For decades, Berkshire Hathaway (NYSE:BRK.B) Chairman and CEO Warren Buffett maintained a pretty conservative approach to investing, favoring retail and banking stocks while giving a wide berth to more volatile sectors such as tech and energy. In fact, big American banks have been Warren Buffett's favorite investment because they are part of the infrastructure of the country, a nation he continually bets on. As recently as late 2019, Berkshire had large stakes in four of the five biggest U.S. banks, with Wells Fargo remaining Buffett’s top stock holding for three straight years through 2017.
But Buffett appears to have changed his investing ethos quite dramatically over the past couple of years, taking new multi-billion dollar stakes in energy and computer corporations while shunning the banking sector.
After the onset of the coronavirus pandemic in early 2020, Buffett unloaded Wells Fargo (NYSE:WFC), JPMorgan (NYSE:JPM), and Goldman Sachs (NYSE:GS) on the cheap, despite many stocks in the sector becoming significantly cheaper to own.
"I like banks generally, I just didn't like the proportion we had compared to the possible risk if we got the bad results that so far we haven't gotten," Buffett told investors at last year’s shareholder meeting.
Various analysts have shared their takes on Buffett’s banking divestments.
"What this is telling you is, he thinks we need to batten down the hatches because we're looking at a long cycle of inflation and probably stagnation. Banks are very cyclical, and all indications are that we're in a high inflation, high rate environment for a while. What that typically means is that lending activity is going to be compressed and investment activity is going to be depressed," Phillip Phan, a professor at the Johns Hopkins Carey Business School, has told CNBC.
Despite rising interest rates this year, which typically boost banks because lending margins improve, the banking sector has been hammered: WFC is down 18.9% YTD, JPM has cratered 20.3% while GS has lost 12.9% on concerns that the U.S. economy could stall as the Fed combats inflation with interest rate hikes.
Buffett’s Energy Investments
Buffett has been doubling down on his energy investments while trimming his banking holdings despite oil and gas stocks being at multi-year high valuations.
To wit, the legendary investor has added new shares in red-hot E&P companies Occidental Petroleum Corp. (NYSE: OXY) and Chevron Inc. (NYSE: CVX) despite both currently trading at multi-year highs.
According to Berkshire’s latest 13F filing, the company bought 118.3M OXY shares in multiple transactions from March 12 to March 16, bringing its stake in OXY to 136.4M shares, or ~14.6% of its shares outstanding. Berkshire also owns OXY warrants granting the right to acquire some 83.9M additional common shares at about $59.62 each plus another 100,000 OXY preferred shares.
Earlier, Berkshire revealed that it purchased about 9.4 million shares of oil titan Chevron in the fourth quarter, boosting its stake to 38 million shares currently worth $6.2 billion.
OXY has doubled over the past 12 months, while CVX is up 40.9%, with both stocks trading near multi-year highs. But, obviously, Buffet thinks they still have plenty of upside judging by the huge positions opened by his investment conglomerate.
You can bet that Buffett will continue adding to his oil and gas positions in the coming year.
David Rosenberg, founder of independent research firm Rosenberg Research & Associates Inc, has outlined 5 key reasons why energy stocks remain a buy despite oil prices failing to make any major gains over the past couple of months.
#1. Favorable Valuations
Energy stocks remain cheap despite the huge runup. Not only has the sector widely outperformed the market, but companies within this sector remain relatively cheap, undervalued, and come with above-average projected earnings growth.
Rosenberg has analyzed PE ratios by energy stocks by looking at historical data since 1990 and found that, on average, the sector ranks in just its 27th percentile historically. In contrast, the S&P 500 sits in its 71st percentile despite the deep selloff that happened earlier in the year.
mage Source: Zacks Investment Research
Some of the cheapest oil and gas stocks right now include Ovintiv Inc. (NYSE: OVV) with a PE ratio of 6.09; Civitas Resources, Inc. (NYSE: CIVI) with a PE ratio of 4.87, Enerplus Corporation (NYSE: ERF)(TSX: ERF) has PE ratio of 5.80, Occidental Petroleum Corporation (NYSE: OXY) has a PE ratio of 7.09 while Canadian Natural Resources Limited (NYSE: CNQ) has a PE ratio of 6.79.
