Success, with Strings: Searching for Alpha, March 2009

Following Buffett's lead

What's the best way to play the eventual recovery? If you're Warren Buffett, the answer is (mostly) shunning common stock in favor of higher tiers of the capital structure.

Over the past six months, Berkshire Hathaway struck a number of privately negotiated deals with companies such as Goldman Sachs, General Electric, and Harley Davidson. Instead of getting a deal on a chunk of common stock, Buffett targeted preferred stock in the first two instances and bonds in the third.

The Oracle of Omaha's move is a savvy one. Not only does he get upside in a recovery scenario, but an economic rent in the form of a 10% dividend on his money while he waits.

Although his strategy makes sense, the underlying stocks of these deals lead to a horrible year for Berkshire. Investors who follow Buffett's lead can avoid such pitfalls by utilizing a more diversified approach to buying preferred shares, closed end loans, and corporate debt.

There is one drawback to this approach. Although investors would likely be better off reducing common shares in favor of income producing investments, the tradeoff is a significant reduction in portfolio liquidity. Common stock may be easy to trade, but that shouldn't make it the first tool in the arsenal. Yields on high quality fixed income are simply too compelling to overlook.

The Monthly Index Report for March 2009

Index

Feb-09

QTD

YTD

Description
S&P 500 Index*

-11.0%

-18.6%

-18.6%

Large-cap stocks
DJIA*

-11.7%

-19.5%

-19.5%

Large-cap stocks
Nasdaq Comp.*

-6.7%

-12.6%

-12.6%

Large-cap tech stocks
Russell 1000 Growth

-7.5%

-12.0%

-12.0%

Large-cap growth stocks
Russell 1000 Value

-13.4%

-23.3%

-23.3%

Large-cap value stocks
Russell 2000 Growth

-10.4%

-17.2%

-17.2%

Small-cap growth stocks
Russell 2000 Value

-13.9%

-26.2%

-26.2%

Small-cap value stocks
EAFE

-10.2%

-19.0%

-19.0%

Europe, Australasia & Far East Index
Lehman Aggregate

-0.4%

-1.3%

-1.3%

U.S. Government Bonds
Lehman High Yield

-3.1%

2.7%

2.7%

High Yield Corporate Bonds
Calyon Financial Barclay Index**

-0.2%

0.4%

0.4%

Managed Futures
3-mo. Treasury Bill***

0.0%

0.0%

0.0%

All returns are estimates as of February 27, 2009. *Return numbers do not include dividends.

** Returns are estimates as of February 26, 2009.

Ben Warwick is CIO of Memphis-based Sovereign Wealth Management. He can be reached at ben@searchingforalpha.com.

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