Buffett on derivatives: "it's not just whom you sleep with…"

From the 2008 letter to shareholders:

Derivatives contracts, in contrast, often go unsettled for years, or even decades, with counterparties building up huge claims against each other. “Paper” assets and liabilities – often hard to quantify – become important parts of financial statements though these items will not be validated for many years. Additionally, a frightening web of mutual dependence develops among huge financial institutions. Receivables and payables by  the billions become concentrated in the hands of a few large dealers who are apt to be highly-leveraged in other ways as well. Participants seeking to dodge troubles face the same problem as someone seeking to avoid venereal disease: It’s not just whom you sleep with, but also whom they are sleeping with.

Sleeping around, to continue our metaphor, can actually be useful for large derivatives dealers because it assures them government aid if trouble hits. In other words, only companies having problems that can infect the entire neighborhood – I won’t mention names – are certain to become a concern of the state (an outcome, I’m sad to say, that is proper). From this irritating reality comes The First Law of Corporate Survival for ambitious CEOs who pile on leverage and run large and unfathomable derivatives books: Modest incompetence simply won’t do; it’s mindboggling screw-ups that are required.

Foggo & Wilkes, Jerry Lewis & Tom DeLay

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Sharp-eyed reader Oskar points out a little nugget buried in the Foggo documents:

I was reading the Foggo appendix and found something pretty interesting. Om page 60, we learn that Wilkes and Foggo apparently dined with Lewis and DeLay(!). Of course, a dinner is just a dinner and doesn’t prove anything. But, still, it’s pretty interesting given Lewis’ claim that he had not seen Wilkes for 10 years or so…

This blog is lucky to have such astute readers.

The dinner for four at the Capital Grille that Oskar is referring to took place on Monday, May 16, 2005. Foggo, then the CIA’s executive director, and his old friend, defense contractor Brent Wilkes, had two impressive guests. The government’s appendix  states: “Assumes DeLay and Lewis also dined on the bill,” which came to $1,423. Wilkes, as always, picked up the tab.

Fast-forward to today. Wilkes has been sentenced to 12 years prison for bribing former Rep. Randy “Duke” Cunningham with cash and hookers. (He’s out on appeal) Foggo was sentenced to more than three years for illegally steering CIA contracts to Wilkes.

At the time, Reps. Jerry Lewis and Tom DeLay were two of the most powerful members of the House of Representatives. Lewis was chairman of the House Appropriations Committee and the House was set to take up its annual appropriations bills.  DeLay, of course, was the majority leader.

One year later, Lewis was apparently suffering from memory loss, according to this 2006 story in The New York Times:

In recent months, Mr. Lewis has said that he barely knew Mr. Wilkes and that he did not remember seeing him in nearly a decade. But Mr. Wilkes says their relationship was closer than that. (emphasis added)

Ever since they went on a scuba-diving trip together in 1993, he said, Mr. Lewis had referred to him as his “diving buddy.” They occasionally dined together or met at political functions, Mr. Wilkes said. At a Las Vegas fund-raiser in April 2005, Mr. Wilkes said, Mr. Lewis greeted him as “Brento” and hugged him as Mr. Wilkes surprised the lawmaker with $25,000 in campaign contributions.

As for DeLay, he had flown three times on a jet owned by one Wilkes’ company. Another Wilkes company gave $15,000 to TRMPAC, a political action committee DeLay founded to establish a Republican majority in the Texas legislature. (See my AP story here for more.)

Wilkes and Foggo were regulars at the Capital Grille and shared a well-stocked wine locker there. In 2005, documents show the two old high school buddies dined together at the pricey D.C. steakhouse about once a month.