August 25, 2011 / 6:05 PM / 8 years ago

Buffett's Bank of America warrants soar in value

* Buffett’s paper profits on Bank of America warrants jump

* Bank of America warrant profit is $2.94 bln — Najarian

* Paper profit on Goldman warrants is now $1.53 bln

By Lauren Tara LaCapra

NEW YORK, Aug 25 (Reuters) - Warrants attached to Warren Buffett’s $5 billion preferred stock investment in Bank of America Corp (BAC.N) were worth nearly twice as much as his existing warrants in Goldman Sachs Group Inc (GS.N) just hours after the deal was announced on Thursday.

Jon Najarian, co-founder of options trading firm optionMONSTER, said the 700 million options Bank of America granted to Buffett’s Berkshire Hathaway Inc (BRKa.N), at a strike price of just over $7.14 are now worth $5.49 apiece, or $3.84 billion in total.

The 43.5 million Goldman options Berkshire received as part of a 2008 investment, with a strike price of $115, are worth $35.30 apiece, or $1.53 billion in total, Najarian said.

The options values “are indeed moving targets,” Najarian said, because of recent market volatility and uncertainty about future interest rates.

“Just slight moves to either cause rather dramatic pricing differentials,” he said.

Warrants offer an investor the right to purchase a security within a designated period of time at a particular price. Valuing options involves two different factors: the current value of the options, if they are currently trading above the strike price and the so-called “time value.”

The further out an option date extends, the more opportunity for the price to appreciate.

The Bank of America options extend for 10 years and the Goldman options expire in 2013. Since June 30, Bank of America shares have bounced around in a range of $6.01 to $11.14. Goldman shares have ranged from $103.16 to a high of $139.25.

News of the Buffett deal restored confidence in Bank of America’s financial well-being, after weeks of investor concern over losses from its troubled mortgage division. Bank of America’s shares soared as much as 25.9 percent on news of the deal on Thursday morning and were up 9 percent at $7.62 in afternoon trading.


“I’m very happy on the long life of the warrants because I wouldn’t roll the dice on the next 12 months,” said James Armstrong, president of Henry H. Armstrong Associates, which manages around $400 million and has almost a quarter of that in Berkshire shares.

“The warrants are the key (to the deal) and the 10-year life is really great. If it was a three-year warrant, a two-year warrant, I’d be a little less confident.”

Linus Wilson, an assistant professor of finance at the University of Louisiana at Lafayette, who has studied the pricing of warrants for large bank stocks, calculated the value of Buffett’s Bank of America options somewhat differently than Najarian. He came up with a value of $3.17 billion.

Wilson said the announcement of Buffett’s investment sent the value of his warrants soaring 18.3 percent and the value of his preferred stake up 4.7 percent.

“Thus, Berkshire was sitting on a paper profit of $3.42 billion from the investment,” said Wilson.

Dan Plettner, an individual investor who recently added to his positions in Bank of America preferred shares, said the Berkshire investment sent the value of his floating rate, noncumulative preferred stock holdings up more than 14 percent. Yet the issues he holds are trading at $14.20 and $16.65, steep discounts to their issue price of $25.

“Both are still very attractive in my estimation at current prices, particularly considering Berkshire’s comfort with the preferred’s safety profile,” Plettner added. (Additional reporting by Ben Berkowitz and Andre Grenon)

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