Warren Buffett on Cash Reserves

With marketable equities, it is easier to change course when I make a mistake. Berkshire’s present size, it should be underscored, diminishes this valuable option. We can’t come and go on a dime. Sometimes a year or more is required to establish or divest an investment. Additionally, with ownership of minority positions we can’t change management if that action is needed or control what is done with capital flows if we are unhappy with the decisions being made. With controlled companies, we can dictate these decisions, but we have far less flexibility in the disposition of mistakes. In reality, Berkshire almost never sells controlled businesses unless we face what we believe to be unending problems. An offset is that some business owners seek out Berkshire because of our steadfast behavior. Occasionally, that can be a decided plus for us. * * * * * * * * * * * * Despite what some commentators currently view as an extraordinary cash position at Berkshire, the great majority of your money remains in equities. That preference won’t change. While our ownership in marketable equities moved downward last year from $354 billion to $272 billion, the value of our non-quoted controlled equities increased somewhat and remains far greater than the value of the marketable portfolio.

Buffett opened the 2023 annual meeting against the backdrop of a first quarter that had produced operating earnings of approximately $8.1 billion and a reported cash position of approximately $130 billion, an all-time record. Buffett and Munger told shareholders that the Company had bought an additional approximately $12 billion of equity holdings during the quarter, including the disclosure of stakes in Capital One Financial and additional positions in the existing financial services and energy portfolios. Buffett walked shareholders through the broader context of the March 2023 regional banking crisis, including the failure of Silicon Valley Bank and Signature Bank and the deposit migration to the money-centre banks. He argued that the regulatory response of guaranteeing all deposits at the failed institutions had been necessary to prevent a broader contagion but that the underlying incentive structure that had created the vulnerability, including the unrealised losses on the held-to-maturity bond portfolios of the regional banks, remained unresolved. Buffett also acknowledged the partial sale of additional BYD H-shares during the quarter, framing it as continued position-size discipline. On the Q&A, shareholders pressed on whether the size of the cash position implied that the opportunity set in the equity market was narrow. Buffett responded that the cash was a by-product of the willingness to wait for attractive opportunities rather than a deliberate accumulation, and that the recent deployment pace demonstrated the willingness to act when the market presented. Munger added that the discipline of waiting for fat pitches had been the central advantage of the Berkshire structure for decades and that the willingness to carry large cash positions through extended periods of low deployment had been the price of the long-term outperformance. Buffett also defended the increased concentration of the portfolio in Apple, arguing that the underlying franchise met the test of a wonderful company at a fair price and that the position size reflected that assessment. The meeting closed with Buffett and Munger reiterating the long-term framework of compounding intrinsic value per share, anchored on the insurance float, the wholly-owned operating businesses, the concentrated long-term equity portfolio and the discipline of carrying large cash reserves through extended periods of low deployment, and with Munger delivering what would prove to be his final set of public remarks at a Berkshire annual meeting before his death in November 2023.

At yearend 2022, Berkshire was the largest owner of eight of these giants: American Express, Bank of America, Chevron, Coca-Cola, HP Inc., Moody’s, Occidental Petroleum and Paramount Global. In addition to those eight investees, Berkshire owns 100% of BNSF and 92% of BH Energy, each with earnings that exceed the $3 billion mark noted above ($5.9 billion at BNSF and $4.3 billion at BHE). Were these companies publicly-owned, they would replace two present members of the 500. All told, our ten controlled and non-controlled behemoths leave Berkshire more broadly aligned with the country’s economic future than is the case at any other U.S. company. (This calculation leaves aside “fiduciary” operations such as pension funds and investment companies.) In addition, Berkshire’s insurance operation, though conducted through many individually-managed subsidiaries, has a value comparable to BNSF or BHE. As for the future, Berkshire will always hold a boatload of cash and U.S. Treasury bills along with a wide array of businesses. We will also avoid behavior that could result in any uncomfortable cash needs at inconvenient times, including financial panics and unprecedented insurance losses. Our CEO will always be the Chief Risk Officer – a task it is irresponsible to delegate. Additionally, our future CEOs will have a significant part of their net worth in Berkshire shares, bought with their own money. And yes, our shareholders will continue to save and prosper by retaining earnings.

U.S. Treasury Bills Berkshire’s balance sheet includes $144 billion of cash and cash equivalents (excluding the holdings of BNSF and BHE). Of this sum, $120 billion is held in U.S. Treasury bills, all maturing in less than a year. That stake leaves Berkshire financing about 1⁄2 of 1% of the publicly-held national debt. Charlie and I have pledged that Berkshire (along with our subsidiaries other than BNSF and BHE) will always hold more than $30 billion of cash and equivalents. We want your company to be financially impregnable and never dependent on the kindness of strangers (or even that of friends). Both of us like to sleep soundly, and we want our creditors, insurance claimants and you to do so as well. But $144 billion? That imposing sum, I assure you, is not some deranged expression of patriotism. Nor have Charlie and I lost our overwhelming preference for business ownership. Indeed, I first manifested my enthusiasm for that 80 years ago, on March 11, 1942, when I purchased three shares of Cities Services preferred stock. Their cost was $114.75 and required all of my savings. (The Dow Jones Industrial Average that day closed at 99, a fact that should scream to you: Never bet against America.) After my initial plunge, I always kept at least 80% of my net worth in equities. My favored status throughout that period was 100% – and still is.

