The current COVID-19 recession is leading to an interesting investing environment. While unemployment has skyrocketed past the levels of the 2008-2009 recession, the government has also responded with unprecedented stimulus. Meanwhile, the peculiar nature of the pandemic may actually boost the fortunes of certain technology businesses that enable the digital economy, especially e-commerce, cloud, and the upcoming 5G mobile phone cycle.
The market has thus responded very well since the depths of the March market crash and is, miraculously, nearly all the way back to its February highs. Yet great uncertainty remains. COVID-19 cases are on the rise across the South. Meanwhile, a new stimulus package is expected, as many of the current benefits run out at the end of this month. Yet investors still don't know when the new stimulus will be enacted or how generous it will be.
And while several biotech companies have come out with promising phase 1 vaccine data, the time until a proven, safe, and effective vaccine that has gone through phase 3 trials is still a way off.
Amid all of the uncertainty, where are investors to turn in this market? While I can't speak for anyone else, the following stocks are my highest-conviction holdings today, each of which has solid defensive characteristics to get them through the current recession, yet strong growth prospects well into the future as well.
Amazon, Microsoft, and Alphabet: What they all have in common
While the group of stocks known as FAANG tend to be grouped together, I tend to separate out the triumvirate of Amazon.com (NASDAQ:AMZN), Microsoft (NASDAQ:MSFT), and Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) from the rest. This is due to one powerful trend in which these compete: cloud infrastructure-as-a-service (IaaS).
Despite the growth of cloud to date, we are still in the relatively early innings of enterprise cloud migration, and the public cloud should continue to grow for this decade and beyond. Even in the pandemic-fueled first quarter, the overall cloud infrastructure market grew 34.5% to a whopping $31 billion, according to Canalys.
But it's not just that the cloud market is large and growing fast. It's also that only the largest companies have the capital to compete effectively. Moreover, many enterprises want to go with multiple clouds, meaning Amazon, Microsoft, and Google should all benefit and avoid vicious pricing wars. While Microsoft and Google don't break out their cloud margins specifically, Amazon, the leader in the space, recently recorded a 30.1% operating margin for Amazon Web Services during the recent quarter. A high-growth, high-margin oligopoly with annuity-like revenue streams is an awfully dreamy businesses to be in, which is why I like these three companies so much.
And by the way, each of these companies also has a very formidable primary businesses. Amazon is the dominant leader in e-commerce, Microsoft is the dominant leader in enterprise software and enterprise social networking with LinkedIn, and Alphabet has both the world's dominant search engine with Google and the world's most-watched streaming video platform in YouTube.
With bulletproof balance sheets, dominant businesses in their respective fields, and each participating in the cloud IaaS revolution, these three companies are my highest-conviction holdings today.
These days, a popular narrative is that Warren Buffett may have lost his investing touch, since his conglomerate Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B) didn't dive into the March market plunge. However, Buffett's calm conservatism gives his investors more reason to sleep well at night, not less.
Keep in mind, Berkshire has a very long-term philosophy, not a short-term trading posture; meanwhile, the last major investment Berkshire made (before the recent $9.7 billion Dominion Energy asset deal in July) was Apple (NASDAQ:AAPL) in 2016. I'd say that investment has worked out quite well for Berkshire shareholders, with Apple's stock nearly tripling over Berkshire's average cost basis in just four years.
At the end of the first quarter, Berkshire had a whopping $137 billion in cash sitting on its balance sheet. But the cash on hand isn't the only reason to like Berkshire's defensive qualities. Berkshire's business is also competitively advantaged over other conglomerates because of its unique structure.
Underpinning Berkshire's model is its diverse and sprawling insurance business, including GEICO auto insurance, General Re, Berkshire Hathaway Specialty insurance, National Indemnity, and several other insurance subsidiaries. Not only do Berkshire's insurance operations give headquarters a continuing supply of insurance premium with which to invest -- or "float" -- but Berkshire's insurance underwriting alone is usually profitable most years, which is actually very rare in the insurance industry. In fact, Berkshire's underwriting alone has been profitable 16 of the past 17 years.
In addition to the insurance operations, the Berkshire Hathaway Energy utility segment, BNSF railroad, and Berkshire's diverse stable of profitable operating businesses make Berkshire is a cash-generating machine. All of that cash goes back to some of the best capital allocators in the world at headquarters, including not only Buffett, but also partner Charlie Munger, and younger lieutenants Todd Combs and Ted Wechsler.
It's not just Warren Buffett -- Berkshire's core insurance operations, balance sheet, and unique culture are reasons Berkshire is a high-conviction holding for the long term. And by the way, the stock also happens to be extremely cheap these days, especially compared with he rest of the market.
Another large holding of mine is Micron Technology (NASDAQ:MU). At first glance, Micron may not seem like a safe business -- it makes memory chips across DRAM, NAND flash, and newer type of memory called 3D XPoint. Memory prices can fluctuate wildly year-to-year, making Micron's business highly cyclical. While Micron is the only company that makes all three types of memory, most of its business comes from DRAM.
Fortunately, Micron is one of only three companies in the world that produces over 90% of the world's DRAM, which means these three can control supply to align with demand in this highly volatile industry.
While Micron's results have been highly cyclical to date, over the long term, the cycles are trending up:
As you can also see, the industry currently looks to be at a cyclical trough, and Micron just posted its first quarter of sequential growth in the past seven quarters, while also guiding for growth in the current quarter. While certain chip segments are down, booming data center, notebook, and gaming spending has bolstered Micron's results. The last time Micron had an up-cycle, it grew profits for nine straight quarters, meaning the company is set up for a strong couple years.
Yet even if the recession deepens and begins to negatively affect memory-buying, Micron has built up a fortress balance sheet to weather the storm, with $2.6 billion more cash than debt. Meanwhile, its profits should increase over the long term, as DRAM-hungry applications like artificial intelligence, 5G phones, and more automated cars and factories take hold over the next decade. Trading at just 1.5 times book value and 9.8 times forward earnings estimates, Micron is one of the cheapest stocks in the high-flying technology sector.