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How Berkshire Is Hedging Against Disaster

By Chris Hill - Aug 19, 2020 at 10:39AM

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Berkshire stunned the market with its rather uncharacteristic investment choice.

In this episode of MarketFoolery, host Chris Hill and analyst Bill Mann discuss the latest headlines and quarterly reports from Wall Street. The duo dive into the most recent financial results from China's largest online store and the fascinating backstory behind its success today. They also talk about Warren Buffett's surprising investment, an amusing clerical error, and much more.

To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our quick-start guide to investing in stocks. A full transcript follows the video.

This video was recorded on Aug. 17, 2020.

Chris Hill: It's Monday, Aug. 17th. Welcome to MarketFoolery. I'm Chris Hill, with me today, back from The Big Easy, it's Bill Mann. Good to see you.

Bill Mann: How are you, Chris?

Hill: I'm doing well. I'm caffeinated and I'm ready to tackle this week. We have a surprising buy from Berkshire Hathaway (BRK.A -0.59%) (BRK.B -0.29%), we've got a clerical error for the ages, but we're going to start with JD.com (JD -2.27%).

Second-quarter profits and revenue came in higher than expected for China's largest online retailer. And active customer accounts for JD.com are up 30% year over year. That is impressive.

Mann: What's more impressive is, when you think 30% year-over-year increase, if you're talking about something that starts at 1,000 and ends up with 1,300, that's impressive, but when you go to 417 million active customers...In some ways China, the numbers in China, almost feel like cheat codes, right, like the numbers just don't even feel real, it's like someone typed in an extra comma or another zero or whatever. Yeah, 417 million active customers. And you could see this coming; we've talked a lot about JD.com and how aggressive they were at setting up their own infrastructure over the last few years and how they have supported both their customers, and also they opened up very quickly, almost like a Shopify-type network throughout the country, and people have gone to it like gangbusters. So, JD.com is, it's an incredible company, it's an absolutely incredible company.

Hill: I'm glad you mentioned the investments they made, because when you just look at how the stock is -- and the stock is up a couple of percentage points today, it's up around 70% year to date, but when you back that out, the previous year-and-a-half, basically from mid-2018 to the end of last year, the stock is basically flat. You know this company a lot better than I do, I was looking at that chart and thinking, I'm wondering if that year-and-a-half, where the stock basically didn't go anywhere, was them -- sorry to compare them to Amazon, but just thinking of the years in which, you know, Bezos would just come out every quarter and basically be like, we're making investments, we're making investments. And it seems like the investments JD.com has been making are really paying off right now.

Mann: They really are. And one of the interesting things, JD.com has an absolutely fascinating backstory. It started out as a physical property place where people could go and buy electronic equipment -- cables and things of that nature. And they lost 95% of their business when SARS hit China, they had almost nothing online. And the CEO, Richard Liu, realized that online was the wave of the future, and so he wanted to harden his company against future problems. So, they got rid of almost all of their business and went all online. And they did so during an epidemic. And so, they were ready for this. I mean, they absolutely were ready for this.

And these results are -- I mean, you're exactly right, it's almost like English ivy, like, it hangs out for a while and then, boom! It takes over everything, JD.com has hung out for a while, and boom! It is taking over everything.

Hill: Shares of Barrick Gold (GOLD -1.14%) are up 10% this morning after a filing with the SEC revealed that Berkshire Hathaway has taken a $560 million stake in the company. This is a $50 billion company, so it's not like Berkshire Hathaway has taken an enormous stake percentage-wise...

Mann: They're not taking it private, right?

Hill: [laughs] Right. But for decades, for decades, Warren Buffett has not been shy about the fact that he's not a fan of gold. And I know that given Berkshire Hathaway's cash balance and this investment, it is entirely possible that Ted or Todd was the one behind this. It is still surprising to see this investment.

Mann: It is a little surprising to see the investment. I really don't want to overstate the importance, though, because although $500 million is a lot of money, that's less than 1% of the kitty that Berkshire Hathaway has to invest, it's not a whole lot of money, it is symbolic. And I think that the symbolism is more this than everything else. And Warren Buffett has actually talked about this in the past; to him, an investment in gold isn't a hedge against the economy, it's not a hedge against inflation, it's a hedge against disaster, that's what investing in gold is. And specifically, investing in gold miners, it's in some ways a hedged investment against disaster.

So, I don't want to read too much into this, because it's not a -- you know, if they put 20% of their money into gold, that would mean something, but yeah, it is a huge about-face for Warren Buffett and Berkshire Hathaway. And I don't care whether it was Warren or the other two who made this investment, it's still a big statement.

