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Explaining Buffet’s support for the bailout (update)
Posted by: McQ on Monday, September 29, 2008

If you ever wanted proof of Dale's words yesteday, here it is:
Legendary investor Warren Buffett warned Congressional leaders Saturday night of "the biggest financial meltdown in American history" if they did not act to secure the financial system.

Buffett, by telephone, was consulted by lawmakers who were in marathon talks on Capitol Hill to forge a deal on the administration's $700 billion economic bailout plan, according to two sources.
What is it Dale said that I'm referring too?
I keep hearing over and over again—and I've even said it—that no one knows what these mortgage backed securities are worth. But let's be clear here: the reason we don't isn't because the price is mystifyingly unknowable. It's because they haven't even tried to sell them off yet. We already know it's possible to find out what the price is, simply by offering them up for sale. Indeed, we did it in July when Merril Lynch sold off its entire MBS portfolio.

The reason we're not doing it now is because the holders of MBS paper expect a government bailout, and they expect to receive through it a price significantly higher than they would in the secondary market. If it were otherwise, they'd already be auctioning them off.
Of course Warren Buffet just bought 5 billion dollars worth of Goldman Sachs. And what does Buffet expect to get out of this - why a profit of course. But his problem is, at the moment there is no "game" afoot with which to make that happen.

Arnold Kling explains the "game" in question:
Think of the mortgage securities market as the World Series of Poker. In fact, a great book about it is Liar's Poker, by Michael Lewis. Lewis was a trainee at Salomon Brothers, and he learned phrases like "Big Swinging D___," which describes a swaggering, aggressive mortgage banker. Henry Paulson fits the model.

The best players in this World Series of Poker are the folks at Goldman. They hired Fischer Black and other geniuses back when the markets were first getting going. They have typically had the best squad of geeks around.

Buffett just bought a stake in Goldman. That stake would be a lot more valuable if there were actually a poker game—that is, if mortgage securities were still trading. Right now, they're not trading. So Goldman is sitting there ready to play and no one is ready to play with them.

Along comes Uncle Sam, who wants to take a one-hour lesson in poker and then sit down and play in the World Series with $700 billion in chips. And whaddaya know? Warren Buffett thinks Uncle Sam really has to get in the game.
See that key underlined phrase "sitting there"? They're not doing anything because, as Dale explained, they expect that a government bailout will bring them a much higher price than if they push this paper out on the market itself.

So they're doing nothing. If this wasn't coming down the pike though, you'd better believe they'd be busy trying to figure out a way to establish a secondary market to move the trash they have in their portfolios.

As Dick Armey points out, self-interest drives any market, even one which has been compromised by government. And this is just another example of the point. Warren Buffet isn't worried about financial meltdowns. He's very cognizant of the fact that the market would darn well establish a price for MBS. He doesn't want it too, because that will cost him money.

Instead he's all for this bailout for the reasons outlined.

That should tell you all you need to know right there.

UPDATE: Good article here by Joseph Calhoun. Read it all. But the conclusion pretty much addresses what's being said on this blog about pain management and the way to address the problem. The whole point is not to be panicked into doing something that isn't going to work and may make the matter worse.
We are not on the verge of a new depression. The housing bubble collapse in California, Florida and a few other states is not enough to bring down the entire banking system. Investors who made mistakes in these markets should be held responsible and those who navigated the Fed-distorted market should be rewarded for their wisdom and prudence. Enacting the Paulson plan will not allow that to happen and our economy will suffer for it in the long run. The Japanese tried to prop up failed banks in the aftermath of the bursting of their twin bubbles and the result was 15 years of stagnation. Why are we emulating a strategy that is a demonstrable failure? A better alternative would be to allow capitalism to work as it should and stop the interventions of the Fed in the money market. Trust capitalism. It works.
Bingo.
 
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He’s great as spinning himself off as a philanthropist, isn’t he?
 
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