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Bank of America May Be Buffett's Favorite Stock in an Overvalued Market

Yesterday, Warren Buffett (Trades, Portfolio)'s Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B) applied for permission from the Federal Reserve to boost its holdings in Bank of America (NYSE:BAC).

Berkshire had to make this application because the conglomerate already owns nearly 10% of the company. Any entity that owns more than 10% of a significant financial institution is subject to a regulatory review.

According to Berkshire's second-quarter 13F filing, which details its stock holdings, as of June 30, the group owned 927 million shares of Bank of America, giving it a 12.9% portfolio weight.

Buffett first bought the bank for his portfolio in 2011. Berkshire bought preferred shares in Bank of America and warrants to buy common stock, providing capital to the group at a time when investor confidence was weak.

Buying more shares

This isn't the first time Buffett has had to ask permission from regulators to increase his position in a financial services business. He has previously received permission from the Federal Reserve to own as much as 25% of American Express (NYSE:AXP) stock, though he has since limited his holdings to around 18%.

Berkshire also expressed interest in taking its holdings in Wells Fargo (NYSE:WFC) up above the 10% limit, but put the plans were put on ice following the bank's accounting scandal. Buffett has been managing the position ever since to make sure it does not creep over the 10% limit due to stock buybacks.

No surprise

Buffett's decision to go over the 10% limit shouldn't come as a surprise for Berkshire's investors. At the 2019 annual meeting, he expressed interest at breaching the limit on his favorite holdings if the Fed eased restrictions. Specifically, Buffett said:

"You'll probably see us at more than 10% in more things. And if the Fed should change its rules, there will be companies where we drive up over 10% simply because they're repurchasing their shares. That's been the case with Wells, and it's been the case with an airline or two in the last year or so. So, if we like 9.5% of a company, we'd like 15% better, and you may see us behave a little differently on that in the future."

Unsurprisingly, following the news that Buffett wants to increase his position in the business, shares in Bank of America bounced yesterday.

It is likely that the Oracle of Omaha was expecting this to happen. Indeed, at the 2019 annual meeting, he also said, "I think you have to report within two or three business days every purchase you make once you're in that over 10% factor. So, you're advertising to the world, but the world tends to follow us some, so it really -- it has a huge execution cost attached to it."

Based on this statement, you could make the assumption that Buffett would only want to announce to the world that he is increasing his position in the bank if he thinks it is deeply undervalued and the stock has room to run up 5% or 10% before he would have to reconsider additional purchases.

When you take into account the fact that Buffett has been quite inactive over the past 12 to 24 months, this action is big news. It seems that of all the opportunities he has available to him, Bank of America is the most attractive.

Of course, we don't know for sure what the Oracle of Omaha is thinking, but based on his recent actions and past statements, I do not think that it is unreasonable to conclude that he believes Bank of America is highly attractive at the current share price.

If you are looking for Buffett style stocks to include in your investment portfolio, this banking group certainly deserves a closer look.

Disclosure: The author owns shares in Berkshire Hathaway and Wells Fargo.

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This article first appeared on GuruFocus.