ERICOPOLY

And actually the reason why it would be worth $300 billion is because we're talking about the merger of Merrill Lynch and Bank of America. Just looking at Bank of America, it's deposit base and lending book is barely larger than Wells Fargo's. So that makes Wells Fargo a 7' beast as well on apples to apples basis. Why is Warren Buffett plowing money into a 7'er?

I didn't like the dilution either, but it doesn't mean they don't think they're worth $20. It means they don't think they're worth $30, or $20, or $16, or $15, or $12 for that matter. Or it says nothing about what they think they're worth.

I always toss out the 10x earnings number, but I don't get why people wouldn't pay 12x. Lower risk trading book and less leverage than in the past. Risk adjusted, market premium should be higher than in the past.

My reasonable case was the $200 bn market cap one. 5 bagger on the warrants. My optimistic case was the $300 bn market cap one. 7 bagger on the warrants. My pessimistic case would be putting a 5x multiple on earning at the terminal value due to a market crash, and assigning only $1.50 (relative to current share count) of average capital return each year. That only gets me a 1.5x return on the warrants.

Except in this case they are already a 7' person. Look at the size of the balance sheet. All we're talking about is getting a 10x multiple after cutting expenses. Then, we're still in a depressed interest rate environment and we're just expecting a normal interest rate environment 6 years from now. We've got a 7' person that has poor posture and only looks to be 6'. I'm saying if he just stands up straight he'll be 7' and you are arguing that it's rare to be a 7' person.

I just wanted to point out that while these things might look very risky to some if held to maturity (due to perhaps a financial crisis or world war or whatever near maturity in 2019), they have an advantage in that they decay slowly and if we get some kind of a run to $20 when "the space station is fully operational" and they blast Dantooine" (pay a full dividend), there is a way that I outlined of getting most of your initial money out. So you can dance and chew gum at the same time. And you would tend to think that if the stock were trading at $20 right now, what would the $25 strike call trade for? Once the discount in the stock is fully lifted and you still have years to warrant maturity, perhaps you write covered calls (given the leverage the covered call premium ought to be a fairly robust % of your initial outlay). Anyhow, I haven't talked to my broker about how the margin works on the warrants. Will shorting the B warrant eat into my margin capacity or will it be considered to be "covered" by the A warrant. EDIT: Apologies, I sort of didn't understand your questions fully so I repeated myself in different wording to see if that would work. That's right, if the stock shoots way up then shorting B may have seemed safer, but untimately not the most optimal. I'm also not necessarily really going to do this. It's just a strategy to consider. It's like if somebody buys the $10 call option for $2 and argues that it's only a double if the stock closes at $14 on expiration. Well, not if the person waited for the first significant rally and wrote a covered call with $14 strike for $2. In that case, it would be a triple at expiration. Options look really risky if you shoot for the moon, risk of losing everything, but if you think of buying them with very long term expirations and operate with the mindwet of retrieving a good portion of your options premium after a sizeable rally, then the risk profile is considerably different.

GOOG and many of these other companies ought to be over $300 market cap anyhow by then -- this isn't for another 6 years after all. GOOG might be over $400bn. I still don't see how it's related though.

We only need 2-3 more dollars with no adjustment for dividends/buybacks for it to work out better than common, and even at $20 you still do quite well, though not quite as good as common. Also, that's assuming no growth up to 2019, so it shouldn't be too hard to get more than $2 EPS. Also, isn't $2 on the low side if we are expecting more normal ROA/ROE (e.g., similar to WFC, which is trading well over book value)? If we get to WFC valuations, that's $25+ per share without any change in current equity. Also, I think most of us have a basket of common/warrants with a leaning to common, so the warrants are for the big upside. $2 a year average capital return. 6 years x $2 = $12 $20+$12 = $32 $32 - $13.3 = $18.7 $18.7 / $3.80 = 4.92x Thus, warrants are a 5 "bagger" (I hate that term btw) assuming a $2 a year average capital return and a no growth business spitting out $2 a year that's valued at 10x earnings or $20 stock price. Common stock under that sceario is only a 3.55x return. In short, 4.92x vs 3.55x 38.5% more money at the end of the period given those assumptions. Is there that big of difference between $220 billion and $300billion? Is $220 billion small and nimble but we draw the line at $300 billion? $220 billion is where we're at for 10x earnings at 15% ROE in this interest rate environment, $300 billion is where we get to if they pick up another 70 cents per share of revenue from a more favorable interest environment. I think when you pointed out that he keeps putting more money into IBM (at 211bn market cap) you are sort of weakening the notion that Buffett is turning down more BAC due to size. He did say that he wanted to put twice as much into the BAC deal as what he was able to. Of course, that doesn't stop him from adding common to it. There are lots of small banks that he isn't buying -- instead he wants more WFC, which itself is a monster.

