Inside Berkshire’s $397 Billion Bet Against an Overheated Market

Berkshire Hathaway just reported a record $397.4 billion in cash and T-bills, 59% of its investable portfolio. After fourteen straight quarters of net equity selling, a streak that has continued unbroken under new CEO Greg Abel, what does the nearly $400 billion in cash signal?

If one is to take Warren Buffett at his word, Berkshire is just waiting in the wings for a good deal. But he’s also never been known to publicly predict market corrections, never mind a crash, so one is left having to read between the lines.

How High Is Too High?

One such line reading bears Buffett’s name. The Buffett Indicator, a ratio that measures the market cap of the entire stock market against the GDP of the United States, has hit a record of ~232%. Historically, anything above  ~120% is a signal of the market being overvalued. 

Skeptics of the Buffett Indicator will point to money in foreign markets not included in the ratio as a reason for the disparity. That might be true to an extent. However, another metric is also flashing warning signals. The Shiller P/E, or the CAPE ratio, has breached 40% for only the second time since 1929. 

The CAPE ratio (Cyclically Adjusted Price-to-Earnings ratio), divides the price index (say of the S&P 500), by the average inflation-adjusted earnings over the past ten years. The ten-year period, intentionally long, is meant to mitigate momentary peaks and valleys and give investors an accurate appraisal of whether the market is overvalued or undervalued.

On average, the Shiller P/E ratio sits around 17%, dipping down to 10% during a recession, or surging to 44.19% at the peak of the dot-com bubble. It recently reached 41.33%. 

Is Berkshire Playing it Too Safe? 

Beyond the Buffett Indicator and the Shiller P/E, both of which serve as barometers for the broader economy, what can be gleaned from Berkshire Hathaway’s core business to also explain its nearly $400 billion war chest? 

Unlike the Magnificent 7 stocks, which remain ascendant, Berkshire Hathaway’s B shares are down 1.8% year-to-date. Berkshire is historically skittish about putting too much capital into tech, and might be suffering the consequences during tech’s historic bull run. That being said, Berkshire is not completely sitting on the sidelines either. 

It continues to be a large investor in Apple (AAPL) and has also invested $30 billion in Alphabet, deepening its bet on artificial intelligence. However, considering the immense capex being spent on AI, these investments might appear insignificant to investors. 

Beyond Berkshire’s equity investments, the conglomerate is also seeing pressure from some of its core businesses, namely its insurance wing. Berkshire’s insurance division, which includes auto insurer Geico, is arguably the cornerstone of Berkshire Hathaway. 

The insurance division accounts for 28% of revenue and 48% of Berkshire’s pre-tax earnings. Additionally, the immense pool of customer premiums acts as an interest-free loan, which Berkshire can then invest in equity markets.

However, the insurance industry across the country has hit a rough patch. Profits are down due to more expensive claims and rising premiums, brought on by extreme weather, tariffs, and changes in the way cars are manufactured. 

When a Fender Bender Costs a Fortune

In the case of auto insurance, claims have skyrocketed in the past few years. According to LexisNexis Risk Solutions, a global data and analytics company, “Since 2020, bodily injury severity has risen 20%, while severity for all material damage coverages has increased 47%.”

Modern cars are increasingly more expensive to fix. Costly cameras and sensors are placed on vehicles in vulnerable areas that are often damaged in accidents. Drivers, as a result, are often underinsured and unable to cover the costs. Additionally, foreign-made parts have become more expensive due to supply constraints, also ratcheting up the price of claims.

Given these pressures, Berkshire is working with a reduced pool of money coming in from insurance premiums. Given the uncertainty surrounding the insurance industry, Berkshire might be choosing to sit on its money pile until its insurance division, typically a key profit engine, gets retooled. 

The Oracle of Omaha Steps Down

Perhaps the biggest factor contributing to Berkshire’s slumping stock is Warren Buffett’s departure as CEO. “The Buffett Premium,” the valuation boost investors paid for Berkshire stock based on Buffett’s superhuman capital allocation skills, has historically contributed to the corporation’s high-flying stock price. 

That being so, since Buffett announced he was stepping down as CEO, the stock has declined. New CEO Greg Abel hasn’t been at the job for even a year. And although his managerial approach has been similar to Buffett’s, he doesn’t enjoy the mystique of the Oracle of Omaha, and in turn hasn’t been given the benefit of the doubt by investors. 

Instead, investors continue to shift toward momentum-driven AI stocks. But those market warning signals like the Buffett Indicator are still present. If a major selloff occurs, Berkshire’s decision to park $397.4 billion in cash might seem like a stroke of genius. 

Betting on the Next Crisis

In the fallout from the 2008 financial crisis, Warren Buffett bought $5 billion of Goldman Sachs stock and made 75% on it. In the event of a market selloff, Berkshire Hathaway will again be positioned to buy while there’s blood in the water. 

Buffett built his reputation buying when everyone else was selling. Abel now has to prove he can do the same, without the mystique that made investors take Buffett’s patience on faith. The Buffett Indicator, the Shiller P/E, and Berkshire’s own retreat from the market all point in the same direction: stocks are expensive, and the smartest money in the room is waiting. 

Whether that wait ends in vindication or irrelevance depends on a crash that hasn’t happened yet. Until it does, Berkshire holds the cash, and the market holds its breath.

Author: Tim Tolka, Senior Reporter

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The editorial team at #DisruptionBanking has taken all precautions to ensure that no persons or organizations have been adversely affected or offered any sort of financial advice in this article. This article is most definitely not financial advice.

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