Warren Buffett Knows Nothing!

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A careful observer might wonder if the widespread adoration for Warren Buffett is little more than lip service. Or, at the very least, some Buffett admirers are suffering from a bout of cognitive dissonance.

In the wake of the Great Recession, a great many investors -- not to mention the media -- have yet to get over the crisis-induced hatred of banks. A quick search of headlines over the past year is revealing:

"Bank of America too big, complex to be manageable"
"Wilbur Ross: Banks 'Too Complex to Manage'"
"Bank Of America Has Failed Shareholders"
"19,654 Reasons Big Banks Are Too Complex"

To read much of it, there's no hope for the banks' own executives -- let alone outside investors -- to understand what's going on in those banks. Investing in a situation like that would be financial suicide. 

But the much-revered Buffett seems to be on a completely different page.

At Berkshire Hathaway  (NYSE: BRK-A  ) (NYSE: BRK-B  ) Buffett has a portfolio that's top-heavy with financial-industry exposure, and he's particularly overweight in large-cap banks. Wells Fargo  (NYSE: WFC  ) is the conglomerate's single largest common-stock holding at close to $20 billion. The company also holds a $2 billion-plus position in U.S. Bancorp  (NYSE: USB  ) . Combined positions in Bank of New York Mellon  (NYSE: BK  ) and M&T Bank  (NYSE: MTB  ) come out to more than $1 billion. Berkshire will also have a large common-stock position in Goldman Sachs  (NYSE: GS  ) when the companies settle up Berkshire's warrants later this year. Based on today's share price for Goldman, that stake would likely be over $2 billion. Finally, the company has a $5 billion preferred-stock investment in Bank of America  (NYSE: BAC  ) .

One of two things is clear here. One possibility is that Buffett has no idea what he's doing and is throwing darts at the wall. "Understand what you're investing in" be damned! He's buying bank stocks because he's buying bank stocks. He's Warren Buffett after all, why would he need to actually understand the businesses?

The other possibility is that Warren Buffett understands something that the media and many other investors don't. Perhaps that the basic banking business is a really darn attractive one -- borrow at one rate, lend at a higher one, put modest leverage on your balance sheet, rinse, repeat, collect your handsome profits. Or maybe he understands the big banks aren't quite as complex as many want to paint them. Sure, Bank of America has trading operations, and it buys and writes derivatives. But most of the bank's profits come from its consumer and business banking -- that is, traditional "vanilla" banking.

The key though -- if we're buying into scenario No. 2 -- is that Buffett "understands." Berkshire has owned Wells Fargo for more than 20 years. Ownership of M&T goes back more than a decade. Heck, until 1980, when regulatory changes forced the sale, Berkshire owned an entire bank outright (Illinois National Bank and Trust of Rockford). In other words, this isn't an industry that Buffett stumbled on over the last couple of years, read a few Wall Street Journal articles, and decided that it was ripe for a few-billion-dollar investment. This is a business and industry that Buffett knows backward and forward.

You might think the message here is that you should ignore the media and the wailing and gnashing of teeth over big banks and go ahead and buy some bank stocks. But that'd miss the point. Sure, I think a lot of the fretting over the banks is off-base. But the route to realizing that shouldn't be simply reading my opinion. Or, for that matter, noting that Buffett is betting heavily on the industry. Instead, that realization should come through a thorough understanding of the banking business, and how and why the banks are set to outperform in the years ahead.

How do you get to that point? If Buffett is any model, one route is to read everything you can. After making a multibillion-dollar investment in IBM at Berkshire, Buffett said he'd been reading the company's annual report for 50 years. That's a lot of study for a single investment. (Hey, nobody said this was easy!)

So sure, perhaps Warren Buffett knows nothing and is making a big mistake by investing in banks. Or, maybe, just maybe, Buffett is loading up on banks because he knows what he knows, and thanks to that, he knows how to identify a big opportunity within that circle of competence.

Is Wells Fargo still a buy?
Wells Fargo's dedication to solid, conservative banking helped it vastly outperform its peers during the financial meltdown. Today, Wells is the same great bank as ever, but with its stock trading at a premium to the rest of the industry, is there still room to buy, or is it time to cash in your gains? To help figure out whether Wells Fargo is a buy today, I invite you to download our premium research report from one of The Motley Fool's top banking analysts. Click here now for instant access to this in-depth take on Wells Fargo.


Read/Post Comments (4) | Recommend This Article (15)

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  • Report this Comment On June 14, 2013, at 3:05 PM, mdk0611 wrote:

    A third scenario, at least with respect to Goldman and Bank of America, is that Buffett got a deal for Berkshire that nobody else could get, especially the small investor.

  • Report this Comment On June 14, 2013, at 6:10 PM, TMFKopp wrote:

    @mdk0611

    That's a great point. However, if you recall, there weren't many big-money investors rushing to do what Buffett did either. So it was partly having that amount of cash. But it was also having the temperament and long-term focus to be willing to deploy it at that time.

    Matt

  • Report this Comment On June 18, 2013, at 3:30 PM, Lexloeb wrote:

    Warren Buffet is not just thowing darts at a wall. He knows what he is doing. He is what real estate people say is buying right. That's where you get your profits when you buy it and does not really matter when you sell it. It is a built in propensity to have an asset at a safe purchase price where upside is inevitable. Buffet is also using leverage , but quietly or passively in the transactions. You can get leverage buy buying leveraged companies for whom debt is an asset more than a liability, Unlike someone who borrows money to buy a fancy show off car a company that is growing capital can use leverage to accelerate that particularly in inflationary periods. When it comes to buying banks, insurance companies and financial houses you can also get leverage from other people's money in the asset base float. Wells Fargo can list assets in the trillions of dollars ...assets on deposit. that is where excess leverage comes from. Buffet if still buying wells fargo knows how cash flow will accelerate in the longer term recovery of the banks. It has happened in thee major waves including the 1930s and now. The bulk of Buffet's money was made because of the last major downturn and this downturn will possibly even quadruple his net worth and his companies. There is no schedule but a moving target with a rock hard bottom that maybe hit but wont send his wealth into a bottomless pit and that is the safety issue. Hard or soft landing the odds a down turn will destroy Berkshire are lower than a lot of other companies.,

  • Report this Comment On June 22, 2013, at 6:36 PM, rovobo wrote:

    What I don't see in all this praise of Warren Buffet is the personal integrity of this man he certainly knows the banking & Financial industry,gravitas is SECRET WEAPON. If there were more like him the small investor like me would think of going all in on the MARKET. I am reluctent to do so because of the charlatans engaged in the market, none of the perpatrators of the 2007/2008 debacle are in JAIL where they belong.

    P.S. Poor Jeffrey Skilling thinks he should get a shorter sentence for stealing millions of $ from faithful ENRON employees , he belongs in Dante's Inferno with boss & good buddy Ken Lay

    Bush's pal Kenny Boy who after his arrest could'nt remember him. Sorrowfully greed rules and probably always will until these people do some hard time and don't mean at country club prisons the politicians created for themselves let them due time WITH BUBBA

    ROVOBO

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