2018 Valuation

[AdjustedEarnings]

I'm as much of a fanboy as anyone else on this board so it took me longer than it should have to realize/accept that BRK is simply too big for anyone to run, including Buffett. I don't care about short term stock performance but on a longer term basis, it has under performed for the last 10 years and also the last 17 years (if that's not long term then I don't know what is). I picked these dates to coincide roughly with the last two stock market bottoms. No one can handle this much cash (which is why I picked the bottoms because that's when you're ideally positioned to put it to work). The problem gets worse on a daily basis and, despite their advice to others, they've been quite stubborn on returning any kind of cash at all... which means the problem only gets worse.

 

 

 

It has already been mentioned above, but it is not correct to compare bottom to top since down years are also part of the market. Such a top to top comparison would yield different results. I would choose 2007 to 2017 as a much more accurate comparison. This would lead to a BRK CAGR of 9.46 vs 8.1% for Vanguard500. In fact, this BRK return is more or less in line with what most of us (and WEB) expect of Berkshire: a little under 10% IV CAGR for BRK unless interest rates go up

 

Edit: I used IV and it might not be correct because of discount rates. However, this a "a little under 10% return" stems from the fact that WEB himself seems to be using a 10% hurdle for his investments. In the old days he would ask for a first day 15%, he now seems to ask for 10%. Cash and bond drag together with some comission mistakes explain the underperformance to his hurdle rate. This is why 9-10% tends to be the discount rate applied to berkshire (IMO this discount rate is inappropriate and the motive for the permanent discount in the stock price: if you get almost bond like safety you must have an almost bond like discount rate. The same happens with the sp500 in the long run.

 

On the first point, there are many stats you could consider that would support either way of looking at it. E.g. For 10 years after the 1973-74 bottom, BRK's performance over the index was higher than it had been before because they'd been able to put money to work before and around this period... so when people say WEB's going to bag elephants in the next recession, I'm looking at 2008-2018 period for evidence of that as that presented a pretty big opportunity. But we can simply leave both approaches (yours and mine) aside and consider these 9 year increments and BRK's out-performance over the SP500 since inception:

 

1965-1973 17.6%

1974-1982 19.8%

1983-1991 14.3%

1992-2000 9.6%

2001-2009 3.8%

2010-2018 1.6%

 

Here you've got tops, bottoms, and middles, everything and you can see where things are headed. Size is of course the big problem, but also cash-drag (which is related to size but has a solution in repurchases and/or dividends), and some mistakes of commission. Of course, we don't make money from the past performance of the stock, so when we look to the future period, what factors need to get better? And how much out-performance can we expect realistically in the NEXT 9 year period? I'm more and more becoming convinced that while outperformance may exist, it probably will continue this trend we're seeing here. Now, whether 1% outperformance is worth the risk of not achieving that outperformance is up to debate. 1% can do a lot over decades, but remember 1% will go to 0.5% etc. unless they shrink the capital base (which was the subject of my prior post where I gave reasons for my thinking why it won't happen on any decent timeline).

 

They have not been short of capital in the 2010-2018 period. So, repurchases would've made these results better. That was probably also true in the period before that, 2001-2009. Only ways to shrink the capital base are sizeable repurchases, dividends (when appropriate), and occasional acquisitions when they can be found. I do feel that the time has come to make acquisitions the "special case" rather than the default case and move repurchases up to default case when the stock is not overvalued:

 

As to bond-like safety, I'm not sure why you'd assume that. What exactly is providing bond-like safety here? It's not a bond. It might be safe in our minds but that doesn't make it a bond. (Every borrower thinks they're going to pay their mortgages/debt, but that doesn't make them all AAA/FICO 800+ either. Same logic) Also, bonds pay coupons, Berkshire doesn't; and that is what is being discounted in the bond price. So you're relying on reinvestment and the results of that re-investment skill is what you're seeing in the table above. If BRK had traded at bond yield type discount rates in 2010, you can imagine what the outperformance profile would look like. BTW, "stocks discount rates should equal bond yields" was also the reasoning given for buying SP500 in 1999 in the book Dow 36,000. It seems logical on the surface, but it's not right just from a plain mathematical standpoint.

