Matt Levine: Nobody Trusts the Banks Now / Berkshire Hathaway annual meeting / How Warren Buffett Came to Refuse Progressive Orthodoxy / Buffett and Munger on short selling

1) Bloomberg's Matt Levine does an excellent job of explaining the banking situation in yesterday's essay, Nobody Trusts the Banks Now. First, he lays out "two ways to think about the basic business of banking":

1. Banks borrow short to lend long. They use deposits (which can be withdrawn at any time) to fund loans and buy bonds (which don't get repaid for a long time).
   

2. Banks really borrow long to lend long. They use deposits to fund loans and buy bonds, and as a technical legal matter those deposits are short-term (and can be withdrawn at any time), but they aren't really.
   
   Most people – and most businesses – keep their money at a bank because it is convenient, it's where their paycheck direct deposit and bill auto-pays are set up, and it would be a pain to move to a new bank. Most people do not obsessively check the interest rates on their bank accounts to find the highest one, or obsessively check the financial condition of their bank to see if it's safe.
   
   Banks invest in customer relationships – by building branches and cross-selling services and offering conveniences like online banking – and those relationships are long-term and sticky and include deposits. In a real economic sense, banks are making loans and buying bonds that match the duration of their long-term, relationship-driven deposits.

After discussing both theories, he writes:

I am tempted to say that Theory 1 is correct and Theory 2 is wrong, but that is just because I grew up in a modern-finance, markets-oriented, mark-everything-to-market world.

But Theory 2 has a lot going for it, empirically; it probably gives you a better sense of what banks are doing (building long-term relationships, accumulating sticky deposits, investing them in a way that roughly matches their stickiness) than Theory 1 does. You don't build a bank branch just to attract overnight funding; a branch suggests that you expect deposits to stick around.

It's just that in the U.S. regional banking mini-crisis of 2023, Theory 1 completely dominates. "We have built long-term relationships with our depositors so we expect them to stick around even as rates rise": wrong! "We hold our bonds to maturity, so changes in their mark-to-market value don't matter": wrong! "Actually rising interest rates are good for us": wrong! And the bankers and bank regulators, who sort of had Theory 2 rattling around in their brains, were taken by surprise.

He concludes:

I think this is the basic explanation for how rapid and serious and surprising this banking crisis is. Banks and regulators have historically operated in large part in Theory 2, treating bank funding as pretty long-term and trying to match banks' assets to that effectively long-term funding. And in spring 2023 that just doesn't work at all.

Why? I don't know. Some speculations:

1.    This is the first large rapid interest-rate hiking cycle in a long time, and so Theory 2 hadn't been tested in a while. And things have changed since it was last tested.

2.    Like the Internet? It is much easier to move your money out of a 0%-interest bank account and into a 5%-interest money-market account (or an online high-yield savings account, etc.) than it was 30 years ago, or even 10 years ago. You are more likely to see an online ad encouraging you to do that, and more likely to do it with a few clicks.

3.    Similarly, more information is available online, and more people are in the business of curating it for you and emphasizing the juicy bits.

So if your bank has huge mark-to-market losses, you are more likely to hear about it. And if you are worried about the solvency of your bank, you can tweet or Whatsapp or group-text about it, and worries can spread faster, and you can withdraw your money via app. "Game's the same, just got more fierce," is the diagnosis of the vice chairman of the Federal Deposit Insurance Corp.

4.    Also, though, the world has become more financialized, and specifically more mark-to-market.

Thirty years ago you could say "well we are a bank, it doesn't matter if the market value of our securities goes down, as long as we don't have to sell them," and that was sort of coherent. Now it sounds crazy; it sounds like fraud. Mark-to-market discipline has taken over the financial world, and to the extent that banking is about the opposite – about not marking assets to market – it has a hard time.

5.    The 2008 financial crisis involved a lot of businesses – "shadow banks" – that borrowed short to lend long and sort of figured that their short-term funding was actually pretty stable and long-term. That worked out poorly, and people are skeptical about similar claims even from actual banks with branches and everything.

