The “Oracle of Omaha” was not given that name because of his lack of foresight. Warren Buffett’s ability to read the tea leaves, so to speak, has made him a very wealthy man over his 60-year career. So when the billionaire investor makes substantial changes to his company’s key assets, people pay attention. So why is Buffett scaling back any of the cuts? Berkshire Hathaway‘S (NYSE: BRK.A) (NYSE: BRK.B) central investments?
The company’s latest loss Bank of America shares bring the total number of shares sold to almost $10 billion in just a few months – almost a quarter of the original stake. In turn, Berkshire bought a Buffett favorite for $345 million. Why?
The latest sale is especially interesting
The Securities and Exchange Commission (SEC) requires major shareholders – investors who own more than 10% of a company’s stock – to report any transaction within two business days. After the latest sale of almost 10 million shares, Berkshire now only owns just under 10% of the bank and no longer has to report transactions on time. Now all transactions are reported quarterly in the company’s 13-F filing.
That means any future sales won’t take place out of the public eye until months later. While this could make it easier for Berkshire to further reduce its stake without spooking the market, it doesn’t necessarily mean that will happen here. Still, it is an important factor to keep in mind.
Buffett and Berkshire have done well with Bank of America
Buffett helped Bank of America recover from the 2008 financial crisis, providing the struggling bank with $5 billion in exchange for preferred stock and warrants to buy an additional 700 million shares before 2021 at just over $7 per share. He exercised the warrant in 2017 when Bank of America shares were trading above $24. Although he didn’t sell the shares, he made a paper profit of $12 billion in just six years. Over the course of their relationship, Berkshire has turned a total investment of $20 billion into over $40 billion – not bad.
Given the incredible return on his money and the fact that capital gains and corporate taxes are in a favorable position – a situation that could change under a new administration – a plausible explanation for Buffett’s selling behavior is that he is simply happy with the performance of his investment . Maybe he wants to lock in those profits before his company potentially has to pay more taxes to Uncle Sam.
Given Buffett’s comments, there could be more to the story
I think there is truth in this, but it is not the whole picture. From comments he’s made over the past year, it’s clear that Buffett is at least somewhat uneasy about the state of affairs. In his 2023 shareholder letter, he spoke of Wall Street enjoying “feverish activity” and described the current market as more “casino-like” than in the past, warning that while panics are not common, “they shall happen.” This was before the massive stock market run thus far in 2024. Since buffett made these comments, the S&P500 is up about 23%, and by many measures the stock market is at one of its highest valuations ever.
However, I think Buffett’s concerns here are more specific: it’s not just about the market as a whole. There are some reasons to be concerned about the banking industry, and specifically Bank of America. In the years before 2022, banks bought a large number of debt securities that now represent a loss of income.
They bought them when interest rates were low, which meant they had relatively low returns. This would have been fine if everything had continued as normal, but as we know, rates did not stay low. Between 2022 and 2023, the Federal Reserve rapidly raised interest rates. While this helped curb inflation, it meant that banks were making losses on these securities. Why? The returns on these securities are fixed. They do not rise when interest rates rise, but the interest that banks have to pay to savers does. That means banks are stuck with a large number of securities that pay less to the bank than what the bank has to pay to depositors, reducing net interest income – a key metric in the banking industry.
Furthermore, the fair value of these securities – that is, what the bank could get for them in a sale – is now less than what they paid, representing an unrecognized paper loss. Of all the major commercial banks, which do you think has acquired the largest number of these? Yes, Bank of America.
This only becomes a real problem if the situation goes wrong and the bank is forced to sell these securities and realize the loss. If that were to happen, it could affect its ability to remain solvent. This would be a pretty extreme situation and is not likely to happen, but it is not impossible. Given Warren Buffett’s philosophy and temperament, it would make sense that this would concern him. After all, in the same 2023 shareholder letter, Buffett made it clear that given a black swan event, Berkshire would not be among those who would “light the conflagration.” Rather, it would be an “asset for the country,” as it was in 2008, and “help put out the financial fire.”
Buffett continues to buy one share consistently
Warren Buffett’s favorite stock is his own. Berkshire has repurchased $3 billion worth of its own stock this year alone after its most recent purchase. It is the main way the company rewards shareholders, as Berkshire does not pay a dividend. It’s also in line with Buffett’s attempt to keep Berkshire healthy and in a prime position to weather a potential financial storm.
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Bank of America is an advertising partner of The Ascent, a Motley Fool company. Johnny Rice has no position in any of the stocks mentioned. The Motley Fool holds positions in and recommends Bank of America and Berkshire Hathaway. The Motley Fool has a disclosure policy.
Warren Buffett dumps nearly $10 billion on one key stock and buys $345 million worth of his favorite stocks. Here’s what you need to know. was originally published by The Motley Fool
