Berkshire Hathaway (NYSE:BRK-A) (NYSE:BRK-B) surprised investors by revealing that it had invested billions of dollars in bank stocks during the third quarter -- including a brand new $4 billion position in JPMorgan Chase (NYSE:JPM).

To be perfectly clear, we don't know for sure why Buffett decided to invest in JPMorgan Chase, and it's likely that we'll never get the specifics. However, here's what we do know about Buffett's love for the banking business and why he may have decided to add yet another big bank to Berkshire's portfolio.

Warren Buffett speaking with reporters and smiling.

Image Source: The Motley Fool.

Buffett loves the banking industry

As I mentioned, Buffett and his team invested billions in bank stocks during the third quarter. Including the new purchases, Berkshire Hathaway now owns stakes in a total of 10 banks with a combined market value of more than $85 billion as of this writing.

In a nutshell, banks have several characteristics Buffett likes to look for in his investments. Just to name a couple:

  • Banking is a "forever" business. People will always need safe places to keep their money. Buffett likes to pick the top companies in industries that will be around for a long time.
  • Banks make their profits from other people's money. Customers deposit money and receive little interest, and banks loan this money out at a profit. This is quite similar to how insurers make money, and Berkshire is an insurance company at its core.

Berkshire can't buy much more of its other big bank stocks

One logical question you may be asking is why Buffett would choose to invest in JPMorgan Chase when Berkshire already owns several bank stocks. In other words, why wouldn't he simply buy more of the big banks that are already in the portfolio?

Berkshire did add to its Bank of America investment during the third quarter, but it would be difficult to add much more Bank of America or Wells Fargo stock. I'll spare you most of the details of how bank regulations and large shareholders work, but in a nutshell, let's just say that it's not desirable for Berkshire to own more than 10% of any institution that is classified as a bank. As of the end of the third quarter, Berkshire owned 9.1% of Wells Fargo -- Buffett also owns some in his personal portfolio -- and 8.8%% of Bank of America.

Sure, Berkshire owns stakes in some smaller banks like PNC and Synchrony, but it needs to invest billions of dollars to really move the needle. In other words, to invest a meaningful amount and not exceed the 10% cap, Berkshire needed to invest in a big bank. The two of the "big four" that Buffett didn't already own close to 10% of were JPMorgan Chase and Citigroup, and while we don't know for sure why Berkshire didn't buy Citigroup, it's fair to say that Citigroup has some unique risk factors that are keeping Buffett away.

Among the big four, JPMorgan Chase is best in breed

One thing we can say with 100% certainty is that Buffett doesn't mind paying for quality. As he's said, "It's far better to own a wonderful business at a fair price than a fair business at a wonderful price." And JPMorgan is certainly a high-quality business. Of the big four, its profitability is simply unmatched:

Bank

Return on Equity (ROE) -- 3Q18

JPMorgan Chase

14%

Bank of America

11%

Wells Fargo

12%

Citigroup

9.6%

Data source: Company earnings reports.

The bank has done a great job of growing and maintaining strong efficiency and high asset quality. While Buffett holds Bank of America and Wells Fargo in high regard, the numbers don't lie -- JPMorgan Chase is best in breed among the big banks.

Should you follow Warren Buffett into JPMorgan Chase?

It's never a smart idea to buy a stock just because a billionaire did -- even if that billionaire is Warren Buffett. However, JPMorgan is a best-in-breed bank stock, and the banking industry has been a laggard this year, so it could be a good time to get in at a relative bargain.

Matthew Frankel, CFP owns shares of Bank of America and Berkshire Hathaway (B shares). The Motley Fool owns shares of and recommends Berkshire Hathaway (B shares). The Motley Fool has a disclosure policy.