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Warren Buffett's Favorite Options Strategy

Monday, October 13, 2008 | Marie Albin

Warren Buffett isn’t known for his risky investments. Berkshire Hathaway’s portfolio is filled with blue-chip value plays like General Electric (GE), Coca-Cola (KO), and Procter & Gamble (PG).

So it may surprise you that Warren Buffett is one of, if not THE, single biggest individual options traders in the world.

Just this week, Warren Buffett’s Berkshire Hathaway disclosed that it has written put options on railroad stock Burlington Northern Santa Fe Corp. (BNI). Buffett is using this options strategy as a way to add to his shares of Burlington Northern.

You may recall that Chris Rowe told Tycoon readers about this strategy in his article, "Profit from the Bailout Bloodbath". Chris pointed out that selling naked puts (or writing put options) is a great way to buy stock as well as collect a premium, especially in this market environment. If you missed his article, be sure to check it out. 

[Editor's Note: To learn more about trading options, go here to get Chris' free report, Options Made Simple.]

Clearly, Buffett agrees. Buffett’s Berkshire Hathaway has sold put options that will force it to purchase 3.26 million BNI shares between $77 and $80 a share.

On Oct. 6, Berkshire wrote put options for 1.39 million shares of BNI at a premium of $7.02 per contract. The put option is exercisable until Dec. 9 at a strike price of $80.

On Oct. 9, Berkshire wrote put options for 1.19 million shares at a premium of $7.03 per contract, and another for 761,111 shares at a premium of $5.78 per contract. The put options are again exercisable on Dec. 9 with a strike price of $80 for the 1.19 million shares and at $77 for the 761,111 shares.

Buffett pocketed a premium of $22 million for writing the options contracts, which he can then put toward buying the shares that he very likely would have bought anyway. 

Buffett already owns more than 63.7 million shares of Burlington Northern, according to SEC filings. That’s about an 18% stake in the railroad company.

According to GuruFocus.com, Buffett bought shares of Burlington Northern at an average price of about $80 a share, which is, not surprisingly, the price that Buffett is targeting. As of Friday’s close, BNI shares were trading at $80.16 a share. BNI shares hit a peak of $114.58 in June.

[Editor's Note: What do you think about selling naked puts? Have you used this strategy to buy stock?]

Marie Albin
Contributing Editor
The Tycoon Report
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