Berkshire Hathaway (NYSE:BRK-A)(NYSE:BRK-B) earned about $1.2 billion in pre-tax income from the investment portfolios of its many insurance companies in the second quarter -- this represents a combination of interest and dividend income on investment assets of nearly $185 billion.
In dollars and cents, a billion dollars is something marvelous. Relative to Berkshire Hathway's massive investment portfolio, however, it's mere pocket change, and symbolic of a problem that plagues financial companies across the spectrum: Interest rates are simply too low to really move the needle.
Though Warren Buffett has spent a long time preaching about the benefits of insurance float, Berkshire's float isn't as productive as it once was. The company's insurance subsidiaries collectively generated an annualized pre-tax return of 2.7% on their investment portfolios in the second quarter, well below historical returns.
This figure is an excellent proxy for steady-state income that Berkshire can expect to earn from investing its insurers' investments. Notably, it only includes recurring sources of income -- dividends and interest -- and excludes capital gains and losses, which are significant. But it tells an important tale: Having a boatload of money -- even costless capital -- is no easy way to make a buck in a post-Financial Crisis world.
In fact, the chart above actually overstates the extent to which rising yields have helped the company. Since 2014, the rise in yields has been driven mostly by the stagnant value of its largest stock holdings.
Key stock holdings, including Wells Fargo, IBM, and American Express, have lost value since the end of 2014, despite delivering larger dividends to Berkshire. The increase in yields is thus the result of a shrinking denominator (the value of its investments) rather than an increasing numerator (interest and dividends).
By far, equity investments make up the single largest portion of its insurers' investment portfolios, adding up to $102 billion at the end of the second quarter, compared to total investments of approximately $185 billion. Low-yielding cash and cash equivalents and fixed-maturity investments (bonds) made up about $68 billion (37%) of the insurers' portfolios.
In addition to declining yields on cash, Berkshire's insurers are also suffering lower yields on their fixed-income portfolios as borrowers refinance and repay high-yielding debt. In 2013, for example, Wrigley repurchased $4.4 billion of debt owed to Berkshire that yielded an eye-popping 11.45%.
Although the $1.2 billion Berkshire earned from its insurance companies' investment portfolios may be the "easiest" billion dollars ever made, declining yields on its portfolios suggest that the free lunch provided by its insurance companies' float won't be as filling going forward.