Famed investor Warren Buffett has carved out a reputation for uncovering quality businesses at favorable valuations and holding onto them steadfastly through time. In 2016, when Buffett’s renowned conglomerate, Berkshire Hathaway, first engaged with Apple, the tech giant bore the mantle of a significant discount to the market. At that time, its price-to-earnings (P/E) ratio teetered between 10 to 14.5. Back then, pessimistic sentiments pervaded the landscape, questioning Apple’s growth trajectory, market saturation, product innovation, and absence of high-margin services segment that define its present guise.

A noteworthy shift has unfolded since that juncture. Apple has once again slipped beneath its market premium. Over the preceding half-year, the S&P 500 index has surged by 14.6%, while Apple’s share price has staggered 4.9% lower. Notably, on a particular day, Apple shares tumbled as the S&P 500 ascended. It’s a scenario where one perceives Apple’s P/E ratio dipping below that of the S&P 500, only to conclude the day on par with the benchmark, each registering at 27.9.

Besides Apple, Berkshire Hathaway’s top public equity stakes in Bank of America, American Express, Coca-Cola, Chevron, and Occidental Petroleum are all trading at markdowns compared to the S&P 500. These six stalwarts collectively constitute a formidable 78.4% of Berkshire’s investment portfolio. Let’s delve into why these companies resonate with Buffett and his team, outlining the enduring qualities that render them attractive long-term assets.

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Fortified Establishment in Their Respective Sectors

Berkshire Hathaway’s recent missive to shareholders extols Buffett’s longstanding collaborator Charlie Munger, highlighting a pivotal lesson that Munger instilled in Buffett’s investment ethos.

Charlie, in 1965, promptly advised me: “Warren, forget about ever buying another company like Berkshire. But now that you control Berkshire, add to it wonderful businesses purchased at fair prices and give up buying fair businesses at wonderful prices. In other words, abandon everything you learned from your hero, Ben Graham. It works but only when practiced at small scale.”

Munger’s counsel to Buffett marked a paradigm shift, nudging Buffett away from procuring mediocre or subpar businesses merely based on book values exceeding market values. Instead, the focus gravitated towards acquiring formidable entities at reasonable prices, steering towards a more sustainable strategy, which characterizes Berkshire’s top equity holdings today.

Apple stands tall as the vanguard of smartphones, consumer electronics, and wearable technology, delivering a suite of high-margin services. Bank of America ranks as the second-largest diversified bank trailing behind JPMorgan Chase. American Express exemplifies a premier credit card entity, alongside stalwarts like Mastercard and Visa, both of which Berkshire also holds shares in. Likewise, Coca-Cola commands the mantle of the most valuable U.S.-based beverage enterprise. Chevron, the runner-up among U.S.-based oil majors, trails ExxonMobil. Meanwhile, Occidental Petroleum, commonly known as Oxy, carves a niche as one of the most esteemed exploration and production firms, poised to ascend the ranks upon consummation of its deal with CrownRock L.P. in the prolific Permian Basin, the largest onshore oilfield in the U.S.

Collectively, Berkshire’s premier equity holdings vie for eminence in their respective domains, embodying qualities that resonate with Buffett, notably robust capital return frameworks.

Venerated Stalwarts Rewarding Shareholders

Over the past half-decade, Apple, Bank of America, and American Express have orchestrated commendable dividend hikes and stock buybacks.

AAPL Shares Outstanding data by YCharts.

Coca-Cola and Chevron have predominantly channeled efforts towards augmenting dividends. Both entities have escalated payouts by over 50% in the last decade. Chevron has executed substantial stock repurchases in the last two years, notably deploying a record $26 billion solely in the year 2023 on dividends and buybacks. Contrarily, Occidental Petroleum deviates slightly from the norm. In 2020, Oxy drastically slashed its quarterly dividend from $0.79 per share to a mere $0.01 per share. Although it has subsequently revised its quarterly payouts upwards to $0.22 per share, Oxy’s trajectory contrasts with Berkshire’s usual preference for consistent dividend vehicles.

Oxy is also synonymous with leveraging its balance sheet and incurring debts, a theme it carries forward in financing its prospective CrownRock acquisition.

In the 2023 epistle to stakeholders, Buffett extolled Oxy’s leadership, resonating confidence in the U.S. oil and natural gas landscape. With Oxy constituting 4.1% of the public equity portfolio, Berkshire’s calculated stance underscores the endeavor to regulate the position’s growth.

Compelling Propositions warranting Close Examination

You might ponder why these enterprises trade at a deficit compared to the market if they embody attributes aligning them as prudent investments. The rationale, in part, stems from the sectors these entities operate within.

Stocks from the financial segment typically command discounts relative to the broader market. Likewise, consumer staples firms like Coca-Cola are predisposed to discounted valuations. In the realm of oil and natural gas, cyclicality characterizes the sector, translating into sporadic P/E ratios during growth spurts and downturns. Investors’ proclivity towards shelling out premiums for growth-oriented entities vis-a-vis slower-paced counterparts and their penchant for stability vis-a-vis cyclical businesses further accentuate the market dynamics at play.

Despite the current storm of artificial intelligence-driven market fervor, Apple stands as a stalwart, relatively untouched by the commotion. However, challenges loom as growth from China slows and the shadow of Huawei looms overhead. This has led investors on a quest for companies with immediate growth prospects, impacting Apple’s valuation.

Commitment to a Discerning Process

Delving into Berkshire Hathaway’s substantial portfolio reveals a profound dedication to its top conviction selections. Some have weathered the test of time, enduring in Berkshire’s custody for decades. Others, such as Apple, Chevron, and Oxy, are recent entrants to the fold.

The fundamental lesson to glean is Berkshire’s acute awareness of its investment criteria, seeking companies that align with its values rather than flocking to fleeting market trends. Berkshire favors firms that boast sturdy valuations and robust capital return programs via dividends and buybacks.

For individual investors, matching personal preferences with chosen sectors is pivotal. It is equally essential to harmonize investments with risk thresholds. Warren Buffett’s emphasis on maintaining ample cash reserves and adopting a conservative investment approach stems from a bedrock belief in guarding capital and reducing downside exposure.

If risk tolerance is high or retirement is distant on the horizon, assuming more substantial risks might warrant consideration. But embarking on such a path should only occur after a thorough evaluation of comfort levels with risk and willingness to withstand stock market fluctuations.

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