Thoughts on navigating a tough market; Empire Stock Investor; Updated Berkshire valuation; My Amtrak 'hack'
1) My colleagues Enrique Abeyta, Berna Barshay, Herb Greenberg, and I have more than 100 years of combined experience in the markets and have successfully navigated through numerous times of turmoil.
While this year's decline has been painful for many of us – though the S&P 500 Index is down 12.9%, many individual stocks are down 50% to 80% – the first thing to keep in mind is that – so far – this has been a fairly routine, relatively mild correction.
It doesn't hold a candle to the bursting of the Internet bubble from 2000 to 2002, when the Nasdaq Composite Index fell 80%... the global financial crisis, when the S&P 500 got cut in half... and the COVID-19 flash-crash two years ago – the fastest market decline ever, when the S&P 500 fell more than 30% in a mere six weeks.
If you have a conservative, unlevered portfolio anchored by some blue-chip stocks like those we've recommended in our flagship advisory, Empire Stock Investor – such as Berkshire Hathaway (BRK-B), Alphabet (GOOGL), and Goldman Sachs (GS) – and kept your more aggressive positions sized appropriately, then you're probably doing OK.
Ideally, following Warren Buffett's famous maxim, "Be fearful when others are greedy and greedy when others are fearful," you're thinking about playing offense by adding to your favorite positions.
And if your portfolio isn't constructed this way, it may be time to reevaluate. Do you own any stocks that you shouldn't? Are there any stocks that you know, deep in your gut, that you never should have bought, but aren't selling because you're hoping that they rebound to the price you bought them at so you can exit with your dignity intact? (This is the most common portfolio management mistake.)
Finally, stop checking your portfolio every two seconds. Remember, "a watched stock never rises."
Imagine you're on a ship being tossed around in a storm. If you focus on each wave, you'll get seasick in no time... so instead, fix your eyes on the horizon.
By the way, we're offering a 75% discount – only $49 – to new subscribers for the first year of Empire Stock Investor.
In it, Enrique, Berna, Herb, and I recommend our favorite big-cap stock each month that we'd be comfortable putting in our parents' retirement accounts. We're looking for low-risk stocks that are likely to double in three to five years.
You won't be surprised to hear that Berkshire was our first recommendation when we launched in December 2019 (it's up 45% versus 33% for the S&P 500).
Subscribers can also access our entire archive – including our write-ups on the stocks I mentioned above – as well as the full portfolio of open recommendations.
You can learn more and subscribe here.
Best of all, anytime in the first 30 days, if you decide it's not for you, we'll give you a full refund... It's 100% risk-free to try.
2) Speaking of Berkshire Hathaway, to calculate its intrinsic value, you simply add up the value of its two parts...
The company's investments per share are easy to calculate: As of the end of the first quarter of 2022, they totaled $536 billion, or $364,000 per A-class share. Adjusted for changes in the prices of the stocks Berkshire owns (I have a spreadsheet that updates this in real time), this dropped to $338,000 as of yesterday's close.
The value of the operating businesses is trickier...
We start by taking trailing 12-month operating (pre-tax) earnings of $31.9 billion through the first quarter of 2022. From this, we subtract $5.6 billion in insurance underwriting and investment profits, since insurance earnings are uneven and we've already factored in the value of the investments.
However, over the past decade, Berkshire's insurance operations have earned an average of $1.4 billion in annual pre-tax profit, so we add this back into the equation.
$31.9 minus $5.6 plus $1.4 = $27.7 billion, or $18,787 per A-class share.
Now we have to decide what multiple to place on this pre-tax earnings stream. Investors might disagree on this, as it reflects a wide range of businesses – ranging from low-multiple utilities and insurance companies to high-multiple businesses like a railroad or specialty manufacturing companies (like Precision Castparts or Iscar).
We use a multiple of 11 (equal to an after-tax P/E ratio of 14), which we believe is extremely conservative given that Berkshire's collection of companies is far superior to the average large U.S. business, yet the S&P 500 currently trades for 21 times trailing earnings.
So now the math is easy: Add investments per share of $338,000 to the value of the operating businesses ($18,787 times 11 = $207,000) to arrive at intrinsic value of $545,000 per A-class share.
The stock closed yesterday at $481,400, meaning it's trading at a 12% discount to its intrinsic value.
What does this mean for the outlook for the stock?
As you can see in the chart below, Berkshire has closely tracked the S&P 500 since the bottom of the market during the global financial crisis in March 2009, which isn't surprising in light of the company's size and diverse holdings:
Given its current 12% undervaluation, I think Berkshire is likely to continue tracking the index, but ultimately outperforming it by roughly two to three percentage points per year.
3) I love finding "hacks"...
I started Empire Financial Research in partnership with a large investment newsletter company based in Baltimore: MarketWise, which went public last year under the ticker symbol MKTW.
While the Empire team is scattered across the country (New Jersey... Phoenix, Arizona... Berkeley, California... etc.), a lot of the support that MarketWise provides is in Baltimore. We also film promo videos there, so I regularly take the train down – usually every week or two, but this week twice (I just took the train to Baltimore this morning, returning this afternoon)!
The trip takes roughly two-and-a-half hours on the high-speed Acela, or two hours and 45 minutes on the slower regional train, so I always used to prefer the Acela... but now I favor the regional train because it's much less expensive (usually around $50 versus $150 one way), I don't mind the extra time because I set up my computer and get a lot of work done, and, most important, because the café car on the regional train has nice booths where I can set up and spread out like this:
Look for me if you're ever on the train!
Best regards,
Whitney
P.S. I welcome your feedback at WTDfeedback@empirefinancialresearch.com.