In 1962, Warren Buffett began buying shares in a textile manufacturing company called Berkshire Hathaway (NYSE: BRK.A) (NYSE: BRK.B)In 1965, he took over the New England operation and began using it as a holding company to acquire other businesses and buy stock.
Under his leadership, Berkshire shares have returned 20% annually for nearly six decades, roughly doubling the gains in the S&P 500 Index (SNP INDEX: ^GSPC)Buffett, meanwhile, has amassed a personal fortune of $150 billion. These achievements make him one of the greatest investors in American history.
Today, Buffett manages about 90% of Berkshire’s stock portfolio, including the largest holdings, while fellow investment managers Todd Combs and Ted Weschler handle the rest. Buffett can also buy back Berkshire shares when he believes they are trading at a discount to their intrinsic value.
With this in mind, Buffett made two important capital allocation decisions in the first half of 2024:
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Sold 505 million shares of Apple (NASDAQ: AAPL)reducing Berkshire’s stake by more than 50%.
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He bought back $2.9 billion worth of Berkshire shares, meaning the stock was undervalued in his view.
It’s important to note that Buffett has bought back Berkshire stock every quarter for six consecutive years, spending a cumulative total of $78 billion on buybacks over that period. He also has 99% of his net worth invested in the company (I’m not talking about Berkshire’s portfolio, but Buffett’s personal wealth). That makes a compelling argument for Berkshire to be his favorite stock.
Here’s what investors need to know about Apple and Berkshire.
1. Apple
Apple has cultivated its brand authority by combining attractive hardware with proprietary software to create a user experience for which consumers are willing to pay a premium price. The average iPhone costs more than twice as much as the average Android smartphone, and Apple dominates the smartphone market in terms of revenue share. It is also the market leader for digital tablets and smartwatches outside of China and the fourth-largest personal computer maker by shipment volume.
However, Apple’s innovation engine appears to be losing steam. The company introduced the iPhone, iPad, and Apple Watch over a nine-year period ending in 2015, but Apple hasn’t released a new viral product since AirPods hit the market in 2017. Plus, iPhones account for about 45% of total revenue, but iPhone sales have yet to surpass the record $71.6 billion from the first quarter of 2021.
In short, Apple’s long-term growth prospects in the hardware sector are bleak, even though many analysts expect a massive upgrade cycle following the launch of Apple Intelligence, a set of generative artificial intelligence (AI) features for iPhones and MacBooks expected in October. That means future revenue growth depends heavily on services like advertising, Apple Pay, the App Store, and iCloud storage.
However, services account for less than 30% of total revenue, so that segment can only move the needle slowly. This is a problem because Apple stock is priced for solid growth. Shares currently trade at 33.6 times earnings. Meanwhile, Wall Street expects earnings to rise 8.6% annually over the next three years. Those numbers give a price-to-earnings-to-growth ratio (PEG ratio) of 3.9, a significant premium to the three-year average of 2.6. At that price, Apple looks overvalued.
Personally, I would avoid these stocks and (like Buffett) consider trimming my position if I saw gains.
2. Berkshire Hathaway
Berkshire Hathaway is the world’s largest insurance company in terms of float, a term that refers to the money an insurer has on its hands between the time customers pay premiums and make claims. Thanks to disciplined underwriting, Berkshire has paid less than nothing to accumulate float, and Warren Buffett has invested those funds very effectively.
Berkshire Hathaway had more than $250 billion in fixed-income securities (Treasury bills and bonds), $285 billion in equity securities (stocks), and $40 billion in cash on its balance sheet at the end of the June quarter. The sum of those invested assets has been rising steadily. In fact, Berkshire’s book value per share (a good measure of changes in intrinsic value) has risen 11.3% annually over the past decade, outpacing the S&P 500’s 10.8% annual gain.
Buffett has also used insurance stock issuance to buy dozens of subsidiaries that span the gamut of the American economy, from energy and utilities to manufacturing and retail. Berkshire even owns the Burlington North Santa Fe freight railroad, which occupies a critical link in the domestic supply chain. Importantly, since those subsidiaries were generally vetted by Buffett, we can assume they met his standards for having a lasting economic advantage.
That means Berkshire is a collection of above-average companies that operate across a broad range of industries. Those qualities make the company resilient during economic downturns. Since 1980, Berkshire stock has outperformed the S&P 500 by an average of 4.4 percentage points during recessions, according to Bespoke Investment Group.
Wall Street expects Berkshire to grow its operating earnings (which exclude investment gains and losses) at 18% annually through 2027. That estimate makes the current valuation of 23.5 times operating earnings look reasonable. Investors, especially those worried about an economic downturn in the near future, should consider buying a small position in this stock today.
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Trevor Jennewine has no position in any of the stocks mentioned. The Motley Fool has positions in Apple and Berkshire Hathaway and recommends them. The Motley Fool has a disclosure policy.
Warren Buffett Has Invested $2.9 Billion in His Favorite Stocks This Year (Hint: Not Apple) was originally published by The Motley Fool