The fact that Berkshire Hathaway’s total cash pile is approaching $130bn shows investment veteran Warren Buffett and Charlie Munger are still having trouble finding value in the market and might be a worrying signal for investors. 
That’s the view of Russ Mould, investment director at AJ Bell, who argued that is a notable development that the two investors – who he labelled “the ultimate contrarians” – are sitting on the sidelines at this stage in the bull market.
“Yet another increase in the total cash pile at his Berkshire Hathaway, to $129.6bn, despite $12bn in net new investments in traded securities in the second quarter (mainly Apple), suggests that master investor Warren Buffett is still having difficulty in finding value in US – and perhaps global – stocks,” Mould said.
Berkshire Hathaway cash vs S&P 500 total return
Source: Berkshire Hathaway accounts, Thomson Reuters Datastream
In his annual letter to Berkshire Hathaway shareholders in February, Buffett highlighted the qualities he is looking for in a potential investment: durable competitive strengths; able and high-grade management; good returns on the net tangible assets required to operate the business; opportunities for internal growth at attractive returns; and, a sensible purchase price.
“That last requirement proved a barrier to virtually all deals we reviewed in 2017, as prices for decent, but far from spectacular, businesses hit an all-time high. Indeed, price seemed almost irrelevant to an army of optimistic purchasers,” the Sage of Omaha wrote.
“Despite our recent drought of acquisitions, Charlie and I believe that from time to time Berkshire will have opportunities to make very large purchases. In the meantime, we will stick with our simple guideline: The less the prudence with which others conduct their affairs, the greater the prudence with which we must conduct our own.”
Mould said this view and the growing cash pile held by Berkshire Hathaway should be something that investors consider closely as major equity markets such as the FTSE 100 and S&P 500 move back towards record highs.
The investment director also suggests this is something that company executives should keep in mind given how much merger & acquisition (M&A) activity is taking place in global markets.
“Research from Moody’s Analytics shows that the value of global M&A transactions reached $2.6trn in the first half of 2018, only just below the $2.65trn record of 2007 – yet Buffett and Munger have done nothing,” he said.
“Instead, they seem to be patiently building up their cash pile, waiting for what they feel are more sensible prices and it is easy to understand why.”
Performance of indices over 10yrs
Source: FE Analytics
M&A activity tends to peak when animal spirits – or the confidence and ‘gut instincts’ of investors – are high. This is especially the case when executives believe their own shares are expensive enough to be used as a valuable acquisition currency, although Mould said this is not necessarily a good thing for sellers and investors receiving those shares.
He said previous M&A, taking place in the years running up to 2007, was “a perfect example of this”. This year represented the peak in the economic, stock market and global M&A cycles, which was followed by the severe downturn of the global financial crisis.
“It is noticeable how Berkshire Hathaway’s cash pile grew in 1998-1999, just ahead of the 2000 tech bubble and stock market bust, and again in 2005 to 2007 as markets again became frothy,” Mould concluded.
“Buffett and Munger then applied that cash, buying assets at much lower valuations, in 2000 to 2003 and 2007 to 2009 as markets melted down and to great effect, judging by the subsequent returns and renewed growth in the cash position.
“Investors may therefore perhaps like to take note of how the ultimate contrarians are once more sitting on the sidelines as stock markets rise.”
Not every investor believes that Buffett and Munger are building up Berkshire Hathaway’s cash pile as they are expecting markets to go into a heavy correction, however.
FE Alpha Manager Keith Ashworth-Lord runs the CFP SDL UK Buffettology fund, which replicates the investment principles of Buffett and has an exclusive licence to use the ‘Buffettology’ name in the UK. He believes the cash could be put to use for other reasons.
On 17 July Berkshire Hathaway announced that it would be amending its share repurchase programme. Buffett and Munger now have the authority to buy back Berkshire Hathaway shares if, together, they believe that the repurchase price is below Berkshire's intrinsic value; this replaced a previous condition that the firm could not pay more than a 20 per cent premium over the then current book value of its shares.
“My take is that the announcement on 17 July indicates they could be limbering up to repurchase equity. They said they would keep $20bn as a war chest, so that’s a lot of headroom for a meaningful buy-back,” Ashworth-Lord said.
“As [Buffett and Munger] said it is hard to find sizeable acquisitions; what better than to buy the business you know best, assuming that you can buy-in at below intrinsic value?”