Deciphering Berkshire Hathaway's 2020 Investment Strategy

May 19, 2020

Last week I posted on Linkedin my article – Hoarding US $137 billion in cash. This week I am following up that story with valuable learnings from Berkshire’s Annual Meeting and the wise words of its chairman, Warren Buffett’s address.

The 2020 Berkshire Hathaway Annual Meeting was a quiet affair. Just 12 people attended the 18,000 capacity CHI Health Center in Omaha, Nebraska. To represent Berkshire were Warren Buffett and Greg Abel, Vice Chairman - Non Insurance Operations.

Buffett is no stranger to the stage or the heat of a pressure cooker environment. In fact if you want to see him at his best go back to 1991 and the failure of Salomon Bros and how he opened the subcommittee enquiry, its on YouTube . He has nerves of steel and his words are always well chosen. In the end he is so believable. His intelligence, ability to see the whole picture and preparedness to take responsibility are all disarming qualities but together they are potent. He is a person in charge of a lot and that lot is big. Berkshire Hathaway comprises 97 different businesses with collectively 397,000 employees. Its book value is US $370 billion, asset value double that yet just 25 people manage the entire operations. Unlike my attendances in Omaha, Nebraska this year I watched Yahoo Finance’s five hour streamed Annual Meeting from home.

Oracle of Omaha

Buffett is commonly referred to as the Oracle of Omaha and the Berkshire Hathaway Annual meeting as “Woodstock” for capitalists. Like an oracle you must carefully listen to the message and consider what its meanings might be, this is why so many people attend. So what is his version of the state of the nation and the globe? I was already prepared knowing that he gives little away about where he is about to invest. I find that it is best if you watch Berkshire’s actions and try and unravel the meaning of his words. For me the interest was about the continued stockpiling of cash reserves, now at US $137 billion and his explanation of relatively weak investment performance over the past year.

First Buffett statement – on COVID-19, It’s impossible to predict what will happen next

Buffett stated that the most asked question he is receiving is, - “What’s going to be the situation in terms of health and the economy in the US”. He answered, “When it hit us...it has been a flip of the switch. In terms of national behaviour, the national psyche and it’s been dramatic. It was an extraordinary wide variety of possibilities on both the health and economic side. It’s Defcon 5 on one side and Defcon 1 on the other side (Defcon is a US defence readiness position or alert. 5 means low level and 1 is the highest level meaning action) and nobody really knows the range of possibilities and probabilities there are. Of course they intersect and affect each other and are bouncing off each other. I do think, on the health side the range of possibilities has narrowed down somewhat… This is quite an experiment… It’s impossible to predict what will happen next. We do not know exactly what happens when you voluntarily shut down a substantial portion of your society. In the 2008/9 our economic train went off the tracks,… this time we just pulled the train off the tracks and put it on a siding”. 

I interpret this to mean that in terms of investing right now is a gamble, with more downside risk than upside. Berkshire is an insurer and re-insurer so it understands risk evaluation at it core. Because the range of possibilities and probabilities is so wide it finds it difficult to evaluate risk sensibly and does not wish to participate in buying into the stock market at this time.

If you add to this thinking the very recent actions to sell all 31 newspapers to Lee Holdings for US $140 million, all holdings in the four major US airlines (United, American, Delta and Southwest) believed to be worth over US $4 billion, this speaks volumes. Just last week Berkshire disposed of 10 million of its 12 million shares in Goldman Sachs which would have yielded somewhere between US $1.65-$2 billion. Sold a further 3% of stock in JP Morgan Chase, sold out completely of Energy company, Phillips 66 for US $25 million, sold out completely of travel insurer giant, Travelers for US $43 million and trimmed it’s holdings in Amazon. Then you can see that his bet is against the stock market rising at this point.

Second Buffett statement – Don’t bet against America

The next most asked question is in relation to the economic future of the US, Buffett says clearly – “don’t bet against America”. The US has faced bigger issues before. Buffett can take you on an interesting history lesson starting with the First World War, Spanish Flu, the Great Depression, Second World War and all the recessions including the more recent Financial crisis. In all of these events USA has prevailed and just gotten stronger. Buffett went out of his way to explain the impact of the Great Depression on his family and others. Most importantly he said, “People had saved and saved all their lives and when they went to get their cash savings there was nothing there”. This has had a profound impact on him with the collapse of over 4,000 banks at that time. He recalled his father losing his job at the bank and his grandfather, a grocer saying, “Don’t worry son, your credit is good here”. More importantly Buffett recalls that the Great Depression lasted a long time but it lasted longer in people’s minds. Whilst he witnessed economic recovery during the 1930’s he used the Dow Jones (DJIA) to show that it took 20 years for the stock market to recover to the level immediately prior to the crash.

I interpret this to mean that if this recession becomes major or even a depression then Berkshire must protect its assets. Being in cash is wise and opportunistic to pick up valuable opportunities, but not if it is not protected. Banks can fail and he owns substantial interests in many of the American banks. Berkshire has placed the majority of its cash reserves into US Treasury Bonds which are government guaranteed and better protected. Berkshire is being set up to withstand a vulnerable global economy just in case the outcome of the recession is greater than can be expected.

Additionally the statement about backing America is his belief. Buffett believes that America is a powerhouse with people who are resilient, imaginative, adaptable and hard working. Why take your money out of such a well balanced and strong conglomerate and put it elsewhere when it has already been structured to withstand real pain and survive. On top of that Buffett’s best deals are in bad times so a survivor who has mountains of cash has the ability to respond faster and take advantage of the lack of competition.

Third Buffett Statement – When you buy a business you must be prepared financially and psychologically to hold the position.

Buffett admitted that Berkshire’s shares had gone down by 50%, three times in their history. “If you want a great investment then own the S&P 500 index” he said. In fact he will put 90% of the estate to be passed to his widow upon his death into an index fund which invests in the S&P 500 index. That’s how highly he values the safety and certainty of this investment. As for Berkshire he bets and backs it over all others but says, “ you should only do something that you understand yourself”.

 I interpret this statement as being directed to all current shareholders who are nervous or unsure and specifically to those who have borrowed money to buy shares. Also, Buffett can’t put amazing numbers up on a screen to show Berkshire’s outperformance nor can he admit to an amazing elephant-like acquisition which no one else can find either. His message is simple. The market is overvalued, nothing is worth buying, not even Berkshire Hathaway shares. The economy is in hibernation and struggling. Conditions are strange and unpredictable. The downside risk is greater than any upside. 

I refer to Buffett’s much older quote “The trick is, when there is nothing to do, do nothing.” The difference this time is that its now apparent that Berkshire have been doing a lot when it appears that they are doing nothing. Sales of substantial shareholdings in Newspapers, Aviation, Energy, Travel Insurance, Investment Banking and even some Amazon simply add to the already insurmountable cash stockpile, probably US $140 billion now. More importantly though we know that most of it is US Government guaranteed. 

Buffett always talks about businesses needing a moat. Something which protects the business by giving it an advantage over others. Berkshire is well protected against the most dire circumstances with great businesses, investments and a capable and responsible management team in the greatest economy on the planet. Now we can clearly see its moat.

Interestingly, the Australian government has just offered 10.5 year government bonds to the market and has been overwhelmed at the scale and speed of bids, amounting to AUD $53 billion. It has set the bond amount at AUD $19 billion, which makes this the largest bond sale in Australia's history.

In my next story on Berkshire Hathaway I will look at property and if Buffett even rates it.

Sources – Yahoo Finance, Forbes, Bloomberg & Knight Frank Research