Buffett's Energy Trade: Buy ExxonMobil, Sell ConocoPhillips

Although we don't believe in timing the market or panicking over daily movements, we do like to keep an eye on market changes -- just in case they're material to our investing thesis.

Federal Reserve chair nominee Janet Yellen put in a competent performance before the Senate Banking Committee yesterday, giving a staunch defense of the Fed's quantitative-easing program. The confirmation looks to be all but sewn up, and traders will surely appreciate the prospect of a new central-bank chief who is perceived to be a dove. After hitting another record high on Thursday, stocks opened modestly higher this morning, with the S&P 500 and the narrower, price-weighted Dow Jones Industrial Average (DJINDICES: ^DJI  ) up 0.1% and 0.25%, respectively, at 10:10 a.m. EST.

Warren Buffett's confectionery-to-insurance conglomerate Berkshire Hathaway (NYSE: BRK-B  ) disclosed its stock positions at the end of the third quarter in a filing with the SEC late yesterday. The most significant piece of information in the disclosure is a significant new position in energy supermajor ExxonMobil (NYSE: XOM  ) , to the tune of 40.1 million shares worth $3.4 billion at the end of last quarter.

However, true to form as a stock picker, Buffett is not simply making a broad bet on the energy sector; he likes ExxonMobil specifically. This is evident in yesterday's filing: Berkshire has reduced its stake in ExxonMobil competitor ConocoPhillips (NYSE: COP  ) by some 44%.

Berkshire became ConocoPhillips' largest shareholder during the third quarter of 2008, at the height of the credit crisis. However, Buffett made a public mea culpa regarding that decision the following year in Berkshire's 2008 shareholder letter, writing:

I told you in an earlier part of this report that last year I made a major mistake of commission (and maybe more; this one sticks out). Without urging from Charlie or anyone else, I bought a large amount of ConocoPhillips stock when oil and gas prices were near their peak. I in no way anticipated the dramatic fall in energy prices that occurred in the last half of the year. I still believe the odds are good that oil sells far higher in the future than the current $40-$50 price. But so far I have been dead wrong. Even if prices should rise, moreover, the terrible timing of my purchase has cost Berkshire several billion dollars.

In his defense, ConocoPhillips' stock looked extremely cheap during the third quarter of 2008, trading at an average premium of just 20% over its book value (the equivalent premium for ExxonMobil during that period was 223%). And the shares have hardly been a disaster since then; in fact, they've essentially matched the S&P 500 in a strong bull market (though with greater volatility).

COP Total Return Price Chart

COP Total Return Price data by YCharts.

Meanwhile, ExxonMobil has substantially lagged the index over the same period, but most of that underperformance has opened up this year. While the shares continue to trade at a substantial premium to those of ConocoPhillips, that gap has narrowed significantly; as of yesterday's close, Exxon's book value multiple is 2.41 against 1.77 for ConocoPhillips.

In truth, ExxonMobil always looked like the better fit within Berkshire's equity portfolio: The company is singularly focused on economic profitability and returning profits to shareholders. Now, following a period of stock underperformance, Buffett is signaling that the price is right -- watch for that underperformance to narrow and, ultimately, reverse over the next several years.

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