Few investors command the attention of a room quite like Berkshire Hathaway (BRK.A 0.32%)(BRK.B +0.03%) CEO Warren Buffett. A little more than a week ago, the Oracle of Omaha, as he's come to be known, hosted Berkshire Hathaway's latest annual meeting in Omaha, Nebraska. In a half-century, these gatherings have grown from a couple dozen people to well in excess of 30,000 shareholders/investors.
Investors listen to Warren Buffett because of his track record. While he's not infallible, he does have a history of running circles around the benchmark S&P 500 (^GSPC 0.92%). Since taking the reins in the mid-1960s, Berkshire Hathaway's Class A shares (BRK.A) have lapped the total return of the S&P 500, including dividends paid, 153 times.
But even the world's greatest investors run into conundrums.
Berkshire Hathaway CEO Warren Buffett. Image source: The Motley Fool.
The Oracle of Omaha has a glaring $100 billion problem
In addition to the five-hour question-and-answer session Buffett and his right-hand man, Executive Vice Chairman Charlie Munger, granted to investors during Berkshire Hathaway's annual shareholder meeting, Buffett's company also released its first-quarter operating results.
Superficially, everything looks great. Operating earnings growth (meaning operating profits from businesses Berkshire owns, sans investment and derivative gains/losses) jumped 12% to more than $8 billion. Insurance was a particularly bright spot, with earnings before income taxes more than doubling to $3.59 billion from $1.58 billion in the comparable quarter in 2022.
However, dig a bit deeper into Berkshire Hathaway's quarterly report and you'll find a figure that isn't so rosy.
When the March quarter came to a close, Berkshire Hathaway was sitting on $130.6 billion in cash, cash equivalents, and U.S. Treasury bonds. That's up just a shade over $2 billion from where Berkshire closed out 2022.
NYSE: BRK.B
Key Data Points
While having added cash on hand would normally be a good thing for most publicly traded companies, an increase in Berkshire Hathaway's cash balance tells a different tale. It signals that the Oracle of Omaha and his investing lieutenants, Todd Combs and Ted Weschler, aren't finding great companies at a fair price and are choosing to sit on their cash (or invest it in Treasury bills) as opposed to putting it to work in various stocks.
Between Oct. 1, 2022, and March 31, 2023, Buffett and his team collectively sold approximately $25 billion more in equity securities than they purchased. It's a silent but seemingly glaring admission that most stocks aren't attractively priced.
Since the criteria governing Berkshire Hathaway stock buybacks require the company to have at least $30 billion in cash, cash equivalents, and U.S. Treasuries on its balance sheet, Buffett and his lieutenants have roughly $100 billion available to put to work and no clear avenues to deploy it as long as stock valuations remain elevated.
Historically speaking, the stock market is pricey
To be clear, Warren Buffett is not the type of investor to ruffle Wall Street's feathers and suggest that stocks are expensive or the U.S. economy is in trouble. In fact, the Oracle of Omaha has relentlessly defended investing in America for years via his annual letter to shareholders and during his company's annual shareholder meetings. But at some point, actions (i.e., a lack of buying activity) speak louder than words.
As of May 10, the broad-based S&P 500 was valued at a forward-year price-to-earnings (P/E) ratio of 18. Over the past quarter of a century, this is pretty much right in the middle of its valuation range. But when taking into account that the S&P 500 plunged into a bear market last year, it's also quite pricey. Since the start of 1999, the vast majority of sizable stock corrections and bear markets in the S&P 500 have bottomed with the benchmark index at a forward P/E ratio of between 13 and 14. The S&P 500's forward P/E ratio never dipped below the mid-15s in 2022.
S&P 500 Shiller CAPE Ratio data by YCharts. CAPE Ratio = cyclically adjusted price-to-earnings ratio.
Another telling valuation metric is the S&P Shiller P/E ratio, which is also known as the cyclically adjusted price-to-earnings ratio, or CAPE ratio. While the traditional P/E ratio takes into account a company's share price relative to its trailing-12-month earnings or future-year earnings, the Shiller P/E ratio is based on average inflation-adjusted earnings from the previous 10 years.
Without digging too far into the weeds, anytime the Shiller P/E has surpassed 30, bad things have eventually happened. Back-testing to 1870, there have been five previous instances where it surpassed and held 30. Eventually, all five instances led to drops of at least 20% in the S&P 500. A sixth such occurrence of the S&P Shiller P/E surpassing 30 happened in early February 2023.
Even consumer staples stocks, which are often well-known, highly profitable, dividend-paying companies, are now notoriously pricey. For instance, investors are paying a multiple of 37 times this year's consensus earnings to own shares of Clorox (CLX 0.10%). Even though Clorox provides basic necessity goods that are expected to be purchased in any economic environment, sales growth is expected to come in below 2%. That's a steep price to pay for sales growth that isn't even pacing the rate of inflation.
The Clorox story isn't unique. Consumer staples stocks, tech stocks, and a host of other sectors and industries are seeing their valuations expand to potentially unsustainable levels in the short run.
Image source: Getty Images.
Buffett's time in the market is what counts
In one respect, seeing Berkshire Hathaway's cash pile expand during an already downtrodden stock market must be disappointing for Wall Street and the investing community. But if investors widen their lens a bit, chances are that disappointment will dissipate.
Warren Buffett may not have a perfect investing track record, but he has a knack for sticking with his winners. Picking winners often means being picky and waiting for wonderful companies to trade at a fair price.
The Oracle of Omaha has been holding shares of beverage company Coca-Cola, credit-services provider American Express, and credit-rating agency Moody's for 35, 30, and 23 years, respectively. Each of these brand-name companies has delivered a four-digit percentage unrealized return. In other words, Wall Street has no reason to penalize Buffett for being picky since his track record shows it can result in some true multibaggers.
Additionally, keep in mind that the Oracle of Omaha isn't a novice when it comes to bear markets and possible economic downturns. Some of Buffett's best investments have come during periods of intense fear and panic on Wall Street. Having a sizable treasure chest can come in handy when problems arise on Wall Street.
Ultimately, Buffett's patience is what's fueled Berkshire Hathaway's investment gains. While there may not be an easy fix for the extended valuations we're seeing in a number of sectors and industries, history shows that market downturns tend to be short-lived and long-term optimism prevails.
