Berkshire May Scale Back Derivative Sales After Dodd-Frank
MidAmerican Energy Chairman David Sokol
Jonathan Fickies/Bloomberg
MidAmerican Energy Holdings Chairman David Sokol.
MidAmerican Energy Holdings Chairman David Sokol. Photographer: Jonathan Fickies/Bloomberg
Warren Buffett’s Berkshire Hathaway Inc., which has more than $60 billion at risk in derivatives, may scale back offering new contracts because of collateral- posting requirements, said a company executive.
David Sokol, assigned by Buffett to lobby Congress over its financial regulation overhaul, said that while he was “comfortable” with Dodd-Frank Act provisions regarding derivatives, the Omaha, Nebraska-based firm may find fewer opportunities to sell the contracts.
“If you are now going to have to post dollar-for-dollar collateral, and you can’t get a price in the market that we think reflects the value of the credit quality of the company, then we wouldn’t take on that risk,” Sokol said yesterday in an interview at Bloomberg headquarters in New York.
The financial overhaul, signed by President Barack Obama in July, is forcing changes at some of the world’s biggest companies, including Goldman Sachs Group Inc., the most profitable Wall Street firm, and bailed-out insurer American International Group Inc. The law imposes rules on derivatives markets, gives the U.S. new authority to unwind failing firms and creates a consumer-protection agency.
“Ultimately what it will do is alter the pricing,” Sokol said of the rules. “If one of our competitors is prepared to offer a similar instrument at a cheaper price, then there will probably be less of them” from Berkshire, he said.
Regulation
Sokol, 53, successfully lobbied against regulation that would’ve forced firms to post collateral on contracts written prior to the bill’s passage. Berkshire said this month in a filing that while the Dodd-Frank Act “may affect some of our business activities, it is not expected to have a material impact on our consolidated financial results.”
Language in earlier versions of the finanial bill “could easily have been misinterpreted to be retroactive,” said Sokol, who heads Berkshire’s energy and luxury-flight divisions. “After the third draft or so, we became concerned that someone just didn’t understand how dramatic that could be. The notion of passing a bill that affects existing arrangements is a very different issue that goes to a constitutional issue.”
Buffett, 79, has accumulated losses for Berkshire on equity derivatives since the 2008 financial crisis. The contracts, which mature starting in 2018, lose value when stock indexes decline. Berkshire’s second-quarter profit plunged 40 percent after the derivative bets on equity markets accounted for a $1.8 billion paper loss in the period.
Contracts
Berkshire’s counterparties on the deals paid $4.9 billion in premiums, and Buffett arranged the contracts to minimize the collateral requirements his company could face. Liabilities tied to the equity contracts and the firm’s portfolio of credit- default swaps were about $10.5 billion at June 30. The company’s collateral provisions at that date were $173 million. Berkshire holds the second-highest credit rating at Standard & Poor’s and the third-highest at Moody’s Investors Service.
Derivatives are financial instruments based on the value of another security or benchmark. Some instruments, including contracts that insured mortgage-backed bonds, have been blamed for fueling a financial crisis that led to the worst recession since the Great Depression.
Sokol joined Berkshire in 2000 when he sold MidAmerican Energy Holdings Co. to Buffett for more than $8 billion. He remained at the helm of the power producer under Berkshire and expanded the business through acquisitions, including the purchase of PacifiCorp in 2006.
To contact the reporters on this story: Hugh Son in New York at hson1@bloomberg.net; Andrew Frye in New York at afrye@bloomberg.net; Betty Liu in New York at bliu17@bloomberg.net.
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