Berkshire Hathaway will release quarterly earnings for Q1 2009 on Friday, May 8 after the close of trading. Earlier this week, I provided some commentary on the earnings preview that Warren Buffett presented at the Berkshire Hathaway annual meeting last weekend. Buffett indicated that Berkshire Hathaway’s book value declined by approximately 6% during the quarter. Based on Berkshire’s shareholders’ equity as of 12/31/2008, a 6% decline would amount to approximately $6.6 billion.
Much of this decline is no doubt due to the steep declines in Berkshire’s domestic and foreign equity portfolios during the quarter. If one assumes that all of the positions reported as of 12/31/2008 in Berkshire’s 13F filing were held throughout the quarter, the decline on those positions alone would have been in excess of $11 billion.
Berkshire’s Equity Portfolio Performance in Q2
As we know, the stock market has been rebounding sharply in recent weeks. The data that Berkshire will report tomorrow will be as of 3/31/2009 and will not take into account the improvements in portfolio results over the past five weeks. There are certain difficulties involved in trying to estimate Berkshire’s portfolio results in Q2. For one thing, we are in the dark regarding the exact composition of the portfolio because we still must go by the data released in the 13F reporting positions as of 12/31/2008. Obviously, those positions could have changed in 2009. This is somewhat mitigated by the fact that many of Berkshire’s holdings are “permanent” in nature and unlikely to have changed. But the fact remains that we can only roughly estimate the direction of Berkshire’s portfolio results so far in Q2.
If we assume that Berkshire’s positions in the 13F report as of 12/31/2008 were held constant up to this point, we can compare the value of this portfolio as of 3/31/2009 to the value of the portfolio at the close of trading today (Thursday, 5/7/2009). Based on these assumptions, it appears that the portfolio has rebounded by over $8 billion in Q2 so far. I have prepared a spreadsheet with the data I am using for this analysis. Please note that I have only included 13F holdings in this rough analysis and Berkshire’s positions in foreign holdings not reportable on the 13F are omitted. Exact precision was not the goal for this analysis.
Bank Holdings Lead the Way
It is particularly notable that American Express, Wells Fargo, and US Bancorp together account for $5.2 billion in gains in Q2. I regard these positions are very unlikely to have been reduced during the quarter, and in fact they may have grown given Buffett’s comments regarding the companies during the market lows in March. Other than regulatory restrictions limiting Berkshire’s holdings in bank holding companies, I believe that Buffett would have wanted to add to all three holdings at the market lows.
Equity Put Derivatives
The quarterly report is also likely to show significant mark to market losses for the equity put derivatives that Berkshire has written. As I have noted previously, these derivatives are misunderstood by the market which has led many observers to take these mark to market changes more seriously than they should given the nature of the contracts. Regardless, the mark to market impact will hit net income for the quarter. If Berkshire marked these derivatives to market again today, there would be a large gain that would likely largely or completely offset the mark to market losses recorded in Q1.
The Market is Obsessed with Short Term Results and “Headline Numbers”
The market never ceases to be obsessed with simplistic headline numbers and short term results. We will likely see a very ugly number in terms of reported net income tomorrow, but the reality is that the mark to market impact for the derivatives should be ignored entirely based on the nature of the instruments involved, which I have explained in the past. The market will also focus on a drop in Berkshire’s book value and will probably not focus on the recovery over the past five weeks which appears to have entirely offset that book value decline.
It is difficult (and probably pointless) to predict how the market will react to the quarterly report, but it is instructive to consider whether the type of volatility we have seen in market prices in recent months can possibly have a direct impact on intrinsic value. In my opinion, the daily, weekly, and even monthly swings in the prices of Berkshire’s holdings as well as the price of Berkshire itself carries virtually no meaning when it comes to evaluating intrinsic value. What matters is the underlying business fundamentals. When the fundamentals change for Berkshire’s investees or for Berkshire itself, it makes sense to revise intrinsic value assumptions.
I will reserve judgment on Berkshire’s business results for Q1 until tomorrow evening, but based on Buffett’s preview last weekend, I believe that the underlying health of the insurance and utility operations should be very solid and, while the economically sensitive subsidiaries will show weakness, they will likely be resilient compared to similar businesses outside the Berkshire umbrella. I will share my thoughts on Berkshire’s 10Q report tomorrow evening or over the weekend.