17.06.2024 Issuer Call Redemption Notice

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Sandeep Rao

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Berkshire Hathaway Q1: Apple Selloff Explained

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On the 4th of May, asset management firm Berkshire Hathaway Inc announced in the course of its first quarter earnings release that its biggest bet – Apple Inc (ticker: AAPL) – was worth $135.4 billion, implying that the former held around 790 million shares of the latter. This meant that the «Oracle of Omaha» (as Berkshire Hathaway principal Warren Buffett is often referred to as) has authorized the disposal of around 116 million shares or 13% of its total stake in Apple.

Most «Buffettologists» would recognize that Berkshire Hathaway’s investment style isn’t known to be tactical; holding «strong for long» is the underlying message of their methodology. Apple is certainly one such example and for good reason: unlike fellow «Magnificent Seven» constituent Tesla Inc, Apple has only declined a little under 0.2% in the Year Till Date (YTD) despite signs of sales slowdown in major market China and signs of stagnation elsewhere. Furthermore, this is the second consecutive quarter wherein the company’s Apple bet was cut: in the last quarter, around 1% of its held stake was disposed of.

While Warren Buffett did praise the performance of Apple in the course of the earnings release and seemingly offered up higher tax payments as the reason, the real reason possibly is the economic reality as faced by the ordinary American.

Why Berkshire’s Investments Matter

On a cost basis, the value of the company’s investment in US, foreign and corporate debt as well as loans/receivables is nearly half that of its revenues.

Historically (or at least from 2020 till 2023), the value of the company’s investments in securities (outside of Kraft Heinz or Occidental) have run close to or slightly above par with that of its revenues. As of Q1, of this is 3.74 times its revenue. After the stake offload, approximately 75% of the aggregate fair value of the company’s equity investments was concentrated in five companies as of the end of March:

  1. Apple Inc.: $135.4 billion

  2. Bank of America Corporation: $34.8 billion

  3. American Express: $39.2 billion

  4. The Coca-Cola Company: $24.5 billion

  5. Chevron Corporation: $19.4 billion

As of the end of December 2023, these 5 had accounted for 79%.

On a YoY basis across full years, the cost basis valuation of the company’s fixed income/debt instruments have seen some mild swings (outside of 2022 when the company made a massive shift towards U.S. debt).

Websim is the retail division of Intermonte, the primary intermediary of the Italian stock exchange for institutional investors. Leverage Shares often features in its speculative analysis based on macros/fundamentals. However, the information is published in Italian. To provide better information for our non-Italian investors, we bring to you a quick translation of the analysis they present to Italian retail investors. To ensure rapid delivery, text in the charts will not be translated. The views expressed here are of Websim. Leverage Shares in no way endorses these views. If you are unsure about the suitability of an investment, please seek financial advice. View the original at

Source: Company Financials; Leverage Shares analysis

In the most recent quarter, the cost basis valuation of these investments is running well above par. The continued commitment to fixed-income instruments bodes well towards a prudent approach to guaranteed cash payments. When it comes to equities, this is an entirely different matter.

These investments are key to elevating the valuation of the company’s stock, and the company’s methodology towards the selection of assets has historically been predicated on the underlying companies’ ubiquity in consumption. However, over the past year and more, stock valuations have become increasingly distorted and volatile. The fundamental reason behind a “flight of capital” to a select number of tickers and increasingly shrinking market breadth is the macroeconomic picture that’s been brewing for several years now.

Economic Data: Averages and Specifics

As of March, the U.S. Bureau of Economic Analysis estimates1 that personal income increased by 0.5% on a monthly basis. While Disposable Personal Income (DPI) — personal income less personal current taxes — increased by 0.5%, Personal Outlays — the sum of personal consumption expenditures (PCE), personal interest payments, and personal current transfer payments — increased by 0.9% and consumer spending by 0.8%.

However, it is evident that personal savings as a percentage of disposal income has been in a downtrend throughout the current year.

On the day before Berkshire Hathaway’s earnings release, the U.S. Bureau of Labor Statistics reported that nonfarm payrolls in April2 rose by 175,000 versus consensus expectations of 243,000. Overall, nonfarm payroll trends have cooled off from the larger magnitudes of change experienced through much of 2021 and 2022.

Source: U.S. Bureau of Labor Statistics; Leverage Shares analysis

The higher magnitudes in those years could be attributed to workforce numbers bouncing back from the massive lows experienced in April and May of 2020 but, in recent times, the numbers have seen relatively heavy revisions a month or two after the initial release.

Given that the numbers are still positive, it isn’t unreasonable to expect that greater workforce participation (and incomes) would mean that credit would be paring down or stabilizing. However, this is not so. As per the Federal Reserve, outstanding consumer credit has been steadily rising3 since 2021 with no significant sustained downtrend.

Source: U.S. Federal Reserve; Leverage Shares analysis

As of February (the latest month with available revised numbers), outstanding revolving consumer credit stood at $1.338 trillion – a 22.5% increase from 2019, i.e. pre-pandemic, levels.

The automobile could be argued as being the cornerstone of the American way of life and the United States is home to the largest fleet of automobiles on the road in the world. In the auto loans category, the Federal Reserve Bank of New York estimates4 that the total balance of auto loans have seen virtually no significant downtrend since the Great Financial Crisis. The latest release by the New York Fed (as of Q4 2023) shows auto loan balances at $1.607 trillion, a 103% increase from 2008.

Source: Federal Reserve Bank of New York; Leverage Shares analysis

The New York Fed also warned that delinquencies were rising in virtually every loan category except student loans. This is being felt in long-term equity-building loans such as real estate as well. As per the Mortgage Bankers Association, 2023 ended with three consecutive quarters of rising delinquencies relative to total loans.

Source: Mortgage Bankers Association; Leverage Shares analysis

Absent a heavy subprime component that led to the highs of 2009 through 2010 and the massive hit imputed by the pandemic on incomes, the fact that these three quarters came after a 15-year low in delinquencies indicate that this is a burgeoning trend.

The U.S. Bureau of Labor Statistics also indicated5 that the total number of job openings in the private sector in March was 12.2% lower than in the past year and down 4.5% relative to the start of the year. Meanwhile, government job openings have had strong upticks particularly in the state and local sector: government jobs excluding education were up 12.8% in the year till date while education jobs were up 23.8%.

With greater government spending comes the need to bolster up government income. The preferred means of doing so in the U.S. has traditionally been the issuance of debt. One key holder of government debt has been, of course, the Federal Reserve itself: as of two years ago, the Fed held nearly $9 trillion of government bonds and mortgage-backed securities in its balance sheet. Since then, the Federal Reserve pursued a course of «Quantitative Tightening» wherein a certain amount of debt instruments would be allowed to mature without reinvesting the proceeds to the tune of a maximum $95 billion per month. After two years, the Fed holds $7.4 trillion in debt.

Over the past two years, however, the government has shown no signs of easing up on debt issuances. While the purchase of government debt by the Fed might have imparted a semblance of credibility to these actions in some quarters, the overall appetite for government debt had been waning until rate hikes commenced and imparted some upward momentum. On the 1st of May, the Federal Reserve made an interesting commitment: from June onwards, the maximum reduction limit was reduced to $60 billion. Given that ongoing debt issuances are projected to rise despite high rates adding a higher debt burden on the government’s books in the future, there might be an upper limit on government debt regardless of where said rates are. Thus, the Federal Reserve is somewhat re-committing to propping up the debt market.

Sector Redistribution Imminent?

If debt issuances are unlikely to find strong sustained demand from the market place, the other recourse for revenues is taxation. While it’s uncertain if the numerous tax loopholes that help pare down corporations’ taxable income will be closed, it is almost certain that tax rates might be hiked for individual citizens. The ostensible reason behind the Apple bet reduction seemingly offered by the «Oracle of Omaha» was that the proceeds would help in shoring up tax obligations. If taxes were indeed the driving factor behind the stake sale and not a change in perspective, then standard investment philosophy would have advocated a proportionate reduction in stake across the portfolio.

While higher income from investments including more effective insurance underwriting by Geico saw Q1’s operating profit6 rise 39% Year-on-Year, the company ploughed at least some its proceeds into purchasing $2.6 billion into stock repurchases, with some indications that it will continue. Given that cash is expected to top $200 billion by the end of June – of which only $11.2 billion is after-tax gains from the Apple stake sale – it can be assumed that the tax bill isn’t the (only) reason.

The comment on taxes pared with the Apple selloff – a company heavily dependent on consumption – indicates that the play in motion is driven by macroeconomics. If so, the «Oracle» isn’t alone: on the 2nd of May, Citi’s chief U.S. economist Andrew Hollenhorst asserted7 that, rate cuts or not, the U.S. economy is headed for a «hard landing» on the basis of a policy cycle that will see stubborn inflation followed by a weakening of the labour market. Despite upbeat payroll data, he pointed out that the number of hours worked and full-time jobs available were dropping while several surveys indicated that jobs were harder to find and employers were less eager to hire. In February, Mr. Hollenhorst estimated that a recession will break out sometime in the middle of the year. In the present, he continues to assert that the financial market expects a hard landing more so than any other event.

If there’s a hard landing (or «recession») imminent, the most favoured plays in the course of that regime will be financials and energy – both sectors that Berkshire Hathaway has long been invested in. It’s unlikely that the company will just hold hundreds of billions in cash for months on end, tax bill or not.

All in all, Q2 results will make for an interesting read.


Footnotes:

  1. «Personal Income and Outlays, March 2024», U.S. Bureau of Economic Analysis
  2. «Breaking: US Nonfarm Payrolls rise 175,000 in April vs. 243,000 forecast», FX Street, 3 May 2024
  3. «Consumer Credit – G.19», Board of Governors of the Federal Reserve System, 7 May 2024
  4. «Household Debt and Credit Report (Q4 2023)», Center for Microeconomic Data, Federal Reserve Bank of New York
  5. «Job openings levels and rates by industry and region, seasonally adjusted», U.S. Bureau of Labor Statistics, 1 May 2024
  6. «Berkshire pares huge Apple stake as cash, operating profit set records», Reuters, 4 May 2024
  7. «The U.S. economy is headed for a hard landing, and Fed rate cuts won’t be enough to rescue it, Citi says», Fortune, 6 May 2024

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