KEY POINTS
- Warren Buffett’s Berkshire Hathaway has been a net seller of stocks for 5 straight quarters, totaling $39 billion in net equity sales
- This massive shift in Buffett’s investing approach raises questions about whether the market is overvalued
- Buffett cites “casino-like behavior” in the market and does not want to risk permanent loss of capital
- With a record $167 billion in cash, Buffett is patiently waiting for better deals and bargains
- Historical data shows Buffett’s patience often pays off handsomely for Berkshire shareholders
Omaha, NE – Warren Buffett, the legendary investor and CEO of Berkshire Hathaway, has sent shockwaves through Wall Street in recent months as filings show he has been steadily selling off stocks for five consecutive quarters now. This massive shift away from Buffett’s typical buy-and-hold investing approach has raised serious questions among market watchers about whether stocks are significantly overvalued right now.
In total, Buffett has sold nearly $39 billion more in stocks than he has bought over the past 15 months. For an investor known for his patience and willingness to tune out short-term market swings, this sustained selling spree certainly seems like a warning bell that the market could be approaching a cliff.
So what exactly prompted the “Oracle of Omaha” to suddenly hit the brakes on his equity purchases? In his recently released shareholder letter, Buffett made several references to the “casino-like behavior” he is seeing in the stock market nowadays. He also reiterated his firm rule to never risk permanent loss of capital.
With stock valuations stretched by many historic measures, it appears Buffett has grown wary of joining the frenzied speculation in overpriced shares. The S&P 500’s cyclically adjusted price-to-earnings ratio (CAPE), for instance, recently hit 34 – nearly double its historic average of 17 and one of the highest levels ever recorded outside of a bear market.
Rather than chasing sky-high valuations, the 92-year-old investing guru has opted to bide his time, steadily building Berkshire’s cash reserves to a record $167 billion. Buffett is surely not bearish on the U.S. economy over the long run. However, he refuses to compromise on price, no matter how tempting the prospects of rising markets may be.
This disciplined approach has served Buffett exceptionally well over his six-decade investing career. Again and again, his patience during periods of market euphoria has allowed him to strike at beaten-down valuations when others lose their nerve. And with the U.S. stock market having tripled over the past decade, the opportunities for bargain hunting have been few and far between recently.
Now, as fear of missing out pushes investors to take on added risks, Buffett is choosing to wait quietly from the sidelines. History shows this strategy can unsettle Berkshire’s shareholders in the short term, but often yields substantial outperformance over the long run.
With a mountain of dry powder at the ready, many investors are eager to see where Buffett plans to deploy his capital once valuations again reach more attractive levels.
Oracle’s Aversion to Overpaying
While Wall Street often gets lost in projecting short-term market moves, Buffett’s actions remain driven by long-term business fundamentals. In his 2022 shareholder letter, Buffett writes:
“One investment rule at Berkshire has not and will not change: Never risk permanent loss of capital. Thanks to the American tailwind and the power of compound interest, the arena in which we operate has been — and will be — rewarding if you make a couple of good decisions during a lifetime and avoid serious mistakes.”
This philosophy of avoiding overpriced assets and preserving capital has allowed Berkshire’s book value per share to compound at 20% annually over the past 57 years.
Yet when markets are frenzied and valuations stretched, sticking to this discipline can mean incurring some short-term pain. Presently, with investors clamoring to buy the dip on every market pullback, Buffett’s caution stands out in stark contrast.
But this is not the first time the Oracle has bucked the crowd in avoiding overheated corners of the market. Back in the late 1990s, Buffett shunned the skyrocketing internet stocks of the dot-com bubble. Berkshire massively underperformed for several years as speculative tech shares soared.
When the bubble inevitably burst, however, Berkshire’s prudence was handsomely rewarded. While the broader market fell 49% from peak to trough, Berkshire booked gains of 13% over the same timeframe.
This demonstrated Buffett’s willingness to endure short-term underperformance to maximize long-term returns. As growth stocks continue their meteoric rise today, Buffett appears to be following a similar playbook.
