The sound was deafening. It was the early stages of an unexpected global pandemic that had sent the entire world into meltdown. Both the short- and long-term impacts remained uncertain, the only certainty was that the movement of people around the world had ground to a complete halt: the worst-case scenario for investors in the airline and associated sector.
Enter Warren Buffet and Berkshire Hathaway. Despite being quoted regularly suggesting that airlines were a bad investment, the conglomerate had amassed a material stake in the sector in recent years. The calls came quickly from the masses – ‘Buffett has lost it,” “Berkshire Hathaway has underperformed the S&P500 for a decade,” and on they went. The issue with being Warren Buffett of course, is that if you have been around for long enough (at 90 he has) you will eventually be quoted on every investment under the sun.
While falling short of calling for Buffett to finally move on, the pressure was clearly on. Buffett responded by selling out Berkshire’s entire holding, cauterising the issue, and then beginning the search for alternatives with his US$150 ($214 billion) billion cash balance. So how did it turn out? Despite holding as much as 30% of its market capitalisation in cash, Berkshire Hathaway shares outperformed the S&P500 in the September quarter, 20% to 8%.
The saying that “forecasts tell you more about the forecaster than the future” could easily be adjusted to those who use Warren Buffett quotes to justify investment decisions. It is abundantly clear that the world is a different place post-COVID-19, even with the latest news of a potential vaccine. The strategies and investment mindsets of old must clearly evolve, or continue to underperform, case in point the ‘value vs. growth’ story that continues today.
Berkshire Hathaway has clearly identified this and 2020 may make the beginning of a new course. The group has been widely criticised and pressured to act on its growing cash balance, now US$146 billion ($208 billion) at 30 September, yet the sheer size has limited the opportunities available. In the last 12 months the group made a number of investments that now seem prescient.
The first of these was one of the few initial public offering investments in Berkshire’s history, the acquisition of shares in Snowflake Inc; a tech unicorn. The data warehousing company, which listed in September at US$120, has already delivered a 100% profit for shareholders finished trading at US$240 this week. Similarly, Berkshire made a highly publicised US$6 billion ($8.6 billion) investment into the Japanese “sogoshosha,” or trading houses, including Itochu, Mitsui, and Mitsubishi Corporation.
The sogoshosha are almost the Berkshire Hathaway equivalents of Japan. They are general trading companies or conglomerates that have shape-shifted over decades to the needs of their customers. More recently, they have expanded into technology, energy, financial service, importing, and exporting all ranges of goods. Thus far the strategy has turned out well, with these companies uniquely exposed to a recovering global economy and the increasingly important Asian economic region.
Sometimes doing nothing is the best action
Berkshire Hathaway recently provided its third-quarter earnings update and the news was broadly positive. The decision to dump airlines along with a general recovery in the most COVID-impacted sectors saw the group deliver an 82% increase in operating profit in 2019 driven by the revaluation of its underlying holdings. The company’s largest holding in Apple Inc. (NASDAQ: AAPL) was a particular highlight, and another example of Buffett evolving his investment strategy, after the stock added 27% in the quarter following a new iPhone release and better-than-expected sales figures.
Similarly, the group’s holdings across energy exploration, product and railroads have benefited from a progressive return to normal, and were key contributors to the third quarter recovery. The biggest highlight from the report, however, was the record level of stock buybacks. In the first nine months to 2020 the company has bought back US$9 billion ($12.9 billion) in stock, an amount that was the previous record for an entire year. Buffett is clearly adhering to his advice that the best investment is in yourself.
So, where to from here? Despite the euphoria entering markets on this week’s vaccine news, opportunities abound around the world. The group continues to target deals as large as US$50 billion ($71.4 billion) with a preference to own entire businesses rather than having passive stakes in listed companies; which may come as a surprise for those following Buffett’s ‘use an index fund’ advice. At US$50 billion Berkshire could purchase Woolworths (ASX: WOW) and be left with $5 billion in change.
Berkshire has a clear edge in insurance, underwriting, infrastructure, and energy assets, but I’m expecting the next acquisition to be further abroad. Think China, Asia, or beyond, as the company seeks to unshackle itself from the past and broaden the opportunity set for the next generation of leaders.