Buffett Knows Best: Where We See Opportunity Amongst Berkshire Hathaway’s Holdings

Director of Investments Daniel Dusina, CFA® was recently quoted in this article from U.S. News & World Report titled ‘8 Best Warren Buffett Stocks to Buy in 2023’, and wrote this blog post as a follow-up piece with his full thoughts:

Warren Buffett’s portfolio is well diversified, and while the holdings generally skew towards mature, established businesses, included also are firms that present lofty growth potential. With this in mind, top stock picks for regular investors should include some cognizance of an individual time horizon.

For regular investors that are in or approaching retirement, Procter & Gamble Co. (PG) is well-aligned due to its strong financial positioning, steady growth profile, and track record of consistent income distribution. Procter & Gamble has a low level of debt relative to operating profits, and thus is well-suited to handle challenging economic environments. The consistency of the firm’s revenue growth is encouraging as well – given the imperative nature of the products sold, PG has exhibited increased year-over-year revenue in 11 out of the last 12 quarters at an average growth rate north of 5%.  Finally, a trailing dividend yield of 3.2% can provide a buffer in periods of market stress. More importantly, the company has increased their dividend distribution each of the last 67 years and has done so at an average rate of 5.1% per year over the last 10 years. Strong financial positioning, a steady growth profile, and consistent income distribution indicate the Procter & Gamble is a top pick for regular investors that have a lower risk appetite.

For other regular investors, Taiwan Semiconductor Manufacturing Company Ltd. (TSM) is a top pick given secular tailwinds and market leadership. The industry permeation of semiconductors is vast, as chips are now found in everything from automobiles to kitchen appliances. This permeation is slated to continue, and growth in need for high performance chips will likely continue as trends like artificial intelligence continue to take hold. Taiwan Semi is in a fantastic position to take advantage of these secular tailwinds as the world’s largest manufacturer of semiconductors, and the company holds a 60% share of production in the space. TSM has previously experienced periods of choppiness given that demand in the semiconductor industry has historically ebbed and flowed, and while there is potential for near-term volatility, we believe the level of intertwinement semiconductors now have with other industries will ultimately change the cyclical nature of semiconductor firms. Considering the secular tailwinds for semiconductors and the position of leadership that Taiwan Semi holds in the space, TSM is a top pick for regular investors.

When considering stocks that may provide better insulation from a recession, the defensive nature of the health care sector should be noted. Johnson & Johnson (JNJ) in particular should be targeted as its strong balance sheet, vital offerings in the pharmaceuticals space, and healthy income distribution could offer greater capital resilience than the broader market. On its balance sheet, JNJ actually has more cash than it has outstanding debt, which could provide greater flexibility in business management should the economy slow significantly. Although Johnson & Johnson is somewhat of a healthcare conglomerate, ~50% of its earnings stem from the pharmaceuticals industry, which is certainly near the bottom of the list in terms of expenditures that consumers can eliminate should harder times emerge. For example – STELARA, the firm’s largest revenue-producing drug, is vital in the defense against ailments such as Crohn’s disease and plaque psoriasis. Lastly, Johnson and Johnson not only pays a dividend that equates to a 2.6% trailing yield today, but the company has increased its dividend distribution each of the last 61 years. To us, this consistency of dividend increases indicates that the firm has a sound management team, prudent capital allocation discipline, and competitive advantages that should lead JNJ to act in a more resilient manner relative to the domestic equity market.

If the Federal Reserve continues to operate in the aggressively restrictive stance that they have stated, profitable companies that have a high degree of earnings and cash flow relative to their current market value will continue to perform well while less profitable firms will extend their run of losses. Energy as a sector has the highest free cash flow yield in the market today, which indicates a high degree of profitability that is not currently appreciated in market prices. With tightening financial conditions, these are the exact types of businesses that investors will look for. Within the energy sector of the S&P 500, Occidental Petroleum Corp. (OXY) is in the top 5 from the perspective of free cash flow yield. With an immense amount of earnings power in an environment in which the Fed is looking to constrain growth, Occidental Petroleum will continue to shine.

Warren Buffett has operated under his famous “never invest in a business you cannot understand” mentality. While I don’t think this will change anytime soon, I do believe the Buffett and Co. will continue to be opportunistic should the market give them the chance. This could mean entering industries that have fallen out of favor due to temporary near-term headwinds, or buying into attractive businesses that are trading at a discount due to market forces. Just as the team did with Occidental Petroleum Corp. in 2019 – Buffett’s company effectively loaned OXY $10 billion in 2019 to help fund an acquisition, locking in an 8% yield or $200m annual return in the process – Berkshire Hathaway will be ready to put capital to work when others are looking to hide it under their mattress.