[rolling]

It has already been mentioned above, but it is not correct to compare bottom to top since down years are also part of the market. Such a top to top comparison would yield different results. I would choose 2007 to 2017 as a much more accurate comparison. This would lead to a BRK CAGR of 9.46 vs 8.1% for Vanguard500. In fact, this BRK return is more or less in line with what most of us (and WEB) expect of Berkshire: a little under 10% IV CAGR for BRK unless interest rates go up

 

Edit: I used IV and it might not be correct because of discount rates. However, this a "a little under 10% return" stems from the fact that WEB himself seems to be using a 10% hurdle for his investments. In the old days he would ask for a first day 15%, he now seems to ask for 10%. Cash and bond drag together with some comission mistakes explain the underperformance to his hurdle rate. This is why 9-10% tends to be the discount rate applied to berkshire (IMO this discount rate is inappropriate and the motive for the permanent discount in the stock price: if you get almost bond like safety you must have an almost bond like discount rate. The same happens with the sp500 in the long run.

 

On the first point, there are many stats you could consider that would support either way of looking at it. E.g. For 10 years after the 1973-74 bottom, BRK's performance over the index was higher than it had been before because they'd been able to put money to work before and around this period... so when people say WEB's going to bag elephants in the next recession, I'm looking at 2008-2018 period for evidence of that as that presented a pretty big opportunity. But we can simply leave both approaches (yours and mine) aside and consider these 9 year increments and BRK's out-performance over the SP500 since inception:

 

1965-1973 17.6%

1974-1982 19.8%

1983-1991 14.3%

1992-2000 9.6%

2001-2009 3.8%

2010-2018 1.6%

 

Here you've got tops, bottoms, and middles, everything and you can see where things are headed. Size is of course the big problem, but also cash-drag (which is related to size but has a solution in repurchases and/or dividends), and some mistakes of commission. Of course, we don't make money from the past performance of the stock, so when we look to the future period, what factors need to get better? And how much out-performance can we expect realistically in the NEXT 9 year period? I'm more and more becoming convinced that while outperformance may exist, it probably will continue this trend we're seeing here. Now, whether 1% outperformance is worth the risk of not achieving that outperformance is up to debate. 1% can do a lot over decades, but remember 1% will go to 0.5% etc. unless they shrink the capital base (which was the subject of my prior post where I gave reasons for my thinking why it won't happen on any decent timeline).

 

They have not been short of capital in the 2010-2018 period. So, repurchases would've made these results better. That was probably also true in the period before that, 2001-2009. Only ways to shrink the capital base are sizeable repurchases, dividends (when appropriate), and occasional acquisitions when they can be found. I do feel that the time has come to make acquisitions the "special case" rather than the default case and move repurchases up to default case when the stock is not overvalued:

 

As to bond-like safety, I'm not sure why you'd assume that. What exactly is providing bond-like safety here? It's not a bond. It might be safe in our minds but that doesn't make it a bond. (Every borrower thinks they're going to pay their mortgages/debt, but that doesn't make them all AAA/FICO 800+ either. Same logic) Also, bonds pay coupons, Berkshire doesn't; and that is what is being discounted in the bond price. So you're relying on reinvestment and the results of that re-investment skill is what you're seeing in the table above. If BRK had traded at bond yield type discount rates in 2010, you can imagine what the outperformance profile would look like. BTW, "stocks discount rates should equal bond yields" was also the reasoning given for buying SP500 in 1999 in the book Dow 36,000. It seems logical on the surface, but it's not right just from a plain mathematical standpoint.

Thank you for the answer.

 

1) BRK outperformance vs SP500: it is quite obvious that the outperformance by definition cannot last forever.  My point was that expected return is capped (on the downside and on the upside) at about 10%/year, and this is because Buffett himself seems to have chosen that hurdle. In fact, it seems that if he cannot get his 10% he would rather not invest and keep cash on hand.

2) outperformance perspectives: it really depends on the return you expect from the sp500. If you expect 9-10% a year, berkshire makes no sense at current prices. if you expect 5-6% bekshire is a much better option. I would point, however, that Buffet himself stated in this year's letter that there are much better opportunities out there instead of berkshire

3) acquisitions vs repurchases: agreed, it sometimes feels like empire building. I would add that in hindsight I cannot understand why berkshire kept such a cashdrag in the last 10 years. It would have been better for them to just buy the SP500 and use the float leverage to make it worth it

4) BRk safety: stems from over 100B cash on hand and discipline to only invest it when expecting an over 10% yield and a diversified high quality asset base.