#2. Robust Earnings
Strong earnings by energy companies are a big reason why investors are still flocking to oil stocks.
Third quarter earnings season is nearly over, but so far it’s shaping up to be better-than-feared. According to FactSet’s earnings insights, for Q3 2022, 94% of S&P 500 companies have reported Q3 2022 earnings, of which 69% have reported a positive EPS surprise and 71% have reported a positive revenue surprise.
The Energy sector has reported the highest earnings growth of all eleven sectors at 137.3% vs. 2.2% average by the S&P 500. At the sub-industry level, all five sub-industries in the sector reported a year-over-year increase in earnings: Oil & Gas Refining & Marketing (302%), Integrated Oil & Gas (138%), Oil & Gas Exploration & Production (107%), Oil & Gas Equipment & Services (91%), and Oil & Gas Storage & Transportation (21%). Energy is also the sector that has most companies beating Wall Street estimates at 81%. The positive revenue surprises reported by Marathon Petroleum ($47.2 billion vs. $35.8 billion), Exxon Mobil ($112.1 billion vs. $104.6 billion), Chevron ($66.6 billion vs. $57.4 billion), Valero Energy ($42.3 billion vs. $40.1billion), and Phillips 66 ($43.4 billion vs. $39.3 billion) were significant contributors to the increase in the revenue growth rate for the index since September 30.
Even better, the outlook for the energy sector remains bright. According to a recent Moody's research report, industry earnings will stabilize overall in 2023, though they will come in slightly below levels reached by recent peaks.
The analysts note that commodity prices have declined from very high levels earlier in 2022, but have predicted that prices are likely to remain cyclically strong through 2023. This, combined with modest growth in volumes, will support strong cash flow generation for oil and gas producers. Moody’s estimates that the U.S. energy sector’s EBITDA for 2022 will clock in at $$623B but fall to $585B in 2023.
The analysts say that low capex, rising uncertainty about the expansion of future supplies and high geopolitical risk premium will, however, continue to support cyclically high oil prices. Meanwhile, strong export demand for U.S. LNG will continue supporting high natural gas prices.
In other words, there simply aren’t better places for people investing in the U.S. stock market to park their money if they are looking for serious earnings growth. Further, the outlook for the sector remains bright.
Whereas oil and gas prices have declined from recent highs, they are still much higher than they have been over the past couple of years hence the ongoing enthusiasm in the energy markets. Indeed, the energy sector remains a huge Wall Street favorite, with the Zacks Oils and Energy sector being the top-ranked sector out of all 16 Zacks Ranked Sectors.
#3. Strong Payouts to Shareholders
Over the past two years, U.S. energy companies have changed their former playbook from using most of their cash flows for production growth to returning more cash to shareholders via dividends and buybacks.
Consequently, the combined dividend and buyback yield for the energy sector is now approaching 8%, which is high by historical standards. Rosenberg notes that similarly elevated levels occurred in 2020 and 2009, which preceded periods of strength. In comparison, the combined dividend and buyback yield for the S&P 500 is closer to five per cent, which makes for one of largest gaps in favor of the energy sector on record.
#4. Low Inventories
Despite sluggish demand, U.S. inventory levels are at their lowest level since mid-2000 despite the Biden administration trying to lower prices by flooding markets with 180 million barrels of crude from the SPR. Rosenberg notes that other potential catalysts that could result in additional upward pressure on prices include Russian oil price cap, a further escalation in the Russia/Ukraine war and China pivoting away from its Zero COVID-19 policy.
#5. Higher embedded “OPEC+ put”
Rosenberg makes a point that OPEC+ is now more comfortable with oil trading above $90 per barrel as opposed to the $60-$70 range they accepted in recent years. The energy expert says this is the case because the cartel is less concerned about losing market share to U.S. shale producers since the latter have prioritized payouts to shareholders instead of aggressive production growth.
The new stance by OPEC+ offer better visibility and predictability for oil prices while prices in the $90 per barrel range can sustain strong payouts via dividends and buybacks.
Given these factors coupled with fears that a recession might hit in the coming year, Buffett and the investing universe are going to struggle to find a more attractive sector to park their money in 2023.
By Alex Kimani for Oilprice.com
