Is Buffett a Better Arb Play After Split?

After a 50-to-1 stock split, Berkshire Hathaway shares have their biggest trading day ever on Thursday, but is it also going to be a new era of arbitrage opportunities between the Berkshire share classes?
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OMAHA, Neb. (


) -- Nothing seems to irk Warren Buffett more than short-term traders who make a mockery of his tried-and-true, buy-and-hold investing principles, yet ever since Buffett's investment firm

Berkshire Hathaway

(BRK.B) - Get Report

created its B shares, it created the potential for arbitrage opportunities.

One thing Berkshire Hathaway watchers were interested in last Thursday was if the B-shares arbitrage opportunity would be even greater after last Wednesday's stock split, with each B share being converted into 50 shares. The additional liquidity in the B shares, at least theoretically, could lead to a wider trading disparity between the two Berkshire Hathaway share classes.

Hence, Buffett enemies in the short-term trading community might arbitrage away the spread between the Berkshire Hathaway shares and profit while doing it. The opportunity to take advantage of trading spreads could also benefit existing Berkshire buy-and-hold Berkshire investors.

Before the B share stock split was ever even on investors' radar, Warren Buffett had been quoted as saying that if the Berkshire Hathaway B shares trade a 2% discount to the more illustrious A shares, investors should buy the B shares. What's more, Berkshire Hathaway A shares have the right to convert to B shares at any time, but that same conversion courtesy does not extend to the B shares.

Ravi Nagarajan, a private investor and Berkshire Hathaway hawk, has made a personal research effort of tracking merger arbitrage opportunities ever since Buffett created the Berkshire Hathaway B shares, on his web site (

Cliff Gallant, an analyst at Keefe, Bruyette & Woods who covers Berkshire Hathaway -- and is one of the few research analysts covering Buffett's company -- said he was curious last Thursday to see if a wider trading gap developed between the Berkshire Hathaway A shares and B shares. The greater liquidity could, at least in theory, make the B shares more attractive to some investors.

At least for a day, there wasn't yet any sign of a trading gap between the famed A share and the B share, which is now the most liquid way that has ever existed to access Warren Buffett's investing genius.

There was

a huge spike in Berkshire Hathaway trading volume on Thursday, not surprisingly.

However, both the A shares and B shares traded in a tight band. Late in the afternoon last Thursday, the Berkshire Hathaway B shares were up by 4.6%, and the A shares were up by 4.46%. A little wiggle room, but probably not enough for arbitrage opportunities.

A good day for both Berkshire Hathaway share classes, on a bad day for the broad equity markets. However, seemingly no arbitrage opportunity between the two Berkshire Hathaway shares visible yet.

KBW analyst Cliff Gallant said even though one day is obviously a brief span of market history, he had thought a trading gap might be visible between the two share Berkshire Hathaway share classes within a day.

What could change in the future? If Berkshire Hathaway is ever added to the S&P 500 as a result of its new and improved post-50-to-1 stock split liquidity, that could serve as a trigger for a wider trading gap.

However, Gallant is not among those who believe the S&P 500 Index inclusion is coming for Berkshire Hathaway. S&P's previous comments that Berkshire as a diversified investment company is too similar to underlying weightings in the existing S&P 500, make Gallant doubtful about the prospects for its addition to the S&P 500.

This doesn't mean that short-term arbitrage opportunities may not crop up in the future in Berkshire Hathaway stock.

Ravi Nagarajan wrote back in March 2009 of a spread widening between the two Berkshire Hathaway share classes. However, it is important to note that prior Berkshire Hathaway arbitrage opportunities noted by Nagarajan were likely linked to the stronger voting rights offered on the Berkshire Hathaway A shares.

Nagarajan noted that on Feb. 20 a record high spread developed between Berkshire Hathaway A and B shares. It was possible on Feb. 20 to purchase 32.26 B shares for the same price as a single A share. This was also notably around the time period when Berkshire was trading at a historic low.

Nagarajan wrote: "Any A shareholder was free to sell a single A share and purchase 32 B shares plus pocket the change represented by the fractional 0.26 B share. By doing so, the A shareholder would effectively increase his economic interest in the company by 7.53% (including the retention of the cash equivalent of the fractional share). Granted, the A shareholder would now only have a fraction of his prior voting rights, but that appears to be the only downside. A long position would be maintained with a significant addition to the shareholder's economic position."

Nagarajan noted that the arbitrage spread also would allow investors to make a move on the eventual narrowing of the historically wide A/B spread, as opposed to playing the spread to increase economic position in Berkshire Hathaway.

"By shorting one A share and purchasing 30 B shares, an investor could effectively bet on an eventual closing of the historic spread. Regardless of the direction in which Berkshire shares trade, the investor could profit when the spread returns to more typical levels. At that time, the A share would be repurchased with the proceeds of selling the 30 B shares."

In the least, the arbitrage relationship is something for investors to monitor, with the new era of "Buffett for Every Man" stock now officially upon us.

Of course, an arbitrage opportunity on Berkshire's legendary portfolio provides shareholders with a way to arbitrage the global corporate elite also: a 12.8% stake in

American Express

(AXP) - Get Report

; 9.4% in Kraft; close to 7% in

Wells Fargo

(WFC) - Get Report

; a little under 1% of


(WMT) - Get Report

; close to 9% of

Coca Cola

(KO) - Get Report

; and about-to-be-acquired

Burlington Northern



-- Reported by Eric Rosenbaum in New York.


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