Warren Buffett's annual letter to Berkshire Hathaway shareholders came out over the weekend. Whatever your feelings about Buffett as a TARP supporter, investor, friend of scoundrels like GE honcho Jeffrey Immelt, or general human being, the newsletter deserves its reputation as a must-read for anybody serious about business. This year's edition contains some fun TARP-related defiance:
We will never become dependent on the kindness of strangers. Too-big-to-fail is not a fallback position at Berkshire. Instead, we will always arrange our affairs so that any requirements for cash we may conceivably have will be dwarfed by our own liquidity. Moreover, that liquidity will be constantly refreshed by a gusher of earnings from our many and diverse businesses.
When the financial system went into cardiac arrest in September 2008, Berkshire was a supplier of liquidity and capital to the system, not a supplicant. At the very peak of the crisis, we poured $15.5 billion into a business world that could otherwise look only to the federal government for help. Of that, $9 billion went to bolster capital at three highly-regarded and previously-secure American businesses that needed – without delay – our tangible vote of confidence. The remaining $6.5 billion satisfied our commitment to help fund the purchase of Wrigley, a deal that was completed without pause while, elsewhere, panic reigned.
We pay a steep price to maintain our premier financial strength. The $20 billion-plus of cash equivalent assets that we customarily hold is earning a pittance at present. But we sleep well.
Less persuasive is Buffett's take on the real estate market. He's focused on housing starts:
People thought it was good news a few years back when housing starts – the supply side of the picture – were running about two million annually. But household formations – the demand side – only amounted to about 1.2 million. After a few years of such imbalances, the country unsurprisingly ended up with far too many houses.
There were three ways to cure this overhang: (1) blow up a lot of houses, a tactic similar to the destruction of autos that occurred with the "cash-for-clunkers" program; (2) speed up household formations by, say, encouraging teenagers to cohabitate, a program not likely to suffer from a lack of volunteers or; (3) reduce new housing starts to a number far below the rate of household formations.
Our country has wisely selected the third option, which means that within a year or so residential housing problems should largely be behind us, the exceptions being only high-value houses and those in certain localities where overbuilding was particularly egregious. Prices will remain far below "bubble" levels, of course, but for every seller (or lender) hurt by this there will be a buyer who benefits. Indeed, many families that couldn't afford to buy an appropriate home a few years ago now find it well within their means because the bubble burst.
While Buffett's description of the original overbuild is accurate, his prediction of "a year or so" until the market bottoms out seems way too optimistic. And I wish he were right. I live in Southern California, the epicenter of the original overbuild. I will soon have no choice but to dump a house in the DC beltway that has lost nearly 40 percent of its value since I bought it.
Maybe things look very different in Omaha, but I'm just talking about the market for existing houses. The glacial pace of getting hopeless defaulters out of their houses, and the millions of foreclosed houses that are destined to come onto the market in the next few years, make it extremely hard to believe that even existing home sales will be back to growth within a year or so. (As Bill McBride notes at Calculated Risk, it may depend on the meaning of or so.) The near-term outlook for commercial real estate is famously even more grim.
And as for when new housing starts (Buffett's interest here, through Berkshire's ownership of Clayton Homes) will again be a growth area, we'll be lucky if our grandchildren live to see that day.