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Can You Make Money With Mr. Warren Buffett ?

|Includes: Berkshire Hathaway inc. (BRK.B)

CAN YOU MAKE MONEY WITH Mr. WARREN BUFFETT ?

The answer is Yes, No & maybe!

By: Capital Returns _Blog

The Oracle of Omaha - Mr. Warren Buffett is widely considered and known as one of the greatest investors of our time and rightfully so by many investors. This respect and admiration is of such a high order that many mutual fund managers have a portion of their funds invested with Mr. Buffett by holding his Berkshire Hathaway (BRK.B) stock. Many other retail investors could not even invest in Berkshire Hathaway until recently when they offered a split share.

That Berkshire Hathaway is doing well is presented by Mr. Warren Buffett in the table at the start of his annual must read letter to shareholders.

The important question is whether an investor (that includes mutual fund managers) gets rewarded in the marketplace by investing into the stock. A related question is whether investors into mutual funds that buy and hold this stock are going to get rewarded for their holding. It is naturally and legally important to point out that the past is no guarantee of future performance in the marketplace. Additionally this is neither a recommendation to buy or sell this or any other investment. With all this in mind, a 10 year analysis is presented here:

BRK 'B

   

Source: Company Website 2

 
 

STOCK

 

Warren Buffett Letter to Shareholders

 

Performance

         
 

Per

Growth

Book

Growth

S& P

Growth

 

Morningstar 1

of $100

Value

of $100

500

of $100

             

Base

 

100

 

100

 

100

2002

-4.04

95.96

10

110.00

-22.1

77.90

2003

16.18

111.49

21

133.10

28.7

100.26

2004

4.3

116.28

10.5

147.08

10.9

111.19

2005

-0.02

116.26

6.4

156.49

4.9

116.63

2006

24.89

145.19

18.4

185.28

15.8

135.06

2007

29.19

187.58

11

205.66

5.5

142.49

2008

-32.14

127.29

-9.6

185.92

-37

89.77

2009

2.24

130.14

19.8

222.73

26.5

113.56

2010

21.9

158.64

13

251.69

15.1

130.70

2011

-4.76

151.09

4.6

263.26

2.1

133.45

Comp to S&P500

 

1.13

 

1.97

 

100

Stock Vs. Book

 

0.57

       

So, what does this analysis show - that over a 10 year holding period Berkshire has outperformed the S&P 500 by 13%. The analysis presented by Mr. Buffett of book value growth shows that the stock trades at a 43% discount to book value. One needs to understand why this discount exists and will it ever disappear. Only when this discount disappears will the investor realize extra ordinary gains.

On DIVIDENDS

It is important to remember that Berkshire does not pay a dividend, so one should consider that a portion of the book value includes a reinvested dividend held back by the company.

Over time the company adds to its book value by collecting dividends from its public company investments and any appreciation on their share values. Additionally Berkshire enjoys and holds on the profits from its operating businesses. The company does not pay out a dividend to its shareholders and enjoys the opportunity of re-investing all cash flows that come in through the front door.

On Berkshire Hathaway

Berkshire Hathaway predominantly is made up of two parts - an insurance company and a conglomeration of operating businesses. Over time the "Free Float" of the insurance business is invested into the acquisition of operating companies. Another is a portfolio of publicly traded companies into which the "Free Float" is invested. Berkshire book value grows from both the profits of its own fully owned insurance plus operating subsidiaries as well as the dividends received and growth in the book value of its shares held in publicly traded investments.

Your Gain

What this analysis points is that a 13% (1300 basis point) cumulative beat is what you have realized in BRK'B over the S&P 500. One needs to compare this to another investment that matched the S&P500 plus gave you a 1% annual dividend. Looking at it from this point of view your investment in BRK'B is not a home run certainly. Additionally if your mutual fund manager is holding Berkshire Hathaway you are paying out a management fee of generally 1% plus per year, along with an upfront load if you are investing through a front loaded mutual fund.

How and When can you gain?

Mr. Buffett would like you to rest well with the confidence that your shares are growing at a rate nearly double the S&P 500. The puzzling question is why the market is not pricing the shares of this excellent investor with full credit at full book value. Reasons for this disparity are many and open to debate and figuring out for yourself - maybe even worth an article of its own in the future.

My conclusion is that the Berkshire shareholder needs to develop the patience to wait for a time when either Mr. Buffett or his successors decide to share the value built into and held up locked in the book value of the company. When this day is going to come, is anyone's guess - until then a holder has to buy, hold and pray while enjoying ordinary returns from this extraordinary investor who holds cash very close to his vest. Alternately will someday the market re-price these shares closer to book value?

There are many options available for this distribution which I am sure Mr. Buffett knows of very well. He certainly has a big and liquid cash vault. On the other hand are you ever going to make extraordinary profits from this investment even if you sell the shares and take home the capital gains without the big payout?

The author runs a finance, economics and tax blog as well as a consulting firm.

Sources:

1: performance.morningstar.com/stock/performance-return.action

2: www.berkshirehathaway.com/letters/2011ltr.pdf

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.