Signs Point to Overvaluation
So what signals are Buffett and his investing team seeing that warrant such caution? The Shiller price-to-earnings ratio for the S&P 500 is flashing warning signs that valuations have become dangerously stretched.
Also known as the cyclically adjusted PE or CAPE ratio, this metric averages earnings over the past 10 years to smooth out short-term fluctuations. The Shiller P/E has averaged 17 over its 150+ year history. But presently, it sits at 34 – implying stocks are twice as expensive as their historic norm.
Hedge fund legend Stan Druckenmiller sees ominous parallels to the massively overpriced markets just before the dot-com crash. He recently told CNBC:
“I have no doubt we are in a raging mania in all assets. I also have no doubt that I don’t have a clue when that’s going to end. I mean, I knew the dot-com thing was a bubble. Valuations got to levels that were insane. I recall Joe Kernen laughing at me on TV for saying that. But no one, including me, knew it was going to go another 50 percent. This is very similar.”
Indeed, the previous four times the Shiller P/E breached 30 in a bull market, the S&P 500 subsequently lost 20% to 89% in the years after.
In addition to stretched valuations, Buffett also called out the influx of day traders and Robinhood speculators making the market resemble a casino. Mobile trading apps have attracted droves of novice investors chasing short-term gains. Many seem oblivious to historically high valuations and fundamentals.
Buffett further noted that these new participants exhibit even less discipline than he did as an amateur investor back in the 1950s. With buyers exhibiting little regard for price or risk, he sees prudent investors having to take up the mantle of being valuation-conscious for the broader market.
Patience Amid the Mania
Rather than joining the risk-on euphoria, Buffett is returning capital to shareholders through aggressive share repurchases. Berkshire bought back $27 billion of its own stock last year. Since stock prices remain high, Buffett sees this as preferable to deploying the $30+ billion he generates in annual free cash flow into new investments.
Timothy Lesko, portfolio manager at Granite Investment Advisors, believes Buffett’s maneuvers signal an air of caution about owning equities at current valuations:
“He is under no pressure to put capital to work given the amount of cash Berkshire is generating. Buffett intends to focus on value, valuation, and prudent capital allocation.”
Other market experts point out that Berkshire does still have some equity exposure in sectors Buffett views as reasonably priced. Berkshire initiated a large $4.1 billion stake in oil producer Occidental Petroleum in 2022, likely seeing an inflation hedge and underappreciated value. The Oracle also continues to hold massive positions in Apple, Bank of America, American Express, and Coca-Cola – stocks he sees offering compelling risk-reward profiles.
So while Buffett is trimming exposure in places he deems fully valued, he retains select bets to still benefit from the broader market’s gains. This balanced approach exemplifies Buffett’s mantra of being greedy when others are fearful and fearful when others are greedy.
Waiting For the Pitch
With a near-record $167 billion cash pile now at the ready, Buffett has plenty of “dry powder” to deploy for his next major move. Berkshire has gone several years since its last mega-acquisition such as buying Precision Castparts in 2015 for $32 billion.
Many onlookers eagerly anticipate Buffett putting more of this capital to work once market conditions again align with his value-focused strategy. The Oracle himself affirms he will eventually find avenues to sensibly deploy the cash at Berkshire’s disposal:
“The probabilities of Berkshire ever again doing something truly monumental in an acquisition are low. Our capital resources will instead be deployed primarily in equity securities that we expect, over time, to deliver major gains.”
As patience has proven profitable for Buffett time and time again, he appears content to wait as long as needed for his next “fat pitch” purchase opportunity. With Berkshire’s mountain of cash continuing to grow, the Oracle’s discipline could soon be rewarded with his next big capital allocation home run.
So while many investors watch the market’s daily gyrations with unease, the Oracle of Omaha remains laser-focused on long-term business fundamentals. With an investing career spanning over half a century, Buffett understands that enduring short-term underperformance is often required to achieve outsized long-term results.
Only time will tell whether Buffett’s cautious stance and hoard of cash is ill-advised in the current bull market. But if history is any guide, doubting one of the greatest investors ever may prove foolish. As Buffett himself said, “Someone’s sitting in the shade today because someone planted a tree a long time ago.”
