffett gets all the ink and Grantham is like "who."

Grantham is someone I have started to follow very carefully. He has a quarterly newsletter that goes out for free. All you have to do is put your name on the list. I highly recommend that as well. gmo.com

All in all Grantham has been talking for at least two years about what I believe are the three big issues of our time. First even before things got bad he said we were in the "first worldwide all asset class bubble" and that no one had the guts to call it like it was let alone stand up and "pop" the bubble early on. In this regard he zeros in on Greenspan. He is old school (as am I) and see the traditional role of the central banker to be to "take the punch bowl away just as the party starts to get really fun." In this situation the "rational market" ideology of the Fed chair prevented this.

Next he has talked about what I consider to be the great "group think" or as Grantham describes it.."people were paying more and more to take on more and more risk." This of course is the exact the opposite of how markets should function.

He described how "career risk" among CEO's and others also accelerated the bubble. I call this simply "lack of leadership."

Remember this is a guy who called it to a tee. A bit early yes...but like Buffett he would concede that value investors are not great market timers. Now he says that the market is getting close to fair value. But...he also says that in most bubbles things tend to "over correct" before they "revert to the mean."

If you start to do a top down analysis and believe that expected earnings in the S&P are still to rosy..you can at the low end expect total earnings in the S&P in 2009 to be around $50.00 and a PE of somewhere between 10 - 15 that would put a bottom in at between where we are now...750 and a low of 500. That is where Grantham is as well.

Now all you have to do is pick how much risk you want to take on to make how much gain. Above all you need to be very patient and not blink.

Feb 22 12:29 PM

[Dr. C.:]

"Trading companies are storing an additional 80 million barrels aboard 35 supertankers and a handful of smaller tankers, the most in 20 years.

That’s a lot of oil to work through before oil prices can move up more than 10% or 15%. "

----------------------...
note: that 80 million barrels won't cover the world's needs for a single day.

Feb 22 10:47 PM

[Dean M:]

If I had an advisor buying for me some of the crap that Buffet picked up in the past year, I would have fired him a long time ago..

Feb 23 01:14 AM