6.    Relationship businesses in general are on the decline. In a world of electronic communication and global supply chains and work-from-home and the gig economy, business relationships are less sticky and "I am going to go into my bank branch and shake the hand of the manager and trust her with my life savings" doesn't work. "I am going to do stuff for relationship reasons, even if it costs me 0.5% of interest income, or a slightly increased risk of losing my money" is no longer a plausible thing to think.

Silicon Valley Bank's VC and tech customers talked lovingly about how good their relationships with SVB were, after withdrawing all their money. They had fiduciary duties to their own investors to keep their money safe! Relationships didn't matter.

My "spidey sense" is telling me that yesterday was the final puke-out bottom for regional bank stocks.

2) Greetings from Omaha, Nebraska!

I just flew in this morning to attend my 26th consecutive Berkshire Hathaway (BRK-B) annual meeting.

I'm at Guy Spier's VALUEx conference right now, will be attending Columbia Business School's Graham and Dodd dinner tonight, and then will be hanging out at the bar downstairs at the Hilton Omaha... so please stop by and say hi between 9 p.m. to 11 p.m. tonight and 8 p.m. to 11 p.m. on Saturday.

I'll also be running the 5K race on Sunday morning – look for my neon orange running shoes!

3) I'll always be grateful to Roger Lowenstein for writing Buffett: The Making of an American Capitalist in 1996, right as I was starting to learn about investing. It sparked my obsession with the Oracle of Omaha, which has enriched me financially... but also personally in so many ways.

Lowenstein published this insightful op-ed in Tuesday's New York Times: How Warren Buffett Came to Refuse Progressive Orthodoxy. Excerpt:

Mr. Buffett parts company from boardroom progressives for two reasons, one having to do with style, the other substance. He is fiercely independent, not surprisingly for a contrarian investor. He takes pains to control his agenda; over the years, friends who asked for even a token contribution to a pet cause were typically disappointed.

In his mid-70s, Mr. Buffett announced he would leave the bulk of his estate to the foundation run by his friend Bill Gates. Other than that, he does not outsource his political or social convictions...

But there is a genuine gulf between Mr. Buffett and progressive critics. Mr. Buffett's liberalism is of the classic Adam Smith variety: Private initiative, properly regulated, leads to social good. That used to be just about everyone's view, but no more.

Corporate boards are now assembled like political platforms, with consummate attention to satisfying multiple interests. Berkshire chooses directors on the basis of "business savvy" and owner – not "stakeholder" – orientation. In short, Mr. Buffett remains a full-throated believer that boards exist to represent shareholders...

If form holds, at Saturday's meeting Mr. Buffett – and his sidekick, the curmudgeonly vice chairman Charlie Munger – will get plenty of questions related to corporate governance and even politics. Neither is likely to change his mind, and most shareholders seem to like it that way.

Last year, assuming the dissident votes came from institutions, individual holders overwhelmingly backed management. Mr. Buffett may not conform to the fashionable standards of the Business Roundtable, but he is still in good graces with one group – individuals who trust him to manage their savings.

4) Here's an interesting 42-second video clip someone tweeted of Buffett and Munger commenting on short selling during the 2013 annual meeting...

Munger, as usual, had the best zinger: "We don't like trading agony for money." Bill Ackman, after losing $1 billion in his short campaign against Herbalife (HLF), put it another way: short selling offers very low "return-on-invested-brain-damage."

5) This in-depth interview with my friend Artem Ryzhykov, The Diary of a Ukrainian Filmmaker-Turned-Soldier, blew me away. It's so honest, raw, beautiful, and powerful!

He was the reason I made my first donation to Ukraine nearly a decade ago: he was protesting in Independence Square in Kyiv during the Revolution of Dignity and was shot by a government sniper, severely injuring his hand.

Unless advanced surgery was done (only available outside Ukraine), his career as an award-winning cinematographer – working for my friend Chad Gracia – would be over... so Chad sent out an appeal that both Bill Ackman and I donated generously to.

Artem received the necessary surgery, continued his great work with Chad, and I didn't hear from them again until the war started last year.

As you'll read in the interview, Artem immediately grabbed his camera and a gun, joined the Territorial Defense Force, and helped defend Kyiv. He has been on the front lines ever since, fighting (mostly as a drone pilot now) and filming – narrowly escaping death too many times to count. (He has been to 36 funerals of his friends and comrades.)