 

5) bond-like safety: here I disagree. I don't see safety on the coupon, I see safety as: probability of not losing money. Lets look at bonds:

Portugal 30 year: 2.46%; greece 25 year: 4.7%; italy 30 year: 3.6%

yes, you are supposed to receive money every year, but what is safer? a diversified bond portfolio like this or just investing in berkshire? (I used country debts because it was an easier comparison, but the same could be done with other risky bonds).

 

On the other hand, on berkshire you get 9-10% counpounded (and only pay taxes on the sale, so the post tax result is even better). On the SP500 I don't have an estimate.

 

Is this a correct discount rate? if you believe the risk is lower on BRK/SP500 you should use a lower discount rate.

 

If you use 30 year AAA bonds it seems to stand at 3.8%. Here the risk is certainly higher for BRK/SP500. But does it explain an over 5%/year difference?

 

so

"stocks discount rates should equal bond yields": no

"stock discount rates should equal similar safety bond yields": yes

 

 

[AdjustedEarnings]

5) bond-like safety: here I disagree. I don't see safety on the coupon, I see safety as: probability of not losing money. Lets look at bonds:

Portugal 30 year: 2.46%; greece 25 year: 4.7%; italy 30 year: 3.6%

yes, you are supposed to receive money every year, but what is safer? a diversified bond portfolio like this or just investing in berkshire? (I used country debts because it was an easier comparison, but the same could be done with other risky bonds).

 

On the other hand, on berkshire you get 9-10% counpounded (and only pay taxes on the sale, so the post tax result is even better). On the SP500 I don't have an estimate.

 

Is this a correct discount rate? if you believe the risk is lower on BRK/SP500 you should use a lower discount rate.

 

If you use 30 year AAA bonds it seems to stand at 3.8%. Here the risk is certainly higher for BRK/SP500. But does it explain an over 5%/year difference?

 

so

"stocks discount rates should equal bond yields": no

"stock discount rates should equal similar safety bond yields": yes

 

I'm not saying there's safety in the coupon either. Safety is in the strength of the issuer. I'm thinking generally of US Govt bonds, but I'll use AAA if you prefer that. So, if we use that math on your numbers, 30 year AAA bond at 3.8% yield, 10% compounded growth in BRK, contending that the proper discount rate for BRK is 3.8%, then are you saying that the fair value today ought to be $1151? i.e. 202*(1.1^30)/(1.038^30)? Or do you have a slower growth rate for BRK after a few years from now?

 

If the AAA is long-term assumed to be at 3.8%, we're assuming rates stay very low. In that environment BRK will find it difficult to get 10% even if Buffet WANTS IT. Just because he wants it doesn't mean he can get it (e.g. last few years) or that it can become our assumption (in my opinion anyway).

[rolling]

5) bond-like safety: here I disagree. I don't see safety on the coupon, I see safety as: probability of not losing money. Lets look at bonds:

Portugal 30 year: 2.46%; greece 25 year: 4.7%; italy 30 year: 3.6%

yes, you are supposed to receive money every year, but what is safer? a diversified bond portfolio like this or just investing in berkshire? (I used country debts because it was an easier comparison, but the same could be done with other risky bonds).

 

On the other hand, on berkshire you get 9-10% counpounded (and only pay taxes on the sale, so the post tax result is even better). On the SP500 I don't have an estimate.

 

Is this a correct discount rate? if you believe the risk is lower on BRK/SP500 you should use a lower discount rate.

 

If you use 30 year AAA bonds it seems to stand at 3.8%. Here the risk is certainly higher for BRK/SP500. But does it explain an over 5%/year difference?

 

so

"stocks discount rates should equal bond yields": no

"stock discount rates should equal similar safety bond yields": yes

 

I'm not saying there's safety in the coupon either. Safety is in the strength of the issuer. I'm thinking generally of US Govt bonds, but I'll use AAA if you prefer that. So, if we use that math on your numbers, 30 year AAA bond at 3.8% yield, 10% compounded growth in BRK, contending that the proper discount rate for BRK is 3.8%, then are you saying that the fair value today ought to be $1151? i.e. 202*(1.1^30)/(1.038^30)? Or do you have a slower growth rate for BRK after a few years from now?

 

If the AAA is long-term assumed to be at 3.8%, we're assuming rates stay very low. In that environment BRK will find it difficult to get 10% even if Buffet WANTS IT. Just because he wants it doesn't mean he can get it (e.g. last few years) or that it can become our assumption (in my opinion anyway).

Ok, I now understand the difference in our conclusions. I was not comparing berkshire to risk free bonds. Berkshire bonds could be considered low risk but, by definition, brk stock could not have the same risk. My assumption was berkshire stock/sp500 both being safer than many bonds and as safe as some others, and so we should use a similar discount rate to the latest. IMO it would probably be reasonably conservative, in the current environment, to discount the sp500 at 6% and brk at 7%. But from 7 to 9% you get a big difference (if I'm not mistaken, in 15 years that would amount to a 37% difference in present value)

 

Ps: those numbers for the AAA I used seem to be wrong, the numbers for the country debts are correct, which does not change much.

[aws]

If anyone is interested, I whipped up a quick spreadsheet comparing the CAGR of Berkshire vs. the S&P 500 Total Return index.  I calculated the CAGR since 1988 for both, and also recalculated the CAGR if you started counting in each subsequent year, so since 1989, since 1990, etc.  All are current up thru today's close.

 

The summary is that Berkshire is a bit behind in almost every measurement period since 2008, and behind in 9 out of the 31 total periods.  But a lot of that is because of the ~12% underperformance YTD.  If I rerun the numbers cutting off at 12/31/18 then Berkshire is only behind for three measurement periods.

berk_sp_total_returns.xlsx

[wachtwoord]

Thanks for sharing AWS.

[khturbo]

https://concentratedcompounding.com/brk2/

 

Here's a follow up looking through all the risks, or in this case, the lack thereof. Hard to find anything that is even close to similarly not risky as Berkshire.

[james22]

Nice, thanks.

[IceCreamMan]

Buffett sat down in his office for a rare newspaper interview with the FT, lasting nearly three hours.

At the outset, he was asked which would be the better investment to put in a child’s account — a

share in Berkshire, or a share in the S&P? He did not hesitate: “I think the financial result would be

very close to the same.”

 

Should this be taken literally, or is this under-promise, over-deliver?

 

This quote was taken from a recent interview that gfp posted in a different thread:

https://www.ft.com/content/40b9b356-661e-11e9-a79d-04f350474d62

[StubbleJumper]

Buffett sat down in his office for a rare newspaper interview with the FT, lasting nearly three hours.

At the outset, he was asked which would be the better investment to put in a child’s account — a

share in Berkshire, or a share in the S&P? He did not hesitate: “I think the financial result would be

very close to the same.”

 

Should this be taken literally, or is this under-promise, over-deliver?

 

This quote was taken from a recent interview that gfp posted in a different thread:

https://www.ft.com/content/40b9b356-661e-11e9-a79d-04f350474d62

 

 

Interesting that he should say that.  A quick and dirty logic check would be to look at the difference between compounding money at say 8% vs 9% over a 20 year period (ie, the time for a child to become an adult).  It's not very close to the same at all, unless there truly is no material difference in returns (which might be the intent of his message).  I think that I would be biased towards putting the money into BRK, but that's driven by an underlying assumption of a small advantage for BRK returns.

 

 

SJ

[SHDL]

He did also say something like among those things that one could expect to slightly outperform the S&P, BRK should be among the safest.  So I think on a risk adjusted basis he personally much prefers BRK. 

[james22]

Buffett sat down in his office for a rare newspaper interview with the FT, lasting nearly three hours. At the outset, he was asked which would be the better investment to put in a child’s account — a share in Berkshire, or a share in the S&P? He did not hesitate: “I think the financial result would be very close to the same.”

 

Should this be taken literally, or is this under-promise, over-deliver?

 

This quote was taken from a recent interview that gfp posted in a different thread:

 

https://www.ft.com/content/40b9b356-661e-11e9-a79d-04f350474d62

 

It is Buffett playing avuncular, at his investor's expense.

 

And it should be taken as inconsistent with his belief that's he taking advantage of a partner if he buys them out.

 

I really look forward to his successor arguing BRK expects to outperform the S&P 500, without fear of being immodest.

[Lemsip]

 

Should this be taken literally, or is this under-promise, over-deliver?

 

 

Buffett has been saying this almost verbatim at least since the mid 80s. I wouldn't take it literally but as a prudent reminder to keep expectations modest.

 

I much prefer it to management teams offering confident forecasts of shareholder return of 15% over 5 years etc.

 

Berkshire will deliver a 10% or so return in almost all market environments over a 10 year period ( more if you enter during a weak period). Good enough for me as a bedrock holding in a portfolio.

 

Amidst all the criticism of Berkshire performance etc, I just did an IRR calculation on my position for the last 4 years. With significant buys in Aug-Dec 2015 and July 18-Feb 19, the IRR is 17.4% in GBP and 11.7% in USD.  And this with an endpoint where Berkshire has been flatlining since the new year, is sitting on gobs of cash and the business is chugging along well.

 

I'd take it anytime.

 

[james22]

I much prefer it to management teams offering confident forecasts of shareholder return of 15% over 5 years etc.

 

I guess I do too, as long as I'm buying shares. And/or Buffett is buying shares back.

 

But at some point I'll be looking for share appreciation.

 

And it's a little dishonest of Buffett unless he believes it. He is otherwise misleading shareholders as to Berkshire's prospects when he offers to buy their shares back.

 

 

[Lemsip]

I much prefer it to management teams offering confident forecasts of shareholder return of 15% over 5 years etc.

 

I guess I do too, as long as I'm buying shares. And/or Buffett is buying shares back.

 

But at some point I'll be looking for share appreciation.

 

And it's a little dishonest of Buffett unless he believes it. He is otherwise misleading shareholders as to Berkshire's prospects when he offers to buy their shares back.

 

Considering the fact that no one including Buffett can predict the future market conditions with 100% accuracy, it is sensible to be realistic about the prospects of a very large company.  Assuming average endpoint conditions, the realistic expectation is the return on shareholder equity that berkshire earns which is around 10%.  As for misleading shareholders, it couldn't be further from the truth. He has already bought back shares at these levels so obviously thinks this is well below intrinsic value. It is just that some people would want him to buy a lot more - but they are not privy to the other options he is considering in capital allocation in any given quarter.

 

There is no upside for a CEO talking up future returns. I posted by 4 year returns above and I am more than happy to have those numbers in a portion of my portfolio. Having Berkshire as a significant weight especially helped in 2018 when it beat the market by almost 7 points and helped me to a mid single digit positive return on my portfolio when most investors lost money in the markets ( including in bonds).

[Dynamic]

@Lemsip - I notice those dates as periods when  Berkshire was particularly cheap within its moderately narrow range and when I also took advantage. The decline in GBP also boosted those returns.

 

My overall IRR with Berkshire stock alone is a little lower but still market beating when compared with total return index purchases and sales I could instead have made on the same dates for SP500TR and FTSE100-TRI, this over a period since July 2003 when I purchased around 1.6* Book Value and left the position untouched for 11.25 years. Even if I'd only held the original not-especially-cheap July 2003 position until now, about 15.75 years on, despite a P/BV decline, my CAGR on that tranche alone would still exceed the SP500TR by 0.37% and the FTSE100-TRI by 3.33% giving me $4.26 per dollar invested vs $4.04 S&P or £5.26 versus £3.25 in FTSE. That has made a solid foundation for portfolio growth as my default purchase in which I feel safer in terms of value preservation than the index yet earn about the same return or a few percent more by improving my buy and sell prices since that original purchase.

[Lemsip]

@Dynamic, I have also held Berkshire from 2002 but my recordkeeping till 2015 was haphazard at best so hard to calculate the overall IRR but suffice it to say the investment has worked well and allowed me to sleep at night.

 

You make a crucial and often underappreciated point about the relatively small range of price that Berkshire usually experiences. In the list of stocks I follow it has the lowest range between highs and lows in the last 1 year ( a particularly volatile one in the markets) apart from Unilever ( 18% and 15%)

 

What this means in practical terms is that if you are a buyer or a seller, the difference between picking the absolute best time to buy or sell in any year is much less than the average stock so over the long term, you are unlikely to be penalised much for unfortunate timing, when evaluated over a 5 year period.

 

Finally one of the characteristics of Berkshire is that it has to be held as a 5 year+ position to evaluate performance.  It's the wrong business for quarterly excitement. It can go through long-ish periods of price stagnation and in retrospect they tend to be good opportunities to lock-in safe and significant returns.

 

[Paarslaars]

Buffett sat down in his office for a rare newspaper interview with the FT, lasting nearly three hours.

At the outset, he was asked which would be the better investment to put in a child’s account — a

share in Berkshire, or a share in the S&P? He did not hesitate: “I think the financial result would be

very close to the same.”

 

Should this be taken literally, or is this under-promise, over-deliver?

 

This quote was taken from a recent interview that gfp posted in a different thread:

https://www.ft.com/content/40b9b356-661e-11e9-a79d-04f350474d62

 

Even if the return would be the same, I believe BRK would do it with less variance than the S&P, so it would still be the preferred investment.

[Dynamic]

@Dynamic, I have also held Berkshire from 2002 but my recordkeeping till 2015 was haphazard at best so hard to calculate the overall IRR but suffice it to say the investment has worked well and allowed me to sleep at night.

Haha, I have a similar situation for some of the same sort of period. I've managed to piece together most of my client ledger, but I'm missing a few exact dates and prices from early trades in the the time before I switched my broker to allow non UK trading. Luckily my exact Berkshire purchases are ones I kept track of, and Yahoo Finance helped out with historical exchange rates to convert them to USD.

 

Mine was in an ISA so no need to keep records for tax purposes and BRK.B gave me the added advantage of no dividends to reinvest and pay withholding tax on, giving me a further advantage over an S&P500 index fund. There turned out to be other advantages over the equivalent index fund investments based on what I could fund with the proceeds in 2014-2015 when the index was lagging considerably, perhaps more by luck than judgement.

 

You make a crucial and often underappreciated point about the relatively small range of price that Berkshire usually experiences. In the list of stocks I follow it has the lowest range between highs and lows in the last 1 year ( a particularly volatile one in the markets) apart from Unilever ( 18% and 15%)

 

What this means in practical terms is that if you are a buyer or a seller, the difference between picking the absolute best time to buy or sell in any year is much less than the average stock so over the long term, you are unlikely to be penalised much for unfortunate timing, when evaluated over a 5 year period.

 

I agree with that and what @Paarslaars said, and would add that in addition to this, I'm happy knowing what I'm buying in Berkshire, the integrity and honesty of my business partners and the diversity of its earnings streams, with its relatively consistent IV compounding rate in all economic climates being close to that of the S&P500 long term and with the price being below a conservative estimation of IV by a relatively consistent margin over time.

 

With an index fund I'm less certain of that, but make up for some of the uncertainty with a little extra decorrelation among the constituents, but I feel Berkshire is the better bet for me almost all of the time (or if I feel it's a little pricey I may just wait in cash until it's in the lower part of its range). It's also why I'm entirely happy holding a 100% weighting in Berkshire for the long term.

 

So while BRK.B is a bedrock of meeting my long-term compounding goals, since I became more active as an investor I have also found BRK.B to be useful currency in funding rare high-conviction opportunities (e.g. 25%+ cagr) where I might want to put in, say 25% of my portfolio.

 

BRK.B is usually trading at a similar or lesser discount to IV than when I bought it, so I'm usually gaining around 10% a year (way better than holding cash) while I'm waiting, I'm usually paying a price towards the lower end of Berkshire's trading range, and I'm very unlikely to lose very much purchasing power in the short term even if I happen to come across that other big opportunity within months of purchasing more Berkshire.

 

I'd imagine I'd be very unlikely to lose more than 10-15% this way by the time it came to sell some BRK.B, and I'd be much more likely to gain while waiting, and that the margin of safety in the High Conviction Opportunity would far outweigh my low-likelihood 15% loss in any case.

 

So I've emotionally prepared myself to eat the loss and not paralyse myself through loss-aversion into missing out on the HCO. It's a matter of my own temperament that I've prepared my mind and twisted my thinking to overcome my loss-aversion instinct enough to relish the taking of a certain 15% loss in BRK.B over a few months as part and parcel of the process of locking in a high conviction opportunity for a much larger potential gain in the future.

 

I guess I give my self a little dopamine reward when I recognise I've overcome such a cognitive bias just as I do when cutting my losses (or sub-par gains) in selling positions where my original thesis has changed. I think the most loss I've actually taken on my most recent Berkshire purchase to buy into a high return opportunity is just short of a 5% loss in about a month, and far more often I've gained purchasing power (e.g. 15% in 3 months) while waiting.

 

I think having Berkshire as the bedrock of my portfolio doing all the compounding that I need and expect also helps me to remain focused on waiting for opportunities that truly meet my high conviction threshold instead of just buying things that look reasonably priced but don't really scream out as bargains.

 

Finally one of the characteristics of Berkshire is that it has to be held as a 5 year+ position to evaluate performance.  It's the wrong business for quarterly excitement. It can go through long-ish periods of price stagnation and in retrospect they tend to be good opportunities to lock-in safe and significant returns.

 

Yes, I'd agree that the index can go on a tear from time to time, while Berkshire stagnates, and I'd expect Berkshire's IV to compound close to or slightly lag the index when the index is rising, but to materially beat the index most times when the index is falling. There can often be a time lag between the index recovering from a down period and Berkshire's price recovering fully, so you can certainly find yourself regaining ground very much slower than the index in times like the last few months!

[Guest longinvestor]

 

Should this be taken literally, or is this under-promise, over-deliver?

 

 

Buffett has been saying this almost verbatim at least since the mid 80s. I wouldn't take it literally but as a prudent reminder to keep expectations modest.

 

I much prefer it to management teams offering confident forecasts of shareholder return of 15% over 5 years etc.

 

Berkshire will deliver a 10% or so return in almost all market environments over a 10 year period ( more if you enter during a weak period). Good enough for me as a bedrock holding in a portfolio.

 

Amidst all the criticism of Berkshire performance etc, I just did an IRR calculation on my position for the last 4 years. With significant buys in Aug-Dec 2015 and July 18-Feb 19, the IRR is 17.4% in GBP and 11.7% in USD.  And this with an endpoint where Berkshire has been flatlining since the new year, is sitting on gobs of cash and the business is chugging along well.

 

I'd take it anytime.

 

Very true indeed, the boilerplate comparison versus the index is for a mass (general) headline number. As uber concentrated investors in Berkshire, I've found it nearly impossible to not take advantage of price mislocations over the past 10 years. Like you, I've caught the bottom of every pull back over this time frame. Good news for me is that we have been in accumulation phase of our life during this time. My return has closely mirrored the index over this period but...

 

.. starting points for the comparison have mattered. Data from the annual letter page 2.

 

10 year: January 1, 2009 to January 1, 2019: BRK 13.15%; S&P 13.66%

9 Year: January 1, 2010 to January 1, 2019: BRK 14.3%; S&P 12.23%

 

5 Year: January 1, 2014 to January 1, 2019; BRK 12.52%; S&P 8.9%

3 Year: January 1, 2016 to January 1, 2019: BRK 16.03%; S&P 9.8%

 

Much of the ballyhoo about Berkshire's relative (under) performance can be explained by a wild swing back in the S&P in a single calendar year: 2010; That difference was 23.8% (2.7% BRK versus Index 26.5%). It is humorous to see how many headlines have been spawned about Berkshire's emergent underperformance.

 

Just wait until January 1, 2020 and the 10 year clock will be reset and the world will see clearly that Berkshire has been breaking away for a long time. 10 years to be exact! I can't wait.

 

 

 

[Lemsip]

@Dynamic, I have also held Berkshire from 2002 but my recordkeeping till 2015 was haphazard at best so hard to calculate the overall IRR but suffice it to say the investment has worked well and allowed me to sleep at night.

 

 

Mine was in an ISA so no need to keep records for tax purposes and BRK.B gave me the added advantage of no dividends to reinvest and pay withholding tax on, giving me a further advantage over an S&P500 index fund. There turned out to be other advantages over the equivalent index fund investments based on what I could fund with the proceeds in 2014-2015 when the index was lagging considerably, perhaps more by luck than judgement.

