Warren Buffett needs no introduction in the global investing community. Folksy personality aside, he is better known for his sharp business acumen and investment track record.
Fortune recently reported that if you had invested $1,000 into Berkshire Hathaway (Buffett’s holding company) since its inception in 1965, its value would have been $26.4 million today. The same $1,000 in the S&P 500 would be worth 130 times less – at $200,000.
While certainly fantastic, the last decade hasn’t been kind for Buffett. In the last 5 years, Berkshire has lagged the market by nearly 10 percentage points. And in 2019 alone, Berkshire showed a 11% rise while the S&P 500 went up more than 30%.
His businesses have been in a rut. For instance, Kraft Heinz, in which Buffett owns a $11 billion stake in, had to write down assets for some of its brands and undergo a SEC investigation into its accounting practices.
More recently, in Berkshire’s 2020 Annual Meeting held virtually two days ago, Buffett disclosed that he had made a mistake with his airline positions and exited them entirely.
This had led some people to wonder… has Warren Buffett past his prime?
I would argue, no.
And while I’ll give some reasons below why I believe so, I have to state that I am somewhat biased in my beliefs. I have been influenced by Buffett and Munger’s philosophies for close to 8 years now – and the views represented below will very much be my interpretation of their teachings.
Veering away from being an argumentative piece, I try to include constructive insights that all investors (regardless of your views on Buffett) can take away from this article.
Perhaps one of the biggest gripes with Buffett is that he does not seem to follow his own advice.
In recent years, Buffett has been making some investment decisions that… seem contrary to what he has been espousing all along.
For example, Buffett has made clear over the years that he would not invest in tech stocks as he doesn’t understand them.
Subsequently, he surprised investors by buying stocks of IBM (now exited), Oracle (quickly exited), Apple and Amazon. Apple has since become the largest stake for Berkshire at 40% ($72 billion).
Is Buffett being a hypocrite here?
I believe Warren Buffett bought into those businesses not because he is buying into the tech story – but because they have built up other considerable and sustainable moats over the years such that their businesses are predictable over the long term.
And this has made it attractive for Buffett to own them – it just so happens that they are tech companies.
You can see this with the purchase of IBM stock in 2011. Buffett remarks that IBM is “a company that helps IT departments do their job better” and added that he sees a lot of continuity in it.
When it was clear to Buffett that the business had not been as predictable or moaty as he thought it was (losing market share, large number of strong competitors) – he exited his position in 2018.
He has used the same playbook with Apple.
Over the years, Apple has successfully attracted a growing network of die-hard users into its ecosystem who can’t see themselves switching away to use an Android device.
Apple has essentially become more of a consumer brand than a tech player. With Apple’s moats being as wide as they are, Buffett sees predictability in its business – and hence feels comfortable dumping $72 billion on it.
Using this framework, we see that Buffett doesn’t act with no rhyme or reason. He is principled in his ways – and while that may look like he doesn’t know what he is doing on the surface, every move is a calculated chess play.
The Airline Conundrum
Buffett has also been critical of the economics of the airlines business – calling them a “death trap” in 2013.
Once again, it seemed like he had upended his own advice when he started buying them in 2016. Even in the March selloff this year, Buffett continued to have conviction…
So when almost 2 months later we hear Buffett saying that he has exited all his airline stocks – investors were shocked (I know I was).
What is going on?!
It seemed like Buffett is losing his wizz – “speculating” in airlines when they were profitable and got scared when COVID-19 became a real issue.
However, I think it is not as straightforward as that.
As investors, we can only best act on information available to us at that particular point in time. Buffett has done exactly that.
In 2016, Buffett saw that the airline business had stabilized. Fuel costs had come down, airlines had consolidated, load factors were much higher than a decade ago… and the industry had started seeing better profitability all around.
With this information, Buffett had made a rational decision going into airlines.
COVID-19, unfortunately, was a tail risk that subsequently impaired visibility on the outlook for airlines. In the recent annual meeting, he mentioned that:
“I don’t know whether two or three years from now that as many people will fly as many passenger miles as they did last year… They may and they may not, but the future is much less clear to me.”
Investing is a bet on probabilities. Most of the time things work out – but sometimes they don’t. This is one of those times.
As events unfold, investors must continually reassess the reasons for which they bought a particular stock. Does the business story still ring true? If so, continue hold it (or double down if you have spare cash). If not, is it something that will permanently affect its future story?
I think that instead of criticizing Buffett for this misstep, it is more important to realize that he has admitted to his mistakes quickly. This is a hallmark trait of a good investor and manager – and we certainly don’t see this much anymore.
Woes of Sitting on Your A$$
Finally, it is not a mystery that Warren Buffett has been hoarding cash in the last 2 years – waiting for the opportune time to enter when it is “raining gold”.
However, he revealed in the Annual Meeting that not only did he not buy stocks, he had incurred a net loss of $50 billion from the effects of COVID-19.
This has led some investors to question if Buffett is truly maximizing value for shareholders. David Rolfe, a longtime Berkshire shareholder, sold his stake in October last year accusing Buffett of “thumb-sucking”.
The thing is, Warren Buffett tries to follow a discipline of not overpaying for things.
He tries to buy stakes in businesses as if he was acquiring them outright – and one of his criteria for valuation is that “the figures should hit you over the head with a baseball bat”.
Ie. they should be attractive enough to give you a sufficient margin of safety.
Amid the COVID-coronavirus crisis, Buffett has alluded that the Berkshire’s intrinsic value may have been slightly impaired because of his stakes in the airlines…
…but I wonder if possibly the impairment of business value among stocks overall might have made valuations too uncertain for Buffett to make a good judgement call of owning more stocks.
Here’s what Buffett had to say during the meeting:
“We have not done anything because we haven’t seen anything that attractive,” Buffett said. “We are not doing anything big obviously. We are willing to do something very big. I mean you could come to me on Monday morning with something that involved $30, or $40 billion or $50 billion. And if we really like what we are seeing, we would do it.”
With regards to the $50 billion net loss – investors should note that much of this is *unrealized* losses from Berkshire’s investments, reflecting the worries of the stock market during COVID-19.
In fact, actual operating earnings have slightly improved to $5.9 billion from $5.6 billion in the same period a year ago.
The Bottom Line
When it comes right down to it – I think Buffett’s actions can be predicated on this somewhat-overabused but timeless adage:
“Rule No. 1: Never lose money.
Rule No. 2: Never forget Rule No. 1.”
(Fun fact, it was one of the first few phrases I kept hearing about when initially learning about Warren Buffett)
The essence of the message is that Buffett and Munger don’t try to be smart, but instead seek to avoid doing stupid things.
This branches out into all the other worldly wisdoms the duo has espoused over the years – like operating within your circle of competence, having a margin of safety, and so on.
You can see this happening over the many years Berkshire has operated.
In the late 1990s, Berkshire had avoided the hot tech stocks as they weren’t in his circle of competence and didn’t want to lose his shirt playing a game he didn’t understand. He got lambasted – as usual.
We know what happened after that!
Today – Buffett is similarly avoiding doing stupid things by admitting the mistake in airlines and exiting his position. If he were to hold on – it may mean bigger losses and permanent value impairment for Berkshire.
It is also notable that with the original airlines position, he only has had a combined stake of 4.21% of overall portfolio. Clearly evident that he had not tried to play smart – and made a good risk-reward bet at the time!
Finally same thing with his huge cash position and staying on the sidelines…
I wrote some insights with regard to this last night in the Dr Wealth Insiders group:
Buffett is indeed cautious – as he doesn’t know what can happen in the short term. His speech is peppered with this:
“Perhaps with a bias, I don’t believe anyone knows what the market is going to do tomorrow, next week, next month, next year. I know America’s going to move forward over time, but I don’t know for sure and we learned this on Sept. 10, 2001. And we learned it a few months ago in terms of the virus. Anything can happen in terms of markets. And you can bet on America but you’re going to have to be careful about how you bet. Simply because markets can do anything.”
In this time, Rule No 1 takes strong precedence over his other quote “being greedy when others are fearful” – simply because if things are too uncertain… the smartest thing to do is to protect the fort.
While I cannot say for sure Berkshire will deliver the jaw-dropping 20+% returns for investors in the coming years, I am very certain that he won’t ever lose money for investors.