Berkshire Hathaway (BRK-A) reported its biggest quarterly earnings haul ever after the bell on Friday. Warren Buffett's masterpiece of capitalism reported profits up 41% to $6.4 billion. If Berkshire's annual letters are 50 Shades of Financial Grey for the masses the 10Qs are like a peek in the Marquis de Sade's private diary. I spent a few hours this weekend pouring over the notes. Here are my three biggest takeaways:
1. Buffett's stock holdings are surprisingly focused: Berkshire's top four holdings account for 58% of his equity investments. If you include his $10.5b worth of Bank America (BAC) options that brings his top five holdings to over 60% of his book.
Buffett's portfolio looks even more concentrated the more you dig. The total equity basket has a market value of $119 billion. The largest positions as of June 30th were Wells Fargo (WFC) at $25.4b Coca-Cola (KO) at $16.9b, American Express (AXP) at $14.4b and IBM (IBM) with $12.7b. The company also has the option of buying 700 million shares worth of Bank of America for $5b until 2021. On a current market value basis that makes the equity portion of the stake worth $10.5 billion (which actually dramatically understates the real value of the position).
Add it up and Berkshire's five biggest equity-like positions are three financial companies, an ancient position in Coca-Cola and IBM. Berkshire accumulated IBM over two years from Q1 2011 to Q1 2013 for an average of $171 per share. It's Buffett¹s only tech stock and one of his biggest losers on a relative basis, rising only 10% while the S&P has roared higher by at least three times as much.
2. Buffett talks a big game on taxes but Berkshire plays by the same rules as everyone else. Most of the earnings increase was in the form of investment gains, largely from cashing out when Amazon (AMZN) CEO Jeff Bezos bought the Washington Post. By swapping out shares instead of cash Buffett was able to book a 100-fold gain in Graham stock purchased in the 70s without paying any taxes.
3. Speaking of Bezos, Berkshire has a surprisingly large amount in common with some tech titans when it comes to structure. Berkshire's massive cash flow from insurance operations funds everything else the company does. Insurance is to Buffett what search is to Google (GOOGL) and Windows is Microsoft (MSFT). It's a non-stop inflow that allows Buffett to focus on allocating capital on more far afield concerns. The difference is Buffett uses the money to buy things like Hienz as opposed to Beats headphones or What's App.
Bonus: Buffett's real secret, beyond the IQ and emotional hard drive, is optimism. Berkshire is just a big levered up play on the economy. Trains, ice cream, Coke and banking. Buffett's famous for saying 'be greedy when others are fearful,' but what his real gift is believing in America and levering up on it. He generates cash betting against super catastrophic events in insurance and uses the money to bet against the collapse of the economy. That's been his formula for more than 60 years. If you take nothing else away from Buffett's notes it's that the richest man in the world got that way by betting against Doomsday. There's a lesson in that for all of us.