Berkshire Hathaway (NYSE:BRK-A)(NYSE:BRK-B) CEO Warren Buffett is arguably the greatest investor of our generation. Sporting seed capital totaling $10,000 in the mid-1950s, Buffett has invested his way into a $79 billion net worth as of today.
Yet, what's most interesting about Buffett's investing style is that it doesn't involve any fancy charting technology or quantitative analysis. Rather, the Oracle of Omaha chooses to focus his research on a couple of sectors -- financials, information technology, and consumer staples -- then purchases companies he believes have competitive advantages over the long run. Buffett and his team then hang on for a long period of time and reap the rewards. With Berkshire Hathaway's book value gaining 1,091,899% between 1965 and 2018, it's pretty evident that Buffett knows what he's doing.
There's a silent hero in Buffett's portfolio
But there's a silent hero in Warren Buffett's portfolio that's responsible for a lot of the heavy lifting: dividend stocks.
Dividend stocks offer a number of advantages to investors. For starters, they usually act as a beacon for time-tested, profitable businesses. Think of it this way: A business would be unlikely to share a percentage of its profits if management didn't feel confident that it would remain profitable and/or grow over the long run.
Dividend payouts can also help calm nerves and hedge against inevitable downturns in the stock market. Although dividend payouts are unlikely to offset big swings lower in the market, they can help jittery investors keep a level head.
Most importantly, dividends can be reinvested back into more shares of dividend-paying stock via a dividend reinvestment plan, or DRIP. Using your payout to purchase more shares of dividend-paying stock leads to a larger payout and more shares owned, thereby compounding your wealth.
Though Buffett isn't necessarily reinvesting his payouts, he is generating a boatload of dividend income each year for Berkshire Hathaway. When Yours Truly ran the numbers in January, Berkshire Hathaway was on track to generate more than $4.6 billion in dividend income this year. But there have been stocks sold, companies added, and payouts upped or decreased since the beginning of the year.
These five dividend stocks make up the bulk of Berkshire Hathaway's dividend income
What hasn't changed, though, is that a small number of dividend stocks make up a large chunk of the dividend income that Berkshire Hathaway generates. The following five Buffett stocks are collectively on track to deliver more than $3.4 billion in annual run-rate dividend income:
- Wells Fargo (NYSE:WFC): $836 million
- Apple (NASDAQ:AAPL): $768.7 million
- Bank of America (NYSE:BAC): $684 million
- Coca-Cola (NYSE:KO): $640 million
- Kraft Heinz (NASDAQ:KHC): $521 million
The first thing that should be noted about these income stocks is that they've generally been part of Buffett's investment portfolio (via Berkshire) for a long time. Both Wells Fargo and Coca-Cola have been held by Berkshire Hathaway for at least three decades. Meanwhile, Berkshire first got into Bank of America via preferred stock in 2011, and it acquired Heinz with private-equity firm 3G Partners in 2013. Apple is the newest addition, as of early 2017.
Buffett's top dividend stocks also have exceptionally strong branding power, with the recent exception of Kraft Heinz, which was guilty of a large writedown on the value of some of its marquee brands in February. Buffett has a tendency to acquire businesses with strong brands and competitive advantages that can exist for long periods of time. Coca-Cola, for example, operates in all but one country worldwide (North Korea), has a diverse beverage portfolio, and possesses significant pricing power that ensures it's able to keep up with -- or surpass -- the global inflation rate.
These top dividend payers also tend to generate a lot of cash or have a mountain of cash in their coffers. Tech giant Apple, for instance, ended its most recent quarter with $210.6 billion in cash and investments that it could put to work at some point in the future. Apple also brought in between $50.8 billion and $64.1 billion in free cash flow over the past three years. That leaves plenty of excess capital to pay a healthy dividend.
And, of course, it's always worth mentioning that Buffett loves his financials, which currently make up more than 47% of Berkshire Hathaway's portfolio. Combined, Wells Fargo and Bank of America are set to bring in more than $1.5 billion in dividend income for Buffett over the next year. Banks are typically tied to the strength of the U.S. economy, and the economy spends far more time expanding than contracting. This leads to deposit, loan, long-term profit, and dividend growth for money-center banks like Wells Fargo and Bank of America.
Even though Kraft Heinz lowered its payout earlier this year to conserve capital as it looks to reignite growth in its core brands, Buffett's other core income stocks have dividends that continue to motor higher. This suggests that Berkshire's reliance on (and benefit from) dividend income is only going to grow in the years to come.
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Sean Williams owns shares of Bank of America. The Motley Fool owns shares of and recommends Apple and Berkshire Hathaway (B shares). The Motley Fool has the following options: short January 2021 $200 puts on Berkshire Hathaway (B shares), long January 2021 $200 calls on Berkshire Hathaway (B shares), short January 2020 $155 calls on Apple, long January 2020 $150 calls on Apple, short January 2020 $155 calls on Apple, and long January 2020 $150 calls on Apple. The Motley Fool has a disclosure policy.