Investment legend Warren Buffett and his conglomerate, Berkshire Hathaway (NYSE: BRK.A)(NYSE: BRK.B)haven’t given investors many reasons to take advantage of the strength of this market. Lately, Berkshire has largely been a net seller of stocks and has refrained from buying individual stocks or even buying back its own shares. In addition, the country has built up a wealth of cash and short-term government bonds that now exceeds $320 billion.
You might speculate that the holding company was stockpiling money in preparation for something big. But after the extra large sales of Apple (NASDAQ: AAPL) And Bank of America (NYSE: BAC) shares in the third quarter, a logical conclusion is that Buffett expects a market correction. That’s not exactly the kind of news investors were hoping for, but it does have a positive edge.
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By definition, a market correction occurs when a large broad index such as the S&P500 retreating 10% to 20% from its recent high. Most corrections are eventually followed by recoveries that send these indices back to new market highs, but for investors, such significant declines in their portfolios can be stressful.
Billionaire investor David Einhorn, who runs the hedge fund Greenlight Capital, has pointed out that while Buffett prides himself on being a long-term investor, he has also historically been good at timing market corrections.
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Buffett closed his first fund – the Buffett Partnership – in 1969 after becoming concerned about accounting malfeasance at a growing number of companies in the market.
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Buffett then bought shares after the market bottomed out in the early 1970s following an oil crisis in 1973-1974. In 1974, Buffett bought 11% of the outstanding shares in the Washington Post.
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In 1986, Buffett abstained from the “euphoria” on Wall Street and fled into bonds just before a broad market downturn and the Black Monday of 1987.
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Buffett and Berkshire didn’t run into trouble during the Great Recession. Instead, they took advantage and injected billions of dollars of capital into Bank of America Goldman Sachs in deals that ultimately generated phenomenal returns.
Part of Buffett’s success lies in his ability to avoid becoming overexposed during stock market downturns. Now Buffett and Berkshire Hathaway appear to be signaling once again that the market is overheated. This doesn’t mean the market will crash tomorrow, but Buffett likely believes a shift in sentiment is coming.
Perhaps the silver lining in all this is that Berkshire Hathaway retained its major stake in the payments and credit card giant American Express (NYSE:AXP)with no material sales made in the third quarter based on the fair value disclosure in the company’s recent earnings report. American Express surpassed Bank of America earlier this year as the conglomerate’s second-largest stock investment and now makes up 14.5% of Berkshire’s roughly $284 billion stock portfolio.
The interesting thing about American Express is that its business is heavily dependent on consumer health, making it a cyclical stock. Cyclical stocks tend not to perform well during recessions.
Berkshire Hathaway has been buying and selling shares of American Express for decades, but hasn’t sold any significant shares since 2012. Although American Express generally targets higher-income individuals who are typically better positioned to weather a recession, Buffett might have considered trimming that stock position if he foresaw a major economic downturn on the horizon.
While he could still sell some shares of American Express, the fact that he hasn’t done so yet could indicate that Buffett is less concerned about the U.S. economy and more concerned about the U.S. stock market. After all, most data at the moment indicates that the market is overvalued, but that the economy as a whole is on solid footing. A strong economy could prevent the Federal Reserve from cutting interest rates to the same extent as investors expect. That, in turn, could lead to a market decline as investors adjust their expectations for a world where interest rates stay higher for longer.
Don’t get me wrong: Buffett’s selling of Apple and Bank of America shares is concerning and could indicate he sees a market correction on the horizon. But market corrections can be healthy when the market becomes too frothy, and a correction that occurs against the backdrop of a solid economy may not last long. Long-term investors can normally weather market corrections as long as they can avoid panic. And corrections often provide buying opportunities for those looking ahead to the recovery that historically followed them.
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Bank of America is an advertising partner of Motley Fool Money. American Express is an advertising partner of Motley Fool Money. Bram Berkowitz has positions at Bank of America. The Motley Fool holds positions in and recommends Apple, Bank of America and Berkshire Hathaway. The Motley Fool has a disclosure policy.
Billionaire Warren Buffett Hints at a Market Correction – But There’s a Silver Lining originally published by The Motley Fool
