Mar 11, 2022
Warren Buffett has kept a lot of cash on hand in recent years.
At the end of 2021, the cash pile at his holding company Berkshire Hathaway had grown to a near-record $146.7 billion. That shouldn’t come as a surprise. Buffett is a value investor, after all, and valuations were bloated in the U.S. stock market after significant rallies in 2020 and 2021.
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“We find little that excites us,” Buffett said in Berkshire’s most recent shareholder letter. But it seems that the Oracle of Omaha has finally found something compelling enough to make a multi-billion dollar investment in.
Last week, Berkshire snapped up 91.2 million shares of integrated oil and gas giant Occidental Petroleum (OXY). At the current share price, the stake is worth over $5 billion.
Let’s take a closer look at the move and figure out if investors should follow suit.
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Buffett bets on big oil
Berkshire backed up the truck on OXY after the company’s latest earnings conference call held in late February. Buffett read the transcript and liked what he saw.
“I read every word, and said this is exactly what I would be doing. She’s running the company the right way,” the billionaire investor told CNBC, referring to Occidental CEO Vicki Hollub. “We started buying on Monday and we bought all we could.”
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In Q4 of 2021, Occidental generated $8.01 billion of revenue, representing a 139% increase year over year. Adjusted earnings per share came in at $1.48, a marked improvement over the adjusted loss of 65 cents per share in the year-ago period.
Growth was across the board: Oil and gas revenue rose 95% year over year, chemical revenue jumped 59%, while midstream and marketing revenue more than doubled.
In the conference call, Hollub highlighted Occidental’s strong operational results, improved balance sheet and a new shareholder-return framework.
On Feb. 24, the company’s board of directors declared a regular quarterly dividend of 13 cents per share on OXY common shares, a whopping 1,200% increase over the prior quarter’s payout of just 1 cent per share. The company also announced a $3 billion share repurchase program.
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Fueling up on OXY shares
While Berkshire’s recent bet on big oil is making headlines, this isn’t the first time that Buffett has invested in Occidental.
In 2019, Berkshire spent $10 billion on Occidental preferred shares to help the company purchase its fellow Houston-based energy producer Anadarko Petroleum. Occidental pays a dividend of 8% annually on that preferred stock, providing Berkshire with $200 million each quarter in dividend income.
The arrangement also gives Berkshire warrants to purchase 83.9 million shares of Occidental common stock at an exercise price of $59.62.
Energy sector is hot
Strong commodity prices greatly benefited oil producers in 2021. Among the 11 sectors of the S&P 500, energy was by far the best performing one in 2021, returning an impressive 48%, substantially exceeding the S&P 500’s 27% gain for the year.
That gap in performance has only widened in 2022. The energy sector is already up more than 30% year to date versus the S&P’s 12% decline over the same timeframe.
It’s not hard to understand why: Oil prices were already in a clear upward trend before Russia’s invasion of Ukraine further fueled the rally.
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Bank of America recently said that crude oil could hit $200 a barrel if the West cuts off Russia’s energy exports.
A rising tide lifts all boats, but Occidental has spiked higher than most of its peers, returning a massive 87% already in 2022.
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Will the OXY rally continue?
To be sure, Buffett’s recent stake in Occidental is a big reason why investors have enthusiastically bid up the shares. In fact, they’re now trading above the price targets of several Wall Street firms that have been bullish on the company.
Morgan Stanley boosted its price target on OXY in January from $48 to $50 and maintained a buy rating. The shares now trade at around $58 a piece.
Bank of America re-rated OXY after the recent spike, downgrading it from buy to neutral on March 8. But the bank also raised its price target on Occidental to $80, roughly 38% above current levels.
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Jing is an investment reporter for Moneywise. He is an avid advocate of investing for passive income. Despite the ups and downs he’s been through with the markets, Jing believes that you can generate a steadily increasing income stream by investing in high quality companies.
