Fitch downgrades Berkshire Hathaway as China frets about US debt — is it really ‘AAA’?

Even though they were critical enablers of the mortgage bubble, the rating agencies  have lost little of their power. Both Treasury and investors quiver before these private agencies. Uncle Sam came to the rescue of AIG for the third time in seven months in part because the Administration feared a ratings downgrade. A ratings downgrade would have triggered yet another liquidity crisis for the hobbled giant. Why do these agencies still have so much unfettered power?

But just to prove that it doesn’t easily hand out AAA ratings anymore, Fitch has slapped down Berkshire Hathaway, reducing its senior unsecured debt to AA because of concerns about its equity and derivatives holdings. So take that Warren. You dare to dabble in der*v*t*v*s?  And at your age? Well, that’s not exactly what Fitch said. Fitch is merely concerned what would happen if Buffet is unable to fulfill his duties as Miss America, I mean, chief financial officer. Bloomberg reports that Fitch is no agist:

“Fitch views this risk as unrelated to Mr. Buffett’s age, but rather Fitch’s belief that Berkshire’s record of outstanding long-term investment results and the company’s ability to identify and purchase attractive operating companies is intimately tied to Mr. Buffett,” Fitch said. Buffett is 78.

It’s good to know that Fitch Rating won’t be sued for dissing a senior citizen. Rather, the agency is concerned with $37.1 billion in derivatives contracts based on four stock indices from around the world. But Todd Sullivan cogently argues in his ValuePlays blog that the contracts are highly unlikely to undermine Berkshire’s profitability and are indeed most likely to boost profits. (H/T to www.twitter.com/TraderAlamo for the citation.) In assessing the contracts, Sullivan makes a number of assumptions about the distribution of the contracts and the rate of growth in the markets over the next 16 years (the length of the contracts). His key point: In order to lose money, the S&P 500, for example, would need to go to zero. If that happens, well, the world as we know it wouldn’t be worth the paper a triple-A Ginnie Mae is printed on. Sullivan concludes:

“The reality this is just another insurance policy for Berkshire. In the event of a dramatic event they pay off big, anything less, they collect premiums.”

Once, almost anything seemed to qualify for triple-A rating. Now almost nothing does. It’s the flip side of the dumbing down of ratings. The Bloomberg story goes on to quote an asset manager who tries to explain the reasoning of the Fitch move:

The downgrade isn’t surprising because the deteriorating economy is leading to increased uncertainty about all financial companies, said Michael Yoshikami, chief investment strategist at YCMNet Advisors. …

“Triple-A in the end is probably going to be left for the Treasury when it’s all said and done,” said Yoshikami, whose Walnut Creek, California-based firm oversees $800 million and owns Berkshire Hathaway shares. “You’re seeing the rating agencies taking an abundance of caution at this point.”

Thanks for the abundance of caution: Does the caution also apply to sovereign debt? The No. 1 lender to the leader of the free world would essentially like to know just how solid the AAA rating is for the US Treasury. The top story on Bloomberg’s homepage (just a hop away from the Berkshire item) reports:

China, the U.S. government’s largest creditor, is “worried” about its holdings of Treasuries and wants assurances that the investment is safe, Premier Wen Jiabao said.

“We have lent a huge amount of money to the United States,” Wen said today at a press conference in Beijing that marked the closure of the annual National People’s Congress meeting. “Of course we are concerned about the safety of our assets. To be honest, I am a little bit worried. I request the U.S. to maintain its good credit, to honor its promises and to guarantee the safety of China’s assets.”

Treasurys dropped 3.1 % in January and 0.5 % last month, according to Merrill Lynch’s Master Index. The 10-year note backed up 0.03% on the premier’s speech, Bloomberg reports, to yield 2.89%.

I would strongly urge Premier Wen to contact the US credit rating agencies immediately for assurance. At the moment, they seem to be the ultimate arbiter of the safety and soundness of our system.

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