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In his latest letter to the shareholders of Berkshire Hathaway, Warren Buffett disclosed he had sold long-term puts against a few of the world’s major stock market indexes – $40 billion worth, to be exact. This is, essentially, a huge bet that stocks will be higher 10 years from now.

With stock markets worldwide cratering and volatility hitting record highs, the value of the puts has undoubtedly soared. Indeed, Barron’s estimates he’s already lost roughly $3 billion on the trade so far, $2 billion in the current quarter alone.

Somehow, I don’t think Warren is too worried about it, however. First, the sales of the puts raised nearly $5 billion in cash for the company. And because of its superior credit rating the company needs keep no collateral. Warren can go put the funds to work in attractive deals like those he struck with Goldman Sachs and G.E.

He also wrote to his shareholders this year:

Our derivative positions will sometimes cause large swings in reported earnings, even though Charlie and I might believe the intrinsic value of these positions has changed little. He and I will not be bothered by these swings – even though they could easily amount to $1 billion or more in a quarter – and we hope you won’t be either. You will recall that in our catastrophe insurance business, we are always ready to trade increased volatility in reported earnings in the short run for greater gains in net worth in the long run. That is our philosophy in derivatives as well.

In fact, I’d be surprised if Warren wasn’t taking advantage of the improved prices by adding to his bullish bet.

Berkshire Put Out by the Market’s Plunge
Andrew Bary
October 6, 2008

2007 Shareholder Letter
Warren Buffett
February, 2008

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