Buffett opened the 2020 annual meeting in an empty Omaha arena, with Charlie Munger absent in person and the meeting conducted by video link against the backdrop of the COVID-driven market collapse of March 2020. Buffett told shareholders that Berkshire had deployed approximately $5 billion into the public equity market during the March collapse, had sold off approximately $4 billion of equity holdings to fund the deployment and had taken a $9.8 billion writedown on the Kraft Heinz investment reflecting the structural pressure on the packaged-food franchise. Buffett walked shareholders through the broader context, acknowledging that the COVID-driven collapse in airline demand had led Berkshire to sell the entirety of its airline equity positions - the holdings in Delta, United, American and Southwest - during April. He framed the airline sale as a recognition that the underlying business model had been changed by the pandemic in ways that were not yet visible, and that the disciplined response was to exit rather than to attempt to time a recovery that he had no edge in forecasting. On the Q&A, shareholders pressed on whether Berkshire should be deploying more aggressively into the post-COVID collapse. Buffett responded that Berkshire had not seen opportunities at the scale and the terms available in 2008, that the Federal Reserve's rapid intervention had effectively crowded out the natural buyers of crisis capital and that the Company would continue to carry a very large cash position until attractive opportunities emerged. He also defended the decision to sell the airline positions, arguing that the underlying industry economics had been structurally weak for the entire history of commercial aviation and that the pandemic had crystallised the structural disadvantage. The meeting closed with Buffett reiterating the long-term framework of compounding intrinsic value per share, anchored on the insurance float, the wholly-owned operating businesses and the discipline of carrying large cash reserves through bull markets to deploy through panics, and signalling that the succession planning for the CEO role was being executed against the long-stated plan with Greg Abel as the designated successor.

Some insurers, as well as other bond investors, may try to juice the pathetic returns now available by shifting their purchases to obligations backed by shaky borrowers. Risky loans, however, are not the answer to inadequate interest rates. Three decades ago, the once-mighty savings and loan industry destroyed itself, partly by ignoring that maxim. Berkshire now enjoys $138 billion of insurance “float” – funds that do not belong to us, but are nevertheless ours to deploy, whether in bonds, stocks or cash equivalents such as U.S. Treasury bills. Float has some similarities to bank deposits: cash flows in and out daily to insurers, with the total they hold changing very little. The massive sum held by Berkshire is likely to remain near its present level for many years and, on a cumulative basis, has been costless to us. That happy result, of course, could change – but, over time, I like our odds. I have repetitiously – some might say endlessly – explained our insurance operation in my annual letters to you. Therefore, I will this year ask new shareholders who wish to learn more about our insurance business and “float” to read the pertinent section of the 2019 report, reprinted on page A-2. It’s important that you understand the risks, as well as the opportunities, existing in our insurance activities.

Here’s one example drawn from the table above: Berkshire’s holdings of American Express have remained unchanged over the past eight years. Meanwhile, our ownership increased from 12.6% to 17.9% because of repurchases made by the company. Last year, Berkshire’s portion of the $6.9 billion earned by American Express was $1.2 billion, about 96% of the $1.3 billion we paid for our stake in the company. When earnings increase and shares outstanding decrease, owners – over time – usually do well. A third category of Berkshire’s business ownership is a quartet of companies in which we share control with other parties. Our portion of the after-tax operating earnings of these businesses – 26.7% of Kraft Heinz, 50% of Berkadia and Electric Transmission Texas, and 38.6% of Pilot Flying J – totaled about $1.3 billion in 2018. In our fourth grove, Berkshire held $112 billion at yearend in U.S. Treasury bills and other cash equivalents, and another $20 billion in miscellaneous fixed-income instruments. We consider a portion of that stash to be untouchable, having pledged to always hold at least $20 billion in cash equivalents to guard against external calamities. We have also promised to avoid any activities that could threaten our maintaining that buffer. Berkshire will forever remain a financial fortress. In managing, I will make expensive mistakes of commission and will also miss many opportunities, some of which should have been obvious to me.

Unlike bank deposits or life insurance policies containing surrender options, p/c float can’t be withdrawn. This means that p/c companies can’t experience massive “runs” in times of widespread financial stress, a characteristic of prime importance to Berkshire that we factor into our investