Not surprisingly, Berkshire Hathaway has risen 16 percent this year and has outperformed the S&P 500 by 23 percent over the past 12 months. Pricing power is an important criteria for Mr Buffett and Mr Munger in their selection process. Their company in essence is one large investment portfolio, and one that is resilient to increasing inflation.
At the moment, the entire market is searching for the holy grail that protects a portfolio against rising inflation. An analysis of Berkshire Hathaway offers valuable insights. The portfolio roughly consists of four parts.
Portfolio with pricing power
In the summer of 2020, Berkshire took stakes in five Japanese trading houses, known as sogo shosha, for just over 6 billion dollars. On average, these shares have risen more than 80 percent since then. This year, too, Marubeni, Itochu, Mitsubishi, Mitsui and Sumitomo are all up sharply.
Of course, these stocks met Buffett’s value criteria in 2020. On average, these stocks traded at 12 times cash flow, 0.8 times book and less than 10 times earnings. Energy and mining were a key part of these Japanese conglomerates, which were best known for their vertically integrated business models. From exploration, production to the final sale to the consumer.
An important advantage of such a model is that these companies have “pricing power”. They have hedged themselves against rising commodity prices through vertical integration. These companies are part of Berkshire Hathaway’s insurance portfolio.
In his annual newsletter published in February, Buffett still did not see enough attractive investment opportunities, but since then he has taken a 4.2 billion dollar stake in Hewlett Packard, acquired insurer Alleghany for 11.6 billion dollar and Berkshire Hathaway took a 7.5 billion dollar stake in Occidental Petroleum. Large stakes in this portfolio are still Coca Cola, Bank of America and American Express.
Interest in Apple
Berkshire’s interest in Apple is worth more than 150 billion dollars and still accounts for 20 percent of Berkshire’s value. It is Berkshire’s only stake in the IT sector. Buffett bought the stake not because of the technology, but because of the Apple brand and the ecosystem surrounding the iPhone, two reasons why there is really no competition for the iPhone. He himself is an avid iPhone user and Buffet would rather give up his private jet than his iPhone.
In fact, Apple is not a tech company, but a consumer company.
Apple is mainly known for its brand and the consumer loyalty that goes with it. It makes products for consumers and is not a tech company that is difficult for Buffett to understand. This is all thanks to Steve Jobs who, from the beginning, emphasised design, design and branding. It is also a company with pricing power. Despite the optically high price for an iPhone, it remains value-for-money when you see what you can do with an iPhone and what other devices you can save with it.
BNSF Railways
This division is the merger product of Burlington Northern and Santa Fe Rail. Burlington Northern was effectively already a monopolist on the northern routes to the West and Santa Fe was a monopolist on the southern routes. Now Buffett owns virtually all the rail lines west of the Chicago-Houston line. Today, infrastructure investing is popular, as an alternative to bonds and with compensation for higher prices built in. Clearly, a monopoly on part of the infrastructure does not reduce prices or profit margins. This part of Berkshire is worth at least $200 billion and thus a quarter of the company.
Berkshire Hathaway Energy
One part of the company whose value has risen the most recently is Berkshire Hathaway Energy, 90 percent owned by Berkshire Hathaway. This is a motley collection of pipelines, utilities, wind and solar power, gas and other energy companies. Buffett has already invested more than 35 billion dollars in alternative energy, making him one of the largest investors in the United States. Due to the rise in energy prices, this component has rapidly increased in value in recent months and is now worth more than 150 billion dollars.
Conclusion
If we translate the four components into the structure of the investment portfolio, we see a four-way split with 25 percent value stocks with an emphasis on high quality, 25 percent in infrastructure, 20 percent in the IT/consumer sector and 20 percent in energy.
What is striking is that each component is resistant to rising inflation in its own way. What remains is more than 100 billion in cash. Buffett, too, has realised that with the current inflation rate it is not wise to keep cash in portfolio and, after a long period of calm on the acquisition front, Berkshire Hathaway is investing heavily again. The share is now back in the top 10 of the largest companies in the world.
Han Dieperink is chief investment strategist at Auréus Asset Management. Earlier in his career, he was chief investment officer at Rabobank and Schretlen & Co. Dieperink provides his analysis and commentary on the economy and markets. His contributions for Investment Officer Luxembourg are published on Thursdays.
This column was originally published in Dutch on InvestmentOfficer.nl
Earlier columns by Han Dieperink on Investment Officer Luxembourg: