Tag Archives | Warren Buffett

What’s Warren Buffett Up To?

It’s that time of year again. Warren Buffett’s Berkshire Hathaway (BRK.A, BRK.B) just released its latest 13F filing, which outlines its buys and sells over the past quarter.

warren buffett berkshire hathawayWhile this data is always a little bit dated by the time it is released (Berkshire’s reporting date is Sept. 30) and it does not take into account non-traded securities, derivatives or short positions, these issues matter relatively little in the case of Warren Buffett.

The Oracle, after all, is known for taking large, concentrated positions and holding on to them for a while.

What Warren Buffet Has Been Buying and Selling

As of quarter end, Berkshire Hathaway had made a large new investment in Exxon Mobil (XOM) worth $3.5 billion, boosted its existing position in dialysis provider DaVita HealthCare Partners (DVA) by nearly a quarter, and reduced his holdings in ConocoPhillips (COP) and GlaxoSmithKline (GSK)

And since quarter’s end, Warren Buffett has been busy. Berkshire added yet more shares of DaVita on Nov. 8 and initiated a new position in Goldman Sachs (GS) on Oct. 8.

What It All Means

To start, Buffett still is bullish on financials. Financial services represent nearly 40% of the Berkshire traded stock portfolio, led by Wells Fargo (WFC), which alone accounts for 21% of the portfolio. Buffett is holding tight to IBM (IBM), his largest recent investment, despite its terrible performance this year. And Buffett — or one of his lieutenants — still is very bullish on DaVita’s dialysis business, despite its dependency on Medicare as a payer.

I am inclined to agree. DaVita has been a recommendation of the Sizemore Investment Letter since May.

I’m not privy to Berkshire Hathaway’s investment committee meetings, but it’s not hard to understand their bullishness. Dialysis is a business that is anything if not predictable. Patients must have the procedure done regularly, and there are generally only two ways off: a transplant or death.

Earlier this year, DaVita got a kick to the teeth when Medicare proposed reducing its payments by over 9%. Medicare and Medicaid together account for about two-thirds of revenues. But demographic trends practically guarantee that DaVita’s revenue stream will explode in the years ahead, even if margins are somewhat crimped.

Kidney disease can affect any American at any age, but it is a bigger problem among the middle-aged and elderly. According to the Kidney End-of-Life Coalition, 45% of the more than 320,000 patients receiving dialysis therapy in the United States are over the age of 60, and the fastest growing segment of the dialysis population to be among patients aged 75 and older.

Meanwhile, the largest cohort of the baby boomers still are in their early 50s and not too far removed from their physical prime. But the front end of this generation is in its late 60s, and with every passing year a larger number of baby boomers find themselves at risk of chronic diseases like kidney disease.

Buffett and his team appear to be betting that these demographic forces will outweigh the effects of a stingier Medicare program.

I, for one, agree.

Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management. As of this writing, he did not hold a position in any of the aforementioned securities. Click here to receive his FREE 8-part investing series that will not only show you which sectors will soar, but also which stocks will deliver the highest returns. This series starts Nov. 5 and includes a FREE copy of his 2014 Macro Trend Profit Report.

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What’s Warren Buffett Buying?

It’s that time again.  Warren Buffett’s Berkshire Hathaway (BRK-A) released its quarterly 13F filing today, which details stock by stock what Buffett and his managers have been buying and selling.

At the top of the list?  A 17.8-million-share position in Suncor Energy (SU), Canada’s biggest oil and gas producer.  Suncor is a major producer in the Alberta oil sands, and this purchase is consistent with Buffett’s overall belief in a North American industrial renaissance.

Next is Dish Network (DISH), the satellite television provider. Berkshire Hathaway added 547,312 shares of Dish, worth about $24 million.  The relatively small size of the acquisition indicates it was probably made by one of Buffett’s lieutenants and not the Sage himself.  Still, given that Buffett’s two managers—Todd Combs and Ted Weschler—are front runners to take control of Berkshire Hathaway’s portfolio once Buffett eventually retires, the move is worth noting.

Dish is an odd addition for Berkshire Hathaway given that archrival DirecTV (DTV) is already in the portfolio and has been for a few years now.  It’s even stranger when you consider the high drama surrounding Dish and its CEO Charlie Ergen and its failed bid to purchase Sprint (S) and Clearwire for their spectrum assets.

Ergen had grand ambitions of using Sprint’s bandwidth to create something of a wireless empire that would have included paid TV, phone service, and wireless internet…which sounds great, except that he would have been entering an already crowded market in all three services.  And in any event, he got outbid.

Buffett is not known for endorsing great jumps into the unknown. Dish seems an odd addition to a generally conservative, staid portfolio.  It’s highly-indebted, not particularly cheap, and operates in an industry in the middle of a transformation with a very uncertain outcome.  I’m left scratching my head on this one.

In addition to Dish and Suncor, Buffett massively increased his position in General Motors (GM), adding about 60% to a position now worth $1.4 billion.  Like Suncor, this move is more in line with Buffett’s belief in America’s industrial future.  It’s also an established player in an old-line industry trading for a reasonable price.  Classic Buffett.

And what did Buffett sell?

He cut his positions in packaged foods companies Kraft Foods (KRFT) and Mondelez (MDLZ) to nearly zero.

Until his next letter to shareholders comes out, we’re left to speculate as to why Buffett unloaded these two.  My guess is simply that he wanted to free up cash for another big purchase.

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Review: The Most Important Thing

If Warren Buffett, Christopher Davis, Joel Greenblatt and Seth Klarman recommend a book, it might—just might—be worth reading.   It certainly got my attention.

Warren Buffett calls Howard MarksThe Most Important Thing “that rarity, a useful book.”  And as a researcher with a library of a couple hundred books myself, I couldn’t agree more.

For those unfamiliar with Howard Marks, he is the Chairman and cofounder of Oaktree Capital Management, an investment firm with $77 billion under management.  The Most Important Thing Illuminated, published in 2013, is an update to Marks’ original, published in 2011, though in Illuminated Marks has help.  Greenblatt, managing partner of Gotham Capital and author of The Little Book That Beats the Market, offers his own commentary throughout the pages, as do Christopher Davis, portfolio manager of the Davis Large Cap Value fund, and Seth Klarman, president of The Baupost Group and a well-respected value investor.  Marks keeps good company.

I had high expectations when I picked up The Most Important Thing Illuminated, and I wasn’t disappointed.  This isn’t yet another “how to invest” book or a tired rehashing of received investment “wisdom” that looks more like something found in a fortune cookie and which rarely seems to hold up in practice.

Instead, Marks gives us the insightful thoughts of a man who struggles with his own investing decisions on a daily basis.  There are no shortcuts, formulas, or easy tricks.  But there is a wealth of experience and thoughtful contemplation from a real “in the trenches” investor who has been doing this a long time.

Marks starts the book with a chapter on “second-level thinking,” and I consider this one of the most valuable lessons in the entire book.  Having a good understanding of this chapter alone will put you head and shoulders above most of your peers.

Mechanical trading rules work really well…right up until the point that they don’t.  And why don’t they work consistently over time?  As Marks explains,

The reasons are simple.  No rule always works.  The environment isn’t controllable, and circumstances rarely repeat exactly.  Psychology plays a major role in markets, and because it’s highly variable, cause-and-effect relationships aren’t reliable. An investment approach may work for a while, but eventually the actions it calls for will change the environment, meaning a new approach is needed.  And if others emulate an approach, that will blunt its effectiveness.

Investing, like economics, is more art than science.  And that means it can get a little messy.

“Messy” is not a technical term, but it is accurate and descriptive hear.  Markets are driven by people and by ever-changing real-world events.  Trying to cram this into a mechanical trading model or a black box is a recipe for disaster.  And frankly, it’s mentally lazy and reflects an unwillingness (or inability!) to grasp complexity.

This brings me to Marks’ points about second-level thinking.  What exactly is “second-level thinking.”  Perhaps it is best explained by example:

  • “First-level thinking says, ‘It’s a good company let’s buy the stock.’  Second-level thinking says, ‘It’s a good company, but everyone thinks it’s a great company, and it’s not.  So the stock’s overrated and overpriced; let’s sell.’”
  • “First-level thinking says, “The outlook calls for low growth and rising inflation. Let’s dump our stocks.’ Second level thinking says, ‘The outlook stinks, but everyone else is selling in panic.  Buy!’”
  • “First-level thinking says, ‘I think the company’s earnings will fall; sell.’ Second-level thinking says, ‘I think the company’s earnings will fall less than people expect, and the pleasant surprise will lift the stock; buy.’”

Call it contrarian thinking, applied game theory, or just being clever, but this is the mindset that is required to be a successful investor over time.  It’s also a skill that few investors have or have the mental discipline to use.

It’s not easy going against the grain and taking views that are contrary to the consensus.  But then, no one ever said that investing should be easy.

Market Technicals and Psychology

As a value investor, Marks is not a fan of technical analysis (i.e. charting) but he does stress the importance of understanding what he calls “market technicals,” or non-fundamental factors that affect the supply and demand for a security.  Failing to understand these can lure an investor who looks at value alone.

What are some examples?  Marks lists two specifically: the forced selling that takes place when a market crash trips margin calls, which forces leveraged investors to sell at any price, and the cash inflows that go to mutual funds that are usually invested irrespective of price.  To these I would add short squeezes, secondary stock price offerings that dilute shareholders, and buyout offers.

These technical factors are often closely related to market psychology.  And as Marks writes, “The discipline that is most important Is not accounting or economics, but psychology…

Investing is a popularity contest, and the most dangerous thing is to buy something at the peak of its popularity.  At that point, all favorable facts and opinions are already factored into its price, and no new buyers are left to emerge.

Need an example?  Think of Apple’s performance over the past few years.  Apple was the “must own” stock of the 2010s.  Everyone owned it—individual investors, mutual fund managers, hedge fund managers…you name the investor, and chances are good that Apple made up a good-sized chunk of their portfolio.

There were cases of focused hedge funds having 20-30% of their portfolio in Apple.  Even now, after Apple’s massive slide, the stock accounts for nearly 15% of the Technology Select SPDR (NYSE:$XLK), one of the most popular ETFs for investing in the tech sector.  Apple’s position in the ETF is bigger than Google’s and IBM’s combined.

It’s not a figure of speech to say that there was no one left to buy Apple.  No matter how great a company is, there is a limit to how high a percentage of investors’ portfolios it could comprise.

And we all know what followed.  Apple’s share price fell by over 40%, and may or may not be finished falling.

A pure value investor wouldn’t have seen the risk in Apple.  Based on popular metrics such as price/earnings or price/sales, Apple wasn’t particularly expensive.  It actually looked pretty cheap compared to the broader market.

But if you had taken market technical and investor psychology into account, you would have known to be wary.  You almost certainly wouldn’t have timed the top perfectly, but you would have known that caution was warranted.

Unfortunately, as Marks acknowledges, “psychology is elusive…and the psychological factors that weigh on other investors’ minds and influence their actions will weigh on yours as well.”

There are no shortcuts here.  You have to remain as dispassionate as possible and, where possible, try to apply second-level thinking.

Thoughts on Risk

Risk is one of the most difficult concepts in investing because it is impossible to quantity.  Yes, we have measures such as standard deviation, variance, or beta, but these measure volatility.  Volatility and risk are not at all the same thing.

A better definition of risk is the possibility of loss.  But even this is hard to define or quantify in any meaningful way.  And at the time when a stock appears the most risky—such as after a recent volatile drop—it may actually be relatively less risky, as the selloff shook out the less committed investors.  And on the flip side, it is when a stock looks least risky—think Apple this time last year—when it is in fact most at risk.

And it gets more complicated than that.  You can’t gauge the riskiness—or the quality—of a trade based on what happened.  You have to base it on what could have happened.

In other words, you can take a phenomenally bad gamble with negative expected returns and still come out ahead.  But that doesn’t mean it was a good decision.  Let me state it bluntly: A good outcome does not mean that the decision that led to it was a good one.

If you don’t understand what I’m talking about, you should probably stop reading.  And you should definitely stop investing.

Winning the lottery is a fantastic outcome.  But the expected value on any given lottery ticket is negative because the possibility of a payoff is infinitesimally small. Most people would agree that winning the lottery is good luck.  But, being overconfident in their own abilities, they fail to see the role of luck in good investment returns based on bad trading.

Marks, in thinking very similar to that of Black Swan guru Nassim Taleb, does a good job of explaining this:

A few years ago, while considering the difficulty of measuring risk prospectively, I realized that because of its latent, nonquantitative and subjective nature, the risk of an investment—defined as the likelihood of loss—can’t be measured in retrospect any more than it can a priori.

Let’s say you make an investment that works out as expected. Does that mean it wasn’t risky?… Perhaps it exposed you to great potential uncertainties that didn’t materialize….

Need a model?  Think of the weatherman.  He says there is a 70 percent chance of rain tomorrow.  It rains; was he right or wrong?

It’s easy to get overly academic here and veer off into directions that are not particularly practical.  Perhaps it can be summed up with the old Wall Street adage to “Never confuse brains with a bull market.”

More broadly, we should always remember that risk is a complicated concept and that we can’t get complacent in our investment process.  When you have capital at risk, you need to be vigilant.

Does this mean we should avoid risk?  Not at all.  As Marks puts it, “risk avoidance is likely to lead to return avoidance.”  Assuming risk is part of the investment game.  It is just a matter of keeping risk under control and making sure that the returns we realistically expect are worth the risk we are taking.

On Cycles

While Marks eschews charting and most forms of technical analysis, he does have respect for market cycles.  In fact, he offers two rules for investing with a mind to cycles:

  • Rule number one: Most things will prove to be cyclical
  • Rule number two: some of the greatest opportunities for gain and loss come when other people forget rule number one.

Marks’ interest in cycles ties back to his belief in the importance of market psychology:

Objective factors do play a large part in cycles, of course—factors such as quantitative relationships, world events, environmental changes, technological developments and corporate decisions. But it’s the application of psychology to such things that causes investors to overreact or underreact and thus determines the amplitude of the cyclical fluctuations…

Cycles are self-correcting, and their reversal is not necessarily dependent on exogenous events.  They reverse (rather than going on forever) because trends create the reasons for their own reversal.  Thus, I like to say success carries within itself the seeds of failure, and failure the seeds of success.

Well said.  Marks’ views are consistent with those of Hyman Minsky, who believed that stability inevitably leads to instability (and vice versa) because stability encourages risky behavior and instability prompts more sober behavior.

Within the markets, a long period of stability and growth leads investors to assign higher and higher earnings multiples to stocks—think of the 1980s and 1990s.  But during long periods of economic malaise and market turmoil, investors assign lower and lower earnings multiples.  This cycle is probably the one permanent fixture throughout the history of the capital markets.

Marks offers so specific trading strategy to trade cycle fluctuations; his intent is simply to offer a word of advice to not ignore them.

In this book review, I have barely scratched the surface of The Most Important Thing.  This book is chocked full of very accessible, very down-to-earth investment advice, and the praise heaped on it by Buffett, Klarman and the rest is well deserved.  This is a book that I recommend you keep on your desk and thumb through on those days where the market isn’t making sense and you need a little grounding.

Compliments on a book well written.

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The Biggest Mistake of Warren Buffett’s Career

Warren Buffett is a hero to many investors, myself included.  His record speaks for itself: 18.3% annualized returns in Berkshire Hathaway’s ($BRK-A) book value over the past 30 years compared to just 10.8% for the S&P 500.  And his returns in the 1950s and 1960s, when he was running a much smaller hedge fund, were even better.

Mr. Buffett is also quite generous with his investment wisdom, sharing it freely with anyone who cares to listen.  But as with most things in life, failure is a better teacher than success.  And Mr. Buffett has had his share of multi-billion-dollar failures.

You want to know the biggest mistake of Buffett’s career?

By his own admission, it was buying Berkshire Hathaway!

Everyone assumes that Buffett’s decision to buy Berkshire Hathaway was a typical Buffett stroke of genius.  Nothing could be further from the truth.

We like to think of Warren Buffett as the wise, elder statesman of the investment profession, but Buffett too was young once and prone to the rash behavior of youth.  And Berkshire Hathaway was not always a financial powerhouse; it was once a struggling textile mill.

Buffett had noticed a trading pattern in Berkshire’s stock; when the company would sell off an underperforming mill, it would use the proceeds to buy back stock, which would temporarily boost the stock price. Buffett’s strategy was to buy Berkshire stock each time it sold a mill and then sell the company its stock back in the share repurchase for a small, tidy profit.

But then ego got in the way.  Buffett and Berkshire’s CEO had a gentleman’s agreement on a tender offer price.  But when the office offer arrived in the mail, Buffett noticed that the CEO’s offer price was 1/8 of a point lower than they had agreed previously.

Taking the offer as a personal insult, Buffett bought a controlling interest in the company so that he could have the pleasure of firing its CEO.  And though it might have given him satisfaction at the time, Buffett later called the move a “200-billion-dollar mistake.”

Why?  Because Buffett wasted precious time and capital on a textile mill in terminal decline rather than allocate his funds in something more profitable—in his case, insurance.

By Buffett’s estimates, had he never invested a penny in Berkshire Hathaway and had instead used his funds to buy, say, Geico, his returns over the course of his career would have been doubled.  Berkshire will still go down in history as one of the greatest investment success stories in history, of course.  But it was a terrible investment and a major distraction that cost Buffett dearly in terms of opportunity cost.

What lessons can we learn from this?  I’ll leave you with two quotes from Buffett himself:

“If you get into a lousy business, get out of it.”

“If you want to be known as a good manager, buy a good business.”

In trader lingo, cut your losers and let your winners ride.  Holding on to a bad investment wastes good capital and mental energies that would be better put to use elsewhere.

Thank you, Mr. Buffett, for sharing your failures with us.  Your willingness to do so is one of the reasons we love you.

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Is Sears the Next Berkshire Hathaway?

I originally penned this articled in December 2011.  Given Sears’ stock action in the year that has passed, it’s worth another read.

A well-respected value investor buys an old American company in decline, promising to restore its fortunes.  Alas, the recovery never comes.  The economics of the industry have changed, and the company cannot compete with younger, nimbler rivals.  The company ceases operations, but the value investor holds onto the shell to use as an investment vehicle.

Could this be the future of Sears Holdings (Nasdaq: $SHLD) under Eddie Lampert?  Maybe; maybe not.  But it was certainly the case for Warren Buffett’s Berkshire Hathaway (NYSE: $BRK-A).

Unless you’re a history buff or a dedicated Buffett disciple, you might not have known that Berkshire Hathaway was not always an insurance and investment conglomerate.  It was a textile mill, and not a particularly profitable one.  It was, however, a cash cow.  And after buying the company in 1964, Buffett used the cash that the declining textile business threw off to make many of the investments he is now famous for, starting with insurance company Geico.

So, when hedge fund superstar Eddie Lampert first brought Kmart out of bankruptcy in 2003, the parallels were obvious.  With its debts discharged, the retailer would throw off plenty of cash to fund Lampert’s future investments.  And even if the retail business continued to struggle, Lampert could—and did—sell off some of the company’s prime real estate to retailers in a better position to use it.  Lampert sold 18 stores to the Home Depot (NYSE: $HD) for a combined $271 million in the first year.

That Lampert would use Kmart’s pristine balance sheet to purchase Sears, Roebuck, & Co.—itself a struggling retailer—seemed somewhat odd, but his management decisions after the merger seemed to confirm that his strategy was cash cow milking.   Lampert continued to talk up the combined retailer’s prospects, of course.  But his emphasis was on relentless cost cutting, and he invested only the absolute bare minimum to keep the doors open.  Sears Holdings didn’t have to compete with the likes of Home Depot or Wal-Mart (NYSE: $WMT). It just had to stay in business long enough for Lampert to wring out every dollar he could before selling off the company’s assets.

The strategy might have played out just fine were it not for the bursting of the housing bubble—which killed demand for the company’s Kenmore appliances and Craftsman tools—and the onset of the worst recession in decades.  With retail sales in the toilet (and looking to stay there for a while), there was little demand among competing retailers for the company’s real estate assets.

It’s fair to blame Lampert for making what was, in effect, a major real estate investment near the peak of the biggest real estate bubble in American history.  But investors  frustrated by watching the share price fall by more than 80 percent from its 2007 highs have no one to blame but themselves.   Anyone who bought Sears when it traded for nearly $200 per share clearly didn’t do their homework.  They instead were hoping to ride Lampert’s coattails while somehow ignoring the value investor’s core principle of maintaining safety by not overpaying for assets.

Lampert is a great investor with a great long-term track record, and there is nothing wrong with paying a modest “Lampert premium” for shares of Sears Holdings.  If you like Lampert’s investment style but lack the means to invest in his hedge fund, Sears may be the closest you can get.  But at $200 per share—or even $100—the Lampert premium had been blown completely out of proportion.  The same is true of Buffett, of course, or of any great investor.  As the Sage of Omaha would no doubt agree, there is a price at which Berkshire Hathaway is no longer attractive either.

This brings us back to the title of this piece—is Sears the Next Berkshire Hathaway?

I would answer “yes,” but not necessarily for the reasons you think.

Everyone assumes that Buffett’s decision to buy Berkshire Hathaway was a typical Buffett stroke of genius.  Nothing could be further from the truth.  In fact, Buffett revealed in an interview last year that Berkshire Hathaway was the worst trade of his career.

If you cannot view the video above, please follow this link: “Buffett’s Worst Trade

We like to think of Warren Buffett as the wise, elder statesman of the investment profession, but Buffett too was young once and prone to the rash behavior of youth.  He had been trading Berkshire Hathaway’s stock in his hedge fund; he noticed that when the company would sell off an underperforming mill, it would use the proceeds to buy back stock. Buffett intended to sell Berkshire Hathaway its own stock back for a small, tidy profit.

We’ve all been there, Warren.

But due to a tender offer that Buffett took as a personal insult, he essentially bought a controlling interest in the company so that he could have the pleasure of firing its CEO.  And though it might have given him satisfaction at the time, Buffett called the move a “200-billion-dollar mistake.”

Why?  Because Buffett wasted precious time and capital on a textile mill in terminal decline rather than allocate his funds in something more profitable—in his case, insurance.  Berkshire Hathaway will still go down in history as one of the greatest investment success stories in history.  But by Buffett’s own admission, he would have had far greater returns over his career had he never touched it.

So, in a word, “yes.”  Sears probably is the next Berkshire Hathaway.  And investors who buy Sears at a reasonable price will most likely enjoy enviable long-term returns as Lampert’s plans are eventually realized.   But Mr. Lampert himself will almost certainly come to regret buying the company—if he doesn’t already.

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