A looming loan default by a small city in Virginia is playing out nearly precisely as Warren Buffett predicted in his 2008 letter to Berkshire Hathaway shareholders.
As you can read about here, the city of Buena Vista, Va., plans to approve a budget for this year that does not include payment on a $9 million loan it took out in 2004 to build the Vista Links Golf Course. The city envisioned the course as a launching pad for homes and commercial development in the area, but that has not happened amid the Great Recession.
The bonds used to finance the municipal golf course were insured by ACA Financial Guaranty Corp. Now the city of Buena Vista is asking the bond insurer to renegotiate the loan. The city put up its City Hall and police station as collateral and could lose those.
Buena Vista's leaders could possibly make the payments if they were willing to dramatically raise taxes or cut core services such as schools and police. But as the mayor read in a statement this month, the city wasn't willing to choose those options. The mayor said every solution was attempted, including asking for state aid and trying to sell the course, but none worked.
As a result the bond insurer could be left holding the bag. And even though Buffett may have never heard of Buena Vista, Va., he foresaw this type of situation back in 2008.
Buffett's firm launched Berkshire Hathaway Assurance Co. in 2008 amid a tumultuous time for bond insurers. It was created as a way to insure the tax-exempt bonds that localities issue to fund their projects.
When BHAC was formed, analysts predicted it would quickly grab a large share of the valuable municipal bond insurance business. But Buffett quickly decided to scale back BHAC's ambitions. He explains why in the 2008 letter.
Buffett predicted that local governments would be stretched to the limit by huge obligations and weakening revenues. An easy way out would be to default on insured bonds and let the deep-pocketed insurer sort things out.
Here is how Buffett put it:
"What mayor or city council is going to choose pain to local citizens in the form of major tax increases over pain to a far-away bond insurer? ... Insuring tax-exempts, therefore, has the look today of a dangerous business."
Buffett frequently says that the main job of a CEO is to be the chief risk officer. Though Buffett gets the most attention for his investment genius, it is his ability to see risks before others do and take steps to protect Berkshire that explains much of his success.
People interested in reading more about bond insurance are encouraged to read a new book by Christine Richard called "Confidence Game." As Amazon.com puts it, the book is about "Bill Ackman's six-year campaign to warn that the $2.5 trillion bond insurance business was a catastrophe waiting to happen."
Also check out:
As you can read about here, the city of Buena Vista, Va., plans to approve a budget for this year that does not include payment on a $9 million loan it took out in 2004 to build the Vista Links Golf Course. The city envisioned the course as a launching pad for homes and commercial development in the area, but that has not happened amid the Great Recession.
The bonds used to finance the municipal golf course were insured by ACA Financial Guaranty Corp. Now the city of Buena Vista is asking the bond insurer to renegotiate the loan. The city put up its City Hall and police station as collateral and could lose those.
Buena Vista's leaders could possibly make the payments if they were willing to dramatically raise taxes or cut core services such as schools and police. But as the mayor read in a statement this month, the city wasn't willing to choose those options. The mayor said every solution was attempted, including asking for state aid and trying to sell the course, but none worked.
As a result the bond insurer could be left holding the bag. And even though Buffett may have never heard of Buena Vista, Va., he foresaw this type of situation back in 2008.
Buffett's firm launched Berkshire Hathaway Assurance Co. in 2008 amid a tumultuous time for bond insurers. It was created as a way to insure the tax-exempt bonds that localities issue to fund their projects.
When BHAC was formed, analysts predicted it would quickly grab a large share of the valuable municipal bond insurance business. But Buffett quickly decided to scale back BHAC's ambitions. He explains why in the 2008 letter.
Buffett predicted that local governments would be stretched to the limit by huge obligations and weakening revenues. An easy way out would be to default on insured bonds and let the deep-pocketed insurer sort things out.
Here is how Buffett put it:
"What mayor or city council is going to choose pain to local citizens in the form of major tax increases over pain to a far-away bond insurer? ... Insuring tax-exempts, therefore, has the look today of a dangerous business."
Buffett frequently says that the main job of a CEO is to be the chief risk officer. Though Buffett gets the most attention for his investment genius, it is his ability to see risks before others do and take steps to protect Berkshire that explains much of his success.
People interested in reading more about bond insurance are encouraged to read a new book by Christine Richard called "Confidence Game." As Amazon.com puts it, the book is about "Bill Ackman's six-year campaign to warn that the $2.5 trillion bond insurance business was a catastrophe waiting to happen."
Also check out:
