No. of Recommendations: 25
Per Manlobbi's suggestion, a post of mine that isn't Berkshire related, posted elsewhere, on the macro board:
https://www.shrewdm.com/MB?pid=742254939Very highly recommended reading for anyone who needs to come up with a baseline return figure to expect from broad US equities in the next 10-20 years.
TL;DR - don't extrapolate results from the last 30 years. We all did well ONLY because profits soared because of one-time falls in interest costs and taxes.
Jim
No. of Recommendations: 3
Thanks for sharing. The paper paints an incredibly grim picture, and depressingly, I find nothing within it to factually dispute.
If we follow the paper's assertion that 2% (or less) real returns are the best we're likely to see for the broader S&P 500 market for 10-20 years to come, what impact, if any, do you anticipate this having on Berkshire's forward return estimates?
Would you anticipate the falling tide in this case to lower all boats, including Berkshire to an extent?
Or do you think the P/E expansion and overvaluation of the S&P 500 is the largest driver of that 2% forward estimate (which Berkshire does not suffer from?)
I recall a previous low-end estimate you developed & shared that assumed a gradual decline in Berkshire's earnings potential to result in a long run 7% real return going forward (please correct if I'm off on that).
No. of Recommendations: 25
Would you anticipate the falling tide in this case to lower all boats, including Berkshire to an extent?
There are three or four concerns mixed together.
So, let's look at the impact of each one on Berkshire.
First, there is the issue of higher real interest rates.
This is not a problem for Berkshire as a whole, as there isn't that much debt.
The exception is inside the utilities and rails, but there is the prospect of better returns in the insurance segment which is always so cash rich and heavy in fixed income of one duration or another. So net, it's not really a material issue.
The next issue is the recently lower income taxes. I don't think that the headline rates will rise back to 35% (at which time Berkshire was paying 29.5).
However I do think they'll probably rise somewhat from today's headline 21% (with Berkshire paying 18.6).
I pencil in an expectation that headline rates will rise to 25%, bumping Berkshire's rate to 21.7%.
That can be seen as a one-time drop in the value of a share. Future earnings, the ultimate source of value, would drop by 3.8%.
One might get into an esoteric discussion about how this perhaps affects long term after-tax ROA and therefore value more than that, but let's say a one time drop in the value of a share of 4%. Unfortunate but hardly fatal.
The third issue is valuation. The broad market is expensive because of two factors: earnings are higher than historically usual on a long-cycle basis - net profit margins in the last ~15 years have been consistently higher than even what used to be considered the top end of the range. And current market multiples of those high earnings are also high. There is no way to know whether market multiples will come down, but it seems likely that net profits to which they are applied (net margins) will fall somewhat, mainly because of the tax and interest factors above. But I don't currently perceive a valuation problem for Berkshire shares. They're priced a little more richly than the recent norm today, but also priced below most reasonable estimates of actual value, so in the muddling middle, not stretched.
An indirect issue is that all the issues above may affect Berkshire's stock investments. Makes some sense. But Berkshire's stock portfolio is not concentrated in firms that have a whole lot of debt at prevailing listed bond rates, nor (other than Apple) concentrated in companies that are apparently richly valued at the moment. So a moderate one-time hit (a few year flat stretch for the stock portfolio?) might be a reasonable expectation, but not as big as would happen to the average firm, and it's hitting only a part of Berkshire's value.
So, to make a long answer shorter, yes, I think these factors will affect Berkshire, but to a MUCH smaller extent than the average firm or the cap-weighted index. To pick numbers from thin air, if all of these factors come out at the depressing mean-reversion end of things in the next decade, it might be a hit of over 4-5%/year for the broad market below "normal", but not more than 1-2%/year for Berkshire. Maybe less, because there is an upside: if broad market valuation levels come down, Berkshire's target set gets much bigger.
Not that my guess is worth much, but those are the factors you're have to make prognostications for.
Jim
No. of Recommendations: 12
... nor (other than Apple) concentrated in companies that are apparently richly valued at the moment.
FWIW
If you take BAC, AXP and OXY together as one $66 billion lump of positions, that lump is trading at about 11.8 times current run rate earnings.
Alas even in aggregate that's still only 1/3 the market cap of the Apple position, but it shows that the typical Berkshire position isn't currently showing signs of being bubbly. As is usually the case.
Speaking of big positions being cheap---
I have never been a huge fan of Bank of America, but it does seem pretty cheap these days. It has been lagging the market for two years now.
They seem to have the ability to make $3.50 a share per year lately. Outside of problem periods, anyway. That makes the current price of $33.84 look pretty good even without pencilling in any future real growth at all.
Jim
No. of Recommendations: 5
“Speaking of big positions being cheap---
I have never been a huge fan of Bank of America, but it does seem pretty cheap these days. It has been lagging the market for two years now.”
You may be spot on with its cheap price currently, but I’ve honestly been pretty frustrated owning it with only a 30% return since I initiated and added over the last 3-5 years. It has really trailed returns of other (smaller) financial positions I’ve become more fond of like JPM, AXP and V. I’ve become less confident in BAC mgt, and we’ve noted WEB has pulled out of all bank positions, except BAC. I sense WEB is loyal to BAC & really is fond of Moynihan and BRK obviously owns a huge position. JPM had only 30% ($40B) of the $130B unrealized losses that BAC had in Q3, and I just have more faith in JPM mgt team and units to execute. Just my 2 cents.
So I’ll likely sell BAC in the new year (taxable acct) but knowing my timing, it will probably soar in 2024 soon after I hit the sell button!
