Warren Buffett keeps his investments simple for the most part. He's not a big fan of technology outside his stake in Apple, instead choosing to invest in solid businesses in proven, profitable industries.
This includes financials, one of the world's largest sectors at a global value of more than $20 trillion.
The following two financial stocks are both top five positions in Buffett's portfolio. Here is what they are and why he loves them so much.
1. A Buffett classic
Buffett first bought American Express (AXP 1.75%) back in the 1960s, making the credit card company one of his longest-tenured holdings. The company was embroiled in a "Salad Oil Scandal" that caused enormous losses for American Express and cratered its stock. Buffett took the opportunity to invest, and today it's one of his most successful purchases.
American Express has two fundamental target markets. The first is small and medium-sized businesses that use credit to fund their daily operations. These make up roughly half of the company's total billings. Its credit cards are also very popular with travelers; travel and entertainment are about a quarter of billings.
You can probably imagine that the pandemic was very tough on American Express because it virtually shut down small businesses and halted travel worldwide. You can see the impact on the top and bottom lines in the chart below, but American Express has already recovered, and its long-term growth looks to be back on track.
The company's lending does make it vulnerable to a recession and helps explain why the stock is trading near its lows. But American Express has been through multiple economic ups and downs. Spending $8.6 billion on share repurchases over the past year means that low prices let management buy more shares.
If concern about a recession does keep dragging down the shares, investors could be opportunistic just as Buffett was, buying shares on weakness. The company has $27 billion in cash and a strong A- credit rating from S&P, which means that American Express is financially ready for economic ups and downs.
2. A bank at the top of its game
The 2008-09 financial crisis strained the global banking system, tanked the economy, and roiled Wall Street. In 2011, shortly after the crisis, Buffett made his first investment in lending giant Bank of America (BAC 1.54%). It's one of the world's largest banks with a whopping $3.2 trillion in assets.
The bank was on shaky ground from the crisis, and Buffett came up with the idea to invest in Bank of America while taking a bath. The economy has been strong for years (until recent months), and the shares are down about 40% from their highs.
You can see below just how good business has been; revenue has averaged nearly 5% annual growth over the past decade, and earnings-per-share (EPS) has grown by 9% annually at the same time. Management has used profits for share repurchases, shrinking the share count by 25% during the past decade while paying a dividend that yields 2.7%.
Growing investor anxiety about a recession could be one of the factors putting selling pressure on Bank of America. It's fair to say that an economic slump would likely hurt demand for lending, but at the same time, interest rates are rising to combat inflation. Banks can make more money with higher interest rates because they can get higher yields on their new and floating-rate loans.
Since the financial crisis, the banking industry has also come a long way; regulators put in rules, including annual stress tests, to ensure that banks can withstand financial shocks. Bank of America's massive balance sheet and $31 billion in yearly profits earned it an investment-grade A- credit rating from S&P. Size can bring stability to the banking business, making Bank of America a stock that Buffett has relied on and you can too.