I had never had the pleasure of meeting Artem until he traveled with me for three days during my six-day visit to Ukraine in March. Here's a picture of us visiting TAPS Dnipro:

Here's what he texted me yesterday:

Our team was sent to hold the western part of Bakhmut. Very tough situation. Very dangerous. Many of my colleagues got injured. Thank you so much for your help. The four thermal drones you provided us with were very useful! I came to Kyiv to fix one and am going back in a few days.

Now, go read his story: The Diary of a Ukrainian Filmmaker-Turned-Soldier. Excerpt:

I visited their commander in Kyiv and asked how I could join.

"What can you do?" he asked. I said I could make videos. "I don't need a filmmaker," he said. "Can you do anything else?" I told him I speak English – that got his attention, because the battalion has several foreign fighters. I told him I'm also a decent cook and an experienced long-distance runner.

Minutes later, I signed a contract as the battalion's translator, courier and cook. The next day, without any training, I was sent to Irpin as part of the second wave against Russia's assault on Kyiv...

My whole unit went to join the fight and left me alone with a crazy junkie. He had shot himself in the ass to avoid fighting. There was no food there, only dirty water. But I couldn't go back to normal life.

On the third day, a special forces unit arrived at the school to take a rest. They fed me and introduced me to their commander, called Phantom, and we sat down to talk. I told him that I hadn't used my gun yet but that I speak English and came to this war to be useful, to help the army and kill Russians, and maybe make a movie.

Phantom took me with his crew to the front line, and I started helping with communications. I had some experience shooting video with drones, so one day I gave some advice to the drone guys about their settings. These were simple drones, just for surveillance, no weapons.

I shot some video and edited it and Phantom liked it, so we made a video of their drone operation. I started to gain Phantom's respect, and when a French fighter showed up, a guy from Lyon who had fought for two years in Mali, the commander put him under my responsibility because we both spoke English. We called him Apo.

Around this time, my father died. He had a stroke while planting potatoes. He would've survived if somebody had been around, but he lay there alone in the field for a long time, probably in pain. Apo went with me to the funeral, and when we came back east I started getting messages from other international guys.

"Come join us," I told them. "But don't tell anybody I invited you. Just say you got lost after a battle and found our battalion." The next guy I accepted was an Iraqi medic; we called him Baghdad. Then another guy, Miami, a computer genius. We welcomed a 19-year-old woman from Israel, a sniper named Mamba.

Our little foreign legion took on a few more volunteers, and after they had all been vetted we started building our own drones and flying them on missions to find Russians. We'd send the coordinates to the artillery, who would send the Russians some gifts. Now I have my own military vehicle and sometimes I'll just make a suggestion to the commander – "Hey, I think I'll take these guys and go find these Russian positions" – and he'll give me a thumbs up.

Everything's different when you have your commander's respect. When I first joined the military, they called me Director, because I make movies. Phantom told me that when something bad happens it's a good idea to make a change and start over.

"Let's give you a new life and a new name," he said. "Let's call you Canon." I told him I always shoot video with a Sony camera. "No one f*cking cares," he said. "We'll call you Canon, because [with a variant spelling] it also means 'big gun.'"

So now I'm Canon the drone expert. I'm teaching other guys to use drones and working with Miami and the security services to upgrade the drones and make them invisible. Now we have to always be aware of Russian radars.

Each time we send up a drone, the Russians geolocate the launch signal and shoot rockets at those coordinates. It's very dangerous. When you push that button to send up the drone, you know the Russians will send gifts to the spot that's home for the drone.

So I put down the drone about 400 yards from the car, launched it and then ran, knowing the Russian artillery was coming. You're running through the forest and feeling bombs explode behind you, sometimes just 20 yards away.

The worst bombardment we faced was in a village called Tsyrkuny. The town had been held by Russia for 70 days before we drove them out. Our mission was to go in, get the locals out of hiding and evacuate them fast, because we expected the Russians to bomb the village as they left the area.

So we arrived, and these people were in a terrible state after more than two months in basements. The women had been raped. Elderly people could barely walk. Children hadn't eaten anything. First, they thought we were Russians. Then we spoke Ukrainian, and I had so many hugs and kisses from the babushkas. They almost fell to their knees, saying, "thank you, thank you so much for saving us."

That's when Russia decided to throw all its artillery at Tsyrkuny. We had to grab civilians as fast as we could and get back to Kharkiv. The bombs were coming closer and closer to our location and we barely made it out of there. I did my best not to show any fear, but you never get used to that sound. The scariest part is actually not when an artillery strike explodes, it's the sound it makes in the air.

It's the scream of the devil. It lasts maybe two seconds – eeeeEEEEEERR! – and then it's buh-BOOOM. And you never know where it will land. It could be right in front of you. All you can do is fall to the ground. I've hurt my arms and legs jumping away from bombs.

Twice, I broke my camera. I've jumped into cow sh*t and broken glass. I sh*t my pants twice. I even jumped onto a grandma. You have to just dive as quickly as you can.

Facing all this, I finally told my wife what I was doing. I told her that I decided to join the military, that there was no other way. I told her I was working with drones, but I didn't tell her how dangerous it was...

That was when I understood that there had been a change in the war. Before, the Russians would send hundreds of artillery bombs every minute and we'd shoot a few back. Now, because of all our new weapons from the West, everything changed. Now we could send hundreds of "gifts," and sometimes we'd only get a few back...

Bakhmut has been a nightmare, reminding me of the Irpin-Bucha days. There are street fights, but much, much bigger than before. They have bigger weapons, we have bigger weapons. Every day, we're feeling shelling from all directions, especially at night.

We were there for about three months, then rotated out. There's always fresh blood coming in, new battalions arriving to keep morale high. Volunteer fighters and media from around the world are here in Bakhmut. I've hosted some media visits, given them tours and answered questions. In the meantime, we see local girls coming and shooting their TikTok and Instagram next to damaged buildings. It's crazy...

Still, now I feel more confident, more relaxed. I don't have an official title. Sometimes I'm a media officer, sometimes I'm working online, sometimes I go on missions. And I've decided to be more involved in the war and handed my filming duties to volunteers.

I came to the war to make a movie, but now I think movies are sh*t. You can never be honest – even a documentary is a lie, a compilation of moments. And if my camera is telling me what to do, that's not right. Should I save real lives or film them? It's an easy choice...

You can never see what I see and feel what I feel. ... basically, it's been the best year of my life. Of course, if I'd been injured or killed, I'd have a different view.

Unfortunately, many of them are now dead. I went to 36 funerals in the past year. At the last one, I decided this was enough, I will not go to any more. It was the funeral of my commander Medic – the one who taught me so much. I closed myself off from those emotions because I just can't go through more death.

I said from the beginning that this war would last at least a decade and I still feel that way. My fellow soldiers see it differently – they think the war's going to end soon. They read the news and see that we are winning. If you read the Ukrainian news, we are always winning.

But we will win when Russia is destroyed and we control Russia. Or they control us. And this is why this war could last 10, 20, even 50 years. It's already been going on for almost 10 years. They hate us, we hate them. There's no way we could be friends again. My generation and the younger generation will remember this for a long time.

His last two paragraphs are especially beautiful:

Now I know what war is. It's the smell of blood. It's the smell of sh*t. It's very dirty – you're always dirty. It's homeless dogs missing legs. It's the cries of girls who were raped. It's grandmas who can't walk. It is tragedy everywhere. It is seeing brave civilians who took guns and stayed on the very front line. War often brings the worst out of people, but it also brings out the best.

Even if we win this war, even if Putin is dead, I will never stop fighting. Right now, I'm with the most beautiful people in the world. They are honest, they support and care for each other. We are family. That's what Putin did in this war: He helped us, helped bring out this unity. Until the last moment, we will defend this democracy. We will fight to live the way we want until our last breath. I'm honored to be a part of it, to be Ukrainian.

If you would like to subscribe to my personal Ukraine e-mail list, simply send a blank e-mail to ukraine-subscribe@mailer.kasecapital.com.