Regarding warrants why would it be taxed? its not something that can be used as cash. I'm thinking about the following secererio A Warrants strike $13 Dividends taxable until 2019 $3 Adjusted strike price $10 Common price in 2019 $9 The warrants expire worthless but you still paid taxes on $3 that you never was able to put in your pocket. To me it seems like they would be taxing you for Monopoly money. The only way it turns into hard cash is if the warrents are in the money when the conversion is done. But that is not a taxable event in my view b/c your not selling anything, you buying the shares for a set price. The only taxable even would be when you sell the actual shares. Am I off the reservation with this line of thinking??? I don't know how the taxation works, but why aren't more companies issuing warrants to their shareholders as a tax management tool if they can indeed launder the dividends so effectively into capital gains?

The way the warrant gets to 7x value is to keep my calculation but instead of a $20 terminal value, make it a $27 terminal value. You get a $27 terminal value if the interest rate environment normalizes by warrant expiry to produce an additional $10b of revenue. But then if that were to happen a little earlier on, we could have in excess of $2 a year capital returns. And needless to say it would be a nearly 20% return on tangible equity, so it would be trading higher than a 10x P/E. Let's say a 12x P/E -- then it's an 8 bagger at this point. But wait there's more... aren't they going to cut corporate taxes to 28% by then ;D ? (okay, maybe adding 70 cents a share for interest environment improvement is aggressive. what should it be?)

I'm not sure about the taxation of the warrant, but if the dividend strike adjustment isn't taxed then... it would be a common thing for companies to warrants to it's shareholders as a means of giving shareholders a tax shelter. So therefore the dividend/strike adjustment must be taxed -- common sense. However by common sense the share conversion adjustment would not be taxed. That's just my applying logic to it -- I haven't checked the tax law.

Also, any sub-$2 weak capital return over the first year or two or three won't really matter at all because the stock price is likely to be weak as a result. All that matters is that they get the earning machine all oiled and ready for the warrant expiration so the stock can trade based on full earnings value. Mathematically if you return $1.50 and plow it all into buybacks at $15, that's just as good as if you'd returned $2 and plowed it all into buybacks at $20. And look at the share price today :) Shoot, they could return $1 next year and as long as the stock just hangs around $10 we still hit our $2 a year average number. With the warrants, the dividends are effectively reinvested in the stock the same as a buyback (the share conversion adjustment) -- so the economics on the warrant value are exactly the same whether they pay a dividend or buy back shares.

We only need 2-3 more dollars with no adjustment for dividends/buybacks for it to work out better than common, and even at $20 you still do quite well, though not quite as good as common. Also, that's assuming no growth up to 2019, so it shouldn't be too hard to get more than $2 EPS. Also, isn't $2 on the low side if we are expecting more normal ROA/ROE (e.g., similar to WFC, which is trading well over book value)? If we get to WFC valuations, that's $25+ per share without any change in current equity. Also, I think most of us have a basket of common/warrants with a leaning to common, so the warrants are for the big upside. $2 a year average capital return. 6 years x $2 = $12 $20+$12 = $32 $32 - $13.3 = $18.7 $18.7 / $3.80 = 4.92x Thus, warrants are a 5 "bagger" (I hate that term btw) assuming a $2 a year average capital return and a no growth business spitting out $2 a year that's valued at 10x earnings or $20 stock price. Common stock under that sceario is only a 3.55x return. In short, 4.92x vs 3.55x 38.5% more money at the end of the period given those assumptions.

I just wanted to point out that while these things might look very risky to some if held to maturity (due to perhaps a financial crisis or world war or whatever near maturity in 2019), they have an advantage in that they decay slowly and if we get some kind of a run to $20 when "the space station is fully operational" and they blast Dantooine" (pay a full dividend), there is a way that I outlined of getting most of your initial money out. So you can dance and chew gum at the same time. And you would tend to think that if the stock were trading at $20 right now, what would the $25 strike call trade for? Once the discount in the stock is fully lifted and you still have years to warrant maturity, perhaps you write covered calls (given the leverage the covered call premium ought to be a fairly robust % of your initial outlay). Anyhow, I haven't talked to my broker about how the margin works on the warrants. Will shorting the B warrant eat into my margin capacity or will it be considered to be "covered" by the A warrant. EDIT: Apologies, I sort of didn't understand your questions fully so I repeated myself in different wording to see if that would work.

