The most interesting part of Warren Buffett’s annual letter to shareholders this year was his discussion on muni bonds, and the meaninglessness of historical default rates. As he noted, past default rates (always quite low) reflected a time when most issuance was un-insured, and thus it really was all on the issue to pay it off, without any expectation that an insurer would ‘share in the sacrifice’.
And yet he wasn’t so concerned, because Berkshire Hathaway (BRK) itself has gotten into the muni insurance business.
And now Buffett is betting more heavily on muni bonds directly, at yields he previously described as “unthinkable.”
Bloomberg: Berkshire increased its investment in debt issued by state and local governments to $4.05 billion as of March 31 from $2.05 billion on June 30, 2008, the Omaha, Nebraska-based company said in regulatory filings. Berkshire added $1.09 billion to the bet in last year’s third quarter and $985 million in the first three months of 2009.
Buffett’s firm bought municipal bonds while scaling back stock purchases and as its cash position fell to the lowest level in five years.
So what’s the play here? Well, fat yields, obviously, though yields are fat for reasons Buffett obviously knows well. To some extent, this could be a strategy of “looting” the taxpayer — like PIMCO does, betting on areas that he intuits are too big to fail. Given the anti-stimulative effects that a wave of defaults would have, a bailout or backstop for the muni industry is probably part of Buffett’s calculus here.