Hill: Last week on the show, Barker and I were talking about Berkshire Hathaway's second-quarter results. You know, to the extent that there was a highlight, it was the stock buyback, which still, compared to the $140 billion they've got in cash, was not that enormous.

Mann: Yeah, $5 billion worth of shares.

Hill: What do you think is going on at Berkshire Hathaway? Are you at all wondering why they're not deploying more cash? Joe Magyer was on Motley Fool Money last week. I mean, it was pretty clear that he was, mystified is probably overstating it, but he was, sort of, scratching his head that they weren't more opportunistic back in May or March and April, what do you think is going on?

Mann: Yeah. I mean, I agree with Joe to some degrees. And Warren Buffett actually talked about this. And it was -- you know, when we talked about in March, everyone was like, is this going to be a V-shaped recovery or a K-shaped recovery or whatever? In some ways, the stock market moved too quickly for Warren Buffett to really deploy. I mean, if you recall, it hit the bottom on March 18, and has been almost a straight line up since. So, in some ways, I think it was a function of those large amounts of money, the huge amount of money that he has to invest, it all happened too fast, you know, maybe there's an old person joke to be put in here, but it all happened way too fast for him to be able to react.

But that doesn't mean that Warren Buffett loves looking at a $200 billion cash pile and feels great about it; he wants to deploy it. So, at any point, he's going to be putting that money to places that he thinks is a better use of that cash. And so, that's why I think you saw the buybacks and that's why I think you saw you saw them putting a little bit of money into Barrick, it's why you saw them selling out of Goldman Sachs, selling out of the airlines. So, yeah, they actually -- for someone who says that he is the ultimate long-term investor, he does actually transact quite a bit.

Hill: If you've made a mistake at work recently, this next story might make you feel a little better. Revlon, the cosmetics company has been struggling lately, so Revlon has taken out a bunch of loans from various lenders. Last week someone in the loan operations department at Citigroup accidentally wired $900 million to those various lenders, seemingly on behalf of Revlon. Citigroup has now told the lenders that they made a "clerical error," and they would like the $900 million back please.

Mann: [laughs] Pretty please.

Hill: And some of the lenders have [laughs] basically said, no, I don't know that we're going to do that, because we weren't sure we were going to get the money back from Revlon, given all their struggles. And this is -- look, Citigroup isn't really commenting more on what actually happened here. This is one of those stories I hope we get to the bottom of someday. I am not looking at them hanging someone out to dry, I'm sure it's...you know, again, if you've ever made a mistake at work and you feel bad about it. Well, imagine being the person responsible for the $900 million transfer of money that might not come back.

Mann: One of the biggest clerical issue mistakes in history. I would love -- I mean, if you feel bad for, because it really was some back-office person who sent this out. So, some non-, you know, captain of universe, non-bonfire of the vanities, destroyer of worlds who did this, but the screams in headquarters. The Zoom call must be amazing. What happened? Yeah, and so Brigade Capital, Symphony Asset Management -- these are companies that have made huge bridge loans to Revlon, and they are owed the money. Right, they are owed the money. So, what Citigroup has done has turned a YP into an MP, this used to be your problem and it is now my problem.

And I think the really interesting thing is what level of seniority Citigroup has to even get this money back, because they have no agreement with Revlon. They are not a lender to Revlon. They're just someone who, for whatever reason, has decided to help. And, yeah, it is an incredible story. [laughs] $900 million, let's say this: It's a lot.

Hill: Not only is it a lot, it is more than twice the market cap of Revlon itself.

Mann: [laughs] It's a bad investment.

Hill: Right. Imagine if instead the news was, Citigroup is buying a financially troubled cosmetics company. You know, that's a head-scratcher, but at least from Citigroup's standpoint, they'd have the asset of the cosmetic company.

Mann: [laughs] They don't even get the stock.

Hill: They don't get the stock, they don't get the brand, they don't get the mascara.

Mann: So, a Bloomberg columnist said, this is what the investors ask for, they wanted their loan to be paid off. [laughs] I feel bad for the person who actually did this, the person who made the mistake literally made a mistake, but that mistake has 9 digits in it, close to 10, and that's going to be a problem. And the banks, and Citigroup, I don't want to overstate the level of risk that this puts them under. But the lending environment for them has been horrific this year, because they don't know what businesses are actually deeply in distress, which ones are trying to borrow money, because rates are so historically low, you saw last week that the Ball Corporation borrowed money literally at 0%.

