After the market closes on May 15, Warren Buffett's company, Berkshire Hathaway (BRK.A -0.45%) (BRK.B -0.71%), will submit its 13F filing, which will reveal what stocks the large conglomerate bought and sold in the first quarter.
However, we already know from Berkshire's quarterly regulatory filing that the company sold more stocks than it bought and that it lowered its cost basis for its banks, insurance, and financial holdings by $1.87 billion.
In 2022, Berkshire made multiple purchases of large digital consumer bank Ally Financial (ALLY -0.45%), which specializes in retail auto lending. But with the stock having taken a hit since the banking crisis began and the U.S. potentially headed into a recession, it's worth considering whether Berkshire sold Ally in Q1. Let's take a look.
Image source: The Motley Fool.
Heading into a potential storm
Ally has performed well since the pandemic, largely on the back of elevated car values, driven by increased demand and exceptionally strong credit quality among consumers. But as credit quality begins to normalize and investors brace for a recession, there are concerns about how credit quality at the company will hold up.
In the fourth quarter of 2022, projected loan losses and delinquencies in Ally's retail auto portfolio shot up but then stabilized in Q1 of 2023, remaining within management's estimated range, although delinquencies are still a little bit higher than expected.
Part of this has to do with a strong performance from used-vehicle values. Ally management came into the year expecting used-car prices to drop 13% this year but they ended the first quarter up 8% because low inventory kept prices high. Used-car prices also jumped again in April, according to recent economic data. Management is staying conservative, however, and still expects used-car prices to decline 15% from Q1 levels and end the year down 9%.
The key for Ally is managing credit. Higher funding costs, which all banks are dealing with, also is a question. Where funding costs go from here will partly depend on what the Federal Reserve does with interest rates. But Ally has been pricing loans with higher interest rates to better account for the risk in the current environment and has been originating auto loans with interest rates of more than 10%. It is also tightening credit somewhat.
The investment thesis behind Ally is that the stock trades below its tangible book value or net worth, so it's a value play, and management believes it can generate sustainable higher returns than pre-pandemic. If executives achieve this vision, there is material upside from here. Management expects margins to bottom soon and then rebound, and that the portfolio should benefit from higher origination yields and hopefully more stable funding costs later this year.
Did Berkshire sell?
Although I don't have a crystal ball, I find it unlikely that Berkshire would sell its full position in Ally. I could see it trimming if it decided to lower exposure to the broader banking sector, which Berkshire did during the pandemic.
But Buffett and Berkshire like to buy stocks for the long haul, and I find it hard to believe that the conglomerate would have purchased Ally without expecting the company to go through some kind of recession. Buffett and Berkshire should also be well versed in the automobile industry, given their long-running investment in General Motors (Ally spun off from General Motors in 2006).
Finally, I do feel like Ally's management team has been prudently reserving for loan losses and has been transparent about its assumptions, as well as realistic about where the economy could go from here. Although turmoil in the banking market and higher funding issues have changed the situation for banks, I would be surprised if Buffett and Berkshire felt as if things have changed so dramatically that they need to eliminate the Ally position. But we'll see what happens on May 15.