 

 

Same here. As of 6th of April the entirety of my large BRK position is in ISAs  with a little bit in a SIPP. No capital gains ever. 

Per the BRK proxy, after my latest buying spree at a recent cost basis of $198 ( between July 18 and Feb 19), I now own more shares than one of the BRK directors !

 

If I had to pay capital gains on the accumulated gains there it would be an uncomfortable amount - that is what compounding over more than 15 years and full use of ISA allowances will do for you ! I will need to sell a bit from time to time to fund living expenses from next year but fortunately do not have to consider tax consequences. So all academic studies of performance vs S&P etc notwithstanding, BRK has definitely worked very well in setting things up comfortably for me. Of course it has also hedged against the local currency shenanigans over the last 3 years as an added bonus.

[Viking]

Here are links to a couple of presentations. Thanks to the original posters for providing the links (i have forgotton who they were :-). I thought it would be good to add these to this thread.

 

1.) Semper Augustus Feb 2019: https://static.fmgsuite.com/media/documents/9f6a56c7-a1a3-4eb2-94b3-fe89cc110254.pdf

- page 72

 

Semper Augustus Feb 2018: https://static.fmgsuite.com/media/documents/8e6a3c88-859d-483b-bbf0-dda6f5e24fc1.pdf

- page 45

 

2.) Empire (Tilson): https://assets.empirefinancialresearch.com/uploads/2019/08/Berkshire-Hathaway-analysis-Whitney-Tilson-8-21-19.pdf

 

3.) Check Capital: https://www.checkcapital.com/Research_Reports/BRKB_Report_0819.pdf

[Guest longinvestor]

Buffett and Munger have often decried and ridiculed the EMH. The market is often but not always efficient. Now, it won’t take a keen observer to see that the Berkshire Hathaway stock itself is evidence that EMH doesn’t apply here. Is all known financial information priced in? There’s some irony here but someone will prosper from this inefficiency! It appears that one person’s words / actions have bigger sway over Mr. Market than anything else! So much for the EMH.

[Okonomen]

Can someone explain to me how BRK can pay only ~10% cash taxes annually? Should we use this as the tax rate in the valuation model instead of the more common 25%?

[thepupil]

The delta between the cash paid for taxes and income tax expense relates to the increase in the deferred tax liability.

 

the deferred tax liability has 2 major components:

 

1. Increase in DTL related to unrealized gains on investments: To the extent that Berkshire defers realization of gains indefinitely on large positions (I think this applies to some, but not all of the material equity positions), we can assume that this tax expense has very low present value.

 

2. Increase in DTL related to the companies, primarily  Burlington Northern and Berkshire Energy.

 

Page 96 of the most recent 10-K shows the breakdown between the two (obviously things will change in the subsequent quarters, but it gives you a feel). $18 billion of the $60 billion DTL ( about 30% again as of 12/2018) is related to unrealized gains on the equity portfolio. About 50% ($28/$60 billion) relates to property plant and equipment. This is associated with Berkshire Energy and Burlington Northern. This is helpful

https://ftalphaville.ft.com/2016/04/29/2160510/warren-buffett-a-dream-deferred/

 

Essentially, the key input for determining the "correct" cash tax rate for the railroad and utility is if they are able to keep increasing their ability to re-invest. Will they keep the asset base high such that they keep running on the treadmill of outspending depreciation expense.

 

Burlington Northern's D&A is about $2.3 billion / year. It's capex has been $2.6B (2010) - $5.6B (2015) and averaged above $3B or so, so a delta between the cash tax rate and income tax expense rate appears sustainable for now.

 

Berkshire Energy's depreciation is running at about $3 billion. It's capex is running at $6 billion (2010: $2.5 billion, 2014: $6.5 billion, LTM: $6 billion). Again there appears to be a sustainable difference between capex and depreciation.

 

I think that explains the high level, but I could be wrong on the exact particulars.

 

Honestly, I don't pay a whole lot of attention to it. I just use what the market values class 1 railroads and large high quality utilities as proxies for value for each of those and assume that Berkshire doesn't sell all of its unrealized investments at a gain very quickly. My rang of intrinsic value is squishy and my sizing is non-binary so being super precise on that hasn't been an emphasis for me.