Why are the analysts consistently ignoring what Moynihan says and just making up stuff out of thin air?

Thanks, that's pretty dang sweet. 100% of generated capital will be returned for a while because, as Brian says, they have enough capital already to redepoly into the business as that runoff portfolio runs off.

I'm not sure what the class B warrants would trade at if the stock were at $20 in a year or two, but let's optimistically say it will trade at $3.00 for simplicity. A person buys the A warrant today for $3.80 and then in a year or two shorts the B warrant to recover $3. That leaves only 80 cents on the table yet still room for incredible upside, considering the A warrants in the end might have a final strike of $10 and adjust to maybe 1.2x shares. So, that might be effectively a $10 strike 2019 call priced at $3 that can be monetized in 2019 for $20, only you can extract perhaps 79% of your cost basis in a year or two if it runs to $20. That's how I view the A warrants.

But of course they don't keep repeating the 1/3 rule the way I do. So perhaps he was castigated by the board or by his CFO and told to stop talking about it until they are all ready to agree on what it ought to be.

He said it in an interview when somebody asked him about capital return. But I've since tried to find it again a month or two ago and I couldn't come up with it. He didn't say it this year. I guarantee I heard him say it though -- it struck me as very rigid.

The other thing I found in that webcast is Moynihan directly stated that he thinks they will earn 13%,14%,15% returns on tangible equity. Tangible equity being $13.50 today, and already at 9% B3 including a 50 bps buffer, this would indicate typical earnings of between $1.75 - $2.025 per share. I need to watch the webcast again, but I believe that Moynihan was talking about 13%,14%,15% returns on tangible equity after the planned expense reductions and LAS expense runoff. So they'd be doing better than that if interest rates get more favorable.

I know one of the famous value managers criticized the BofA as a bad business (during the period of time last year when Bruce was calling BofA his best idea). I think that manager actually called BofA a "bad" or "terrible" business or some other non-quantitative adjective. That manager made HPQ his largest position (or it was right up there amongst the highest weightings). But looking out 2,5,10,15 years from now, is it easier to have a better handle on what HPQ will earn or what BAC will earn? I too at one point last year said some really good things about HPQ but I fortunately sold to buy things I thought were cheaper before I took a major loss. I've learned too since then more about what an "inevitable" is, and why that is important. That manager also said in an interview that he thinks Buffett has had better returns because he says Buffett has a better understanding of what a good business is. Well, Buffett bought IBM, and this other guy bought HPQ. So that's an example right there I suppose.

And so if you look at some of the heavily diversified portfolios, like an index fund, they have a concentrated risk of mean profit margin reversion. Bruce is not concentrated in that risk. And personally I've got no prediction but it would stand to reason that if the government deficit expanded at a slower pace relative to GDP (if it's due to cuts in spending and tax increases) then it might be a negative for profit margins, or if interest rates went up, or both. But I am not insinuating anything because I don't know enough in order to be that crafty.

So if you pay $9 for the stock, that's a 14.8% payout growing at 5% per annum if you use his projection of 1/3 of earnings is retained and we get a 15% return on tangible equity. The "payout" I mention is not a dividend yield -- it's the combination of dividends and buybacks (you can choose to sell an offsetting amount of shares to their buyback in order to get a cash payout).

Berkowitz is smart to ignore the critics. He is investing in banks when they are safest from an underwriting and capital perspective. He is investing in insurance when there is a huge discount to book even though interest rates and underwriting are both soft. The cycle must be near the bottom but it's fully priced in. Both industries are depressed by the current period of low interest rates. Both are discounted to compensate you for it. His critics are investing in all sorts of industries that are poised to take it up the arse if this record profits margin period is to regress to the mean over time. Berkowitz' thinking aligns with mine on this one -- hide out in the industries that are depressed by the current interest rate environment.

The other thing I found in that webcast is Moynihan directly stated that he thinks they will earn 13%,14%,15% returns on tangible equity. Tangible equity being $13.50 today, and already at 9% B3 including a 50 bps buffer, this would indicate typical earnings of between $1.75 - $2.025 per share.