The 5 key takeaways from Warren Buffett's annual shareholder letter

Each year, Warren's Buffett's investment company Berkshire Hathaway puts out a letter to shareholders. These letters, which have been published publicly since 1977, are pored over by investors around to world to decipher the next moves of the investment powerhouse. This year was no different and Buffett has given us his take on the bond market, his top four businesses (or "jewels" as he calls them) and further hints about his succession plans. 

Berkshire Hathaway now holds US$270 billion in listed securities, and its largest holdings by value are in Apple Inc (US$110 billion), Bank of America (US$36 billion), American Express (US$21 billion) and Coca Cola Company (US$20 billion).

Buffett is a known believer in the American consumer, and for being a value investor who backs businesses, not stocks. That said, he's still learning at the fine age of 90 years old, and admits freely to making a few mistakes over the years, which he openly discusses in his letter. 

In his recent letter, he laments the $11 billion write-down of Precision Castparts Corp (PCC) saying "I was wrong". 

His 2020 annual letter to shareholders (note: the letter is always named for the preceding year as it looks back, before looking forward)  which you can read here, borders on the nostalgic, offering a homage to the great American dream to build a business and become a billionaire. 

5 KEY TAKEAWAYS FROM WARREN BUFFET'S latest letter: 

# 1 Never bet against America 

"In its brief 232 years of existence, however, there has been no incubator for unleashing human potential like America. Despite some severe interruptions, our country’s economic progress has been breathtaking," he wrote. 

Buffett is renowned for believing in the power of America and he puts his money where his mouth is. His belief in American consumerism shows up clearly in the Berkshire Hathaway portfolio. As you go down the list past Bank of America and American Express, the Berkshire major holdings are littered with American staples from Kraft Heinz Co to Coca Cola Co. 

Berkshire Hathaway also has the highest level of investment in American-based "business infrastructure" than any other company at a total asset holding of US$154 billion, followed by AT&T at US$127 billion. These assets include property, plants and equipment assets. 

# 2 Beware the Emperor with no clothes - there are a few out there

Fundamentals are still the most important thing and Buffett makes a deft swipe at conglomerates and overvalued growth stocks in the same breath. The "business emperors" will be caught out in the nude, he said.

"Investing illusions can continue for a surprisingly long time... At a point, also, the soaring price of a promoted stock can itself become the “proof” that an illusion is reality."

Buffett writes about how to invest in businesses, and while he may not always control the operations of those companies he never lets them out of his sight. He recommends investing in a company based on its "durable strengths, the capabilities and character of its management, and price".  

#3 Ditch bonds: fixed income is "bleak"

Bonds are not the place to be these days. Can you believe that the income recently available from a 10-year U.S. Treasury bond – the yield was 0.93% at year end – had fallen 94% from the 15.8% yield available in September 1981?

It's a pretty dire assessment for fixed income investors. Buffett's opinion decimates the bond market, saying that investors are trying to justify "pathetic returns" by taking on riskier and riskier loans. 

Over the past week, a rapid sell-off of US Treasuries has upended the stock market and investors did exactly what Buffett has critiqued and bought into debt of deteriorating quality and higher risk to try and chase better returns. 

#4 Billionaires make mistakes

Despite investors elevating Buffett to a god-like status, he is in fact human and openly admits to making the wrong call when it happens. The most recent of these, he writes, was the purchase of aerospace manufacturer Precision Castparts (PCC) at an overvalued price in 2016. This led to an $11 billion "ugly" write-down when the pandemic hit last year. 

PCC is far from my first error of that sort. But it’s a big one.

Buffett stands by the company, however, saying that current CEO Mark Donegan is a "passionate manager", but Buffett was too optimistic in 2016 about its profit potential. 

#5 Apple: still the biggest of Berkshire's family jewels 

Buffett outlines four companies he refers to as the "family jewels". Three of these companies are largely controlled by Berkshire Hathaway, only Apple is a non-controlled investment with Berkshire owning a 5.4% stake in the company. 

• BNSF - America's largest railroad by freight volume was acquired by Berkshire in 2010. It owns 23,000 miles (37,000kms) of track across 28 states. Over that period, BNSF has paid $41.8 billion dividends to Berkshire shareholders. 

• Berkshire Hathaway Energy (BHE) - This is Berkshire's utility business, targeting a transition to cleaner energy sources by 2030. Its annual earnings have grown from $122 million to $3.4 billion over the past 20 years, but interestingly, the company pays out no dividends.

• Berkshire Hathaway Insurance - This is one of Berkshire's oldest businesses, with ownership dating back to 1967. In 2019, Buffett reported the insurance arm operated at an underwriting profit for 16 years of the last 17 years, with a total pre-tax gain of US$27.5 billion. The insurance arm includes the popular insurance brand Geico among its subsidiaries. 

• Apple Inc - Buffett reported his stake in Apple in 2018 cost $36 billion. From this, Berkshire has collected US$775 million in dividends. As was widely reported last month Berkshire pocketed US$11 billion from the sale of Apple shares in November 2020.

Buffett's interest in Apple has been tracked religiously and his latest sell down of Apple at the end of last quarter has bemused analysts. In the annual letter Buffett reveals his strategy in more detail: 

"Despite that sale – voila! – Berkshire now owns 5.4% of Apple. That increase was costless to us, coming about because Apple has continuously repurchased its shares, thereby substantially shrinking the number it now has outstanding," wrote Buffett

An admirable feat in itself, but even better, through a complex system of repurchasing, Berkshire now holds more shares in Apple and is expected to have a higher ownership in Apple over time. 

"We also repurchased Berkshire shares during the two and a half years, you now indirectly own a full 10% more of Apple’s assets and future earnings than you did in July 2018," he wrote. 

The magical "king of compound", can now add "regent of repurchasing" to his many titles. 

Berkshire's succession plans: Jain and Abel

With Buffett turning 91 this year and his business partner Charlie Munger just turned 97, shareholders eagerly scan the annual letters to see if there have been any fresh signs on nominating a successor. 

Ajit Jain, head of Berkshire's insurance arm will be a spritely 70 years old this year and Greg Abel,  head of the energy arm, is a spring chicken at 59. The duo was promoted to the vice-chair roles in 2018, the same title as Munger holds, spurring speculation that this might be Buffett's succession plan. 

While the annual letters remain quiet on this front, with each vice-chair running one of the family jewels the odds certainly look favourable for Jain or Abel to take the reins in the near future - or perhaps they both will?

Conclusion

So, for another year Buffett and Munger have staved off any discussion of retirement plans in the annual letter. In fact, Buffett looks forward to welcoming shareholders back to a face-to-face Annual General Meeting in 2022. 

This year, however, the annual event, will remain online. You can stream a Live Q&A with Warren Buffett and Charlie Munger on 1 May 2021 at 1:00pm EDT (Eastern Daylight Time). Vice-chairs Ajit Jain and Greg Abel will also be answering questions on stage. 

The Annual General Meeting will begin at 5:00pm EDT. 

 "Direct your really tough questions to Charlie!" said Buffett. 

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