So, it's been a tough time for the banks to actually make loans and to do the business of lending. And those $900 million of capital, [laughs] they really, really matter, even to a company, a bank as big as Citigroup.

Hill: Citigroup did about $74 billion, $75 billion in revenue for 2019. So, you're looking at just north of [laughs] 1% of that. So, yeah, I mean, Citigroup is going to survive this, but holy cow! I mean it's just...

Mann: I know you don't spend a whole lot of time excited to learn about banks, like, banks are not the area that curl your hair in the morning. Can you imagine, I am not missing this next quarterly call for anything, because --

Hill: [laughs] Oh, yeah! Yeah, no, it's definitely going to be, you know, they'll come out with their results, the first few questions from analysts will be about those results, and then someone, and maybe there's, you know, in the universe of banking analysts on Wall Street, there's, if not a betting pool, there's almost like a pool of money that's like, all right, Jim, we'll all put in $50 and whoever asks the question will get the money.

Mann: Are they going to try and come up with a new metric, like, earnings before income tax, amortization, and stupidity? Like EBITAS or EBIT damn and mistake. Yeah, this is mistake-adjusted. [laughs]

Hill: Well, was it SoftBank that just came out with a note that -- I saw this in Tim Hanson's Twitter feed, they had the metric -- free cash outflow. And Hanson was, like, wait, free cash -- what? What, free cash outflow, that sounds like --

Mann: What does that even mean? That sounds good.

Hill: I think it was in reference to SoftBank's investment in WeWork, and so they're trying to put the nicest possible phrasing around it. It was like, oh, yeah...

Mann: They pulled out that lipstick, well, this was in fact a free cash outflow. So, I bet you Citigroup, yeah, looking at this going, that was pretty good, yeah.

Hill: [laughs] Yeah, exactly.

Mann: We're not even making this up.

Hill: Someone in the communications department is saying, look, I'm just saying, that's not the worst phrase in the world to use if we have to talk about this more.

Bill Mann, always good talking to you; thanks for being here.

Mann: Good to see you, Chris. Thanks for having me.

Hill: As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear.

That's going to do it for this edition of MarketFoolery. The show is mixed by Dan Boyd, I'm Chris Hill, thanks for listening, we'll see you tomorrow.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Bill Mann owns shares of Berkshire Hathaway (A shares), Berkshire Hathaway (B shares), JD.com, Shopify, and Zoom Video Communications. Chris Hill owns shares of Amazon. The Motley Fool owns shares of and recommends Amazon, Berkshire Hathaway (B shares), JD.com, Shopify, and Zoom Video Communications. The Motley Fool recommends Softbank Group and recommends the following options: long January 2021 $200 calls on Berkshire Hathaway (B shares), short January 2021 $200 puts on Berkshire Hathaway (B shares), short January 2022 $1940 calls on Amazon, long January 2022 $1920 calls on Amazon, short August 2020 $130 calls on Zoom Video Communications, and short September 2020 $200 calls on Berkshire Hathaway (B shares). The Motley Fool has a disclosure policy.

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Stocks Mentioned

Berkshire Hathaway Inc. Stock Quote
Berkshire Hathaway Inc.
BRK.A
$439,528.92 (-0.59%) $-2,620.08
Berkshire Hathaway Inc. Stock Quote
Berkshire Hathaway Inc.
BRK.B
$292.07 (-0.29%) $0.84
The Goldman Sachs Group, Inc. Stock Quote
The Goldman Sachs Group, Inc.
GS
$334.67 (0.84%) $2.80
Citigroup Inc. Stock Quote
Citigroup Inc.
C
$51.66 (0.78%) $0.40
Amazon.com, Inc. Stock Quote
Amazon.com, Inc.
AMZN
$140.80 (-1.24%) $-1.77
Barrick Gold Corporation Stock Quote
Barrick Gold Corporation
GOLD
$15.60 (-1.14%) $0.18
Ball Corporation Stock Quote
Ball Corporation
BALL
$56.36 (-4.93%) $-2.92
Revlon, Inc. Stock Quote
Revlon, Inc.
REV
$8.60 (12.27%) $0.94
SoftBank Group Corp. Stock Quote
SoftBank Group Corp.
SFTBF
$42.01 (-1.45%) $0.62
JD.com, Inc. Stock Quote
JD.com, Inc.
JD
$61.91 (-2.27%) $-1.44
Shopify Inc. Stock Quote
Shopify Inc.
SHOP
$40.81 (-0.51%) $0.21
Zoom Video Communications Stock Quote
Zoom Video Communications
ZM
$113.85 (0.88%) $0.99

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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