Warren Buffet on Black Scholes.

[TraDaToR]

Is the institution on the other side of the trade known?

 

[scriabinop23]

Quote from Cutten:

He won't have to worry about Black Scholes if the value of the put becomes mostly intrinsic later this year.

Its way intrinsic already. From 2007, so S&P at 1450-1500 or so.


...

It is not as if Warren Buffett did not have a position in derivatives. Instead of CDS, which made tones of money for Prem Watsa, Warren Buffett disclosed his derivatives in the last years Chairman’s Letter to Shareholders (2007)


Last year I told you that Berkshire had 62 derivative contracts that I manage. (We also have a few left in the General Re runoff book.) Today, we have 94 of these, and they fall into two categories.

First, we have written 54 contracts that require us to make payments if certain bonds that are included in various high-yield indices default. These contracts expire at various times from 2009 to 2013. At yearend we had received $3.2 billion in premiums on these contracts; had paid $472 million in losses; and in the worst case (though it is extremely unlikely to occur) could be required to pay an additional $4.7 billion.

We are certain to make many more payments. But I believe that on premium revenues alone, these contracts will prove profitable, leaving aside what we can earn on the large sums we hold. Our yearend liability for this exposure was recorded at $1.8 billion and is included in “Derivative Contract Liabilities” on our balance sheet.

The second category of contracts involves various put options we have sold on four stock indices (the S&P 500 plus three foreign indices). These puts had original terms of either 15 or 20 years and were struck at the market. We have received premiums of $4.5 billion, and we recorded a liability at yearend of $4.6 billion. The puts in these contracts are exercisable only at their expiration dates, which occur between 2019 and 2027, and Berkshire will then need to make a payment only if the index in question is quoted at a
level below that existing on the day that the put was written. Again, I believe these contracts, in aggregate, will be profitable and that we will, in addition, receive substantial income from our investment of the premiums we hold during the 15- or 20-year period.

 

[Random.Capital]

Quote from dmo:

I'm taken aback by Buffett's narrow understanding of options.

I think it's safe to assume Buffet understands options just fine, and has framed his words for a specific audience/purpose.

 

[dmo]

Quote from Random.Capital:

I think it's safe to assume Buffet understands options just fine, and has framed his words for a specific audience/purpose.

I would buy that except for the undeniable fact that he DID make the trade. He DID sell those puts. So he must have felt he had a powerful rationale for doing so -- apparently, the one he expressed in his letter.

If that was not his rationale for making this trade, then what was?

 

[Random.Capital]

Quote from dmo:

If that was not his rationale for making this trade, then what was?

Ask him. He'll answer by talking his book. And you still won't know.

 

[dmo]

Quote from scriabinop23:


The second category of contracts involves various put options we have sold on four stock indices (the S&P 500 plus three foreign indices). These puts had original terms of either 15 or 20 years and were struck at the market. We have received premiums of $4.5 billion, and we recorded a liability at yearend of $4.6 billion. The puts in these contracts are exercisable only at their expiration dates, which occur between 2019 and 2027, and Berkshire will then need to make a payment only if the index in question is quoted at a
level below that existing on the day that the put was written. Again, I believe these contracts, in aggregate, will be profitable and that we will, in addition, receive substantial income from our investment of the premiums we hold during the 15- or 20-year period.

I'm just in awe at the poetry of this. The world's most disciplined investor - the ultimate hero/guru of the entire 1982-2007 bull market run - stakes the financial future of his company on a bet that in 10-18 years the market will be higher than it was at what will certainly turn out to be the long-term multi-year top.

So classic. Maestro - doesn't this conform to one of those immutable laws of nature of yours? It must.

For a little perspective - it is now 19 years since Japan hit its all-time high. And it's down over 80% from that high. I wonder how much Buffett will lose if the same turns out to be true of our market?

 

[dagnyt]

Quote from scriabinop23:


Last year I told you that Berkshire had 62 derivative contracts that I manage.

You discuss your client's positions in an open forum?

You are either a liar or as unethical as they come.

Mark

 

[Random.Capital]

Quote from scriabinop23:

Last year I told you that Berkshire had 62 derivative contracts that I manage.

Your client will no doubt be delighted to learn an insider is talking about their positions on a public forum.

 

[Daal]

He was quoting warren buffett guys. too funny

 

[chewbacca]

does anyone know which options contracts he sold that expire in 10 years?

where did he find these options? do they trade on an exchange?

also they must be extremely illiquid.....and considering what a huge position it was, i wonder who the counterparty was