With the rush of Q3 reports and disclosures, we want to draw your attention to a move by the Oracle of Omaha. Warren Buffett expanded Berkshire Hathaway’s bank stock holdings to 41% of its total portfolio. His total holdings in banks now exceed $86 billion dollars, spread across ten different institutions. $13 billion of that was purchased during the quarter. Clearly, Mr. Buffett sees value in banks right now. In fact, he sees so much value in the sector that almost a third of his $13 billion in new bank investment – $4 billion – was put down on a new acquisition, JP Morgan (JPM – Research Report).
Why bank stocks?
At least one part of the reason is easy to understand. The banking sector has underperformed in the stock markets over the past year, making these stocks a comparative bargain. In terms of numbers, the S&P 500 has gained 2.4% this year, while bank and financial stocks have slipped 4%. Buffett can see that, too, and he did not get to be Warren Buffett by paying full price.
In addition, it’s been almost a year since the Republican Congress and the Trump Administration passed their tax cut package, and during that year banks have been among the biggest winners. The cut in the corporate tax rate – from 35% to 21% – has given a great boost to bank earnings, elevating the bottom line by as much as 40%.
And third in a list of recent factors, the US Federal Reserve has been slowly ramping up interest rates. The changes are still small, but the policy direction is clear and it’s only a matter of time before the banks feel comfortable boosting their own lending rates. Long-term, the Fed rate policy bodes well for bank profits.
Let’s make a quick digression, because it’s important to point out here that Buffett’s attraction to bank stocks is nothing particularly new. Berkshire’s portfolio has featured American Express and Wells Fargo for decades, and it’s well known that Buffett sees banks as ‘forever stocks.’ They offer a service – the storage and lending of money – that will always be in demand, and so they will always find a market.
So current business conditions and a personal preference partly explain Buffett’s move. It’s instructive, however, to dive a little deeper and look at why me made the investment choices that he did.
Splitting the investments
For starters, Buffett couldn’t just dump $13 billion into his favorite bank stock. Federal regulations and reporting requirements change when a single investor takes a 10% or greater stake in a single company, so Buffett was careful to keep his acquisitions below that level. His largest bank holdings are Wells Fargo (a 9.1% stake), Bank of America (8.8%), and US Bancorp (7.7%). Buffett owns 17% of American Express, but as a financial service corporation, rather than a bank, the rules are slightly different for Amex. Buffett kept his holdings in that company below the Fed’s reporting threshold. On an interesting point, his new stake in JP Morgan, while large, represents just 1% ownership in that company – it will be interesting to see if he expands this holding going forward.
Moving on, Buffett has always liked diversity in his stocks. Even though his portfolio now leans heavily on the banking sector, no one bank makes up a majority of his investment. He was careful to avoid putting too much of his money in any one place; a typical prudent – and dare I say frugal? – Buffett investment tactic.
So Warren Buffett has been aggressively investing in the banking sector, even to the point of putting $4 billion into JPM as a new holding. Let’s take a quick look at some of his bank investments and see how TipRanks’ top analysts rate them.
Wells Fargo & Company (WFC – Research Report)
Wells Fargo is currently trading at $52 per share, and edging down slightly. The stock has a 19% upside potential, however, owing to the average price target of $63. The analyst consensus here is a ‘Moderate Buy.’
Five-star analyst Marty Mosby (Track Record & Ratings) of Vining Sparks set a strong case for an upbeat outlook on WFC, saying, “…we believe the fundamental profitability and earnings power of WFC ’s franchise is still intact … WFC should still generate mid-single digit underlying shareholder value annually from dividend payouts and TBV growth alone. We believe this meaningful shareholder value creation paired with its currently pressured valuation should provide long-term investors who can wait for its inflection point in 2019E the opportunity to realize total returns over 20% over the next 12 months.” Mosby gives a $66 price target, and his 24% upside is higher than the average.
Bank of America Corporation (BAC – Research Report)
Buffett’s second largest bank holding is Bank of America. BAC is currently trading at $27 per share and has been trending up in the markets since last week. The bank is finding support from a solid Q3 report that beat estimates in both earnings per share and interest margin. Quarterly net income came in at a robust $7.2 billion. CEO Brian Moynihan pointed to an overall strong economy and healthy consumer spending underpinning the “pre-tax earnings in our company’s history.”
Oppenheimer’s Chris Kotowski (Track Record & Ratings) reiterated his ‘Buy’ on BAC with a price target of $37, 37% higher than the current price. The analyst consensus on this one is a ‘Moderate Buy,’ and the average price target of $35 gives a 25% upside potential.
US Bancorp (USB – Research Report)
US Bancorp is the third largest of Buffett’s bank holdings this quarter, and at $55 per share is the second-highest priced. The stock has a 7% upside potential, with a $59 average price target. The analyst consensus, like the others, is a ‘Moderate Buy.’
It’s interesting to note here that USB saw upgraded ratings just last month. Oppenheimer’s Kotowski upgraded US Bancorp from ‘Perform’ to ‘Outperform,’ while Macquarie’s David Konrad (Track Record & Ratings) moved from ‘Neutral’ to ‘Outperform.’ Both men set their price targets at $62, a 12% upside from the current price. Konrad added his belief that “USB is at an inflection point with processing revenues and operating leverage driven by stronger growth.”
JP Morgan Chase & Co. (JPM – Research Report)
JPM is the highest-priced of the banking stocks that Buffett acquired, at $110 per share. The $127 average price target gives it a 15% upside potential.
That potential was noted just this week by Wells Fargo analyst Mike Mayo (Track Record & Ratings) – in response to Berkshire’s $4 billion buy, no less – when he reiterated his ‘Buy’ rating and price target of $130. Mayo also elaborated on his prediction that JPM’s earnings have not yet peaked, saying, “we forecast 50% higher EPS for JPMorgan Chase in 2022 vs 2018E ($13.65 vs $9.10) due to improving efficiency, share buybacks and higher returns.” Mayo’s price target gives an 18% upside, somewhat higher than the average.
Author: Michael Marcus