There's an endless amount of commentary on Warren Buffett's approach to investing, but the preceding chart captures his approach better than perhaps all of it -- with the exception, of course, of Buffett's own annual letters to the shareholders of Berkshire Hathaway.
As avid Buffett followers know, the Oracle of Omaha has a particular place in his heart (and Berkshire's equity portfolio) for bank stocks. While Wells Fargo (NYSE: WFC ) is Berkshire's largest and perhaps best known holding -- the one exception to this being Coca-Cola -- Buffett has also stuffed the conglomerate's coffers full of stock in American Express (NYSE: AXP ) , US Bancorp, and M&T Bank. And most recently, he staked a $5 billion claim in Bank of America (NYSE: BAC ) , the nation's second largest bank by assets.
Leaving the final position to the side for a moment, what do these companies have in common? The answer is: They are, bar none, the best run banks in the country. Among the nation's largest lenders, American Express, US Bancorp, and Wells Fargo are the top three in terms of profitability, returning more on their assets over the last two decades than any of their competitors.
Meanwhile, M&T Bank is the best-performing bank stock over the past three decades. Since 1983, its dividend-adjusted compound annual growth rate (or, rather, that of its stock) comes in at 15.8%, outpacing even US Bancorp and Wells Fargo, which sport CAGRs of 12.9% and 12.5%, respectively, over the same time period. It's for these reasons that I've deemed M&T Bank the gold standard among bank stocks.
With this in mind, one might find it peculiar that Buffett decided to make such a sizable investment in Bank of America -- which, by any objective assessment, falls on the opposite end of the spectrum in terms of quality and return. This contradiction, however, is easy to understand when you look at the details of Buffett's investment in the Charlotte, N.C.-based bank. That is, he didn't buy common stock; he bought preferred stock, giving him both a guaranteed dividend and preference over common stockholders in the event of liquidation.
On top of this, as only Buffett could do, he convinced Bank of America to sweeten the pot by giving him warrants to buy 700 million shares of the bank's common stock at $7.14 each. At today's price, he's already made over $5 billion on the warrants alone. The deal, in other words, was simply too good to pass up irrespective of Bank of America's well-publicized failings. And, as such, it should be looked at as an outlier to Berkshire's other bank holdings.
With this in mind, in turn, we can circle back to the lesson of the chart above. That is, Buffett's long-term holdings, at least in the banking space, are all in best-in-class companies. Investors that seek to follow his lead would be wise to remember this.
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