Berkshire Hathaway: Worst Year Ever, and CDS Too

by: Paul Kedrosky

Warren Buffett has out his annual Berkshire letter, and you will find lots of close line-reading at all the usual places. My takeaway -- beyond the obvious that this was a horrible year for Buffet, the worst in his career -- come from the derivatives section toward the end of the letter.

In short, Buffett continues to explain why, as an ardent critic of derivatives, he has a significant position in same. He has written put option on various equity indices around the world, essentially a bet that market will be much higher. These bets, while paying premiums, are current badly underwater. At the same time, he says in his letter that in 2008 he, for the first time, wrote some credit default swaps. That is a fairly remarkable admission given his public views on the subject.

Considering the ruin [of derivatives that] I’ve pictured, you may wonder why Berkshire is a party to 251 derivatives contracts (other than those used for operational purposes at MidAmerican and the few left over at Gen Re). The answer is simple: I believe each contract we own was mispriced at inception, sometimes dramatically so. I both initiated these positions and monitor them, a set of responsibilities consistent with my belief that the CEO of any large financial organization must be the Chief Risk Officer as well. If we lose money on our derivatives, it will be my fault. [Emphasis mine]

The line I have highlighted above is quite the hubristic admission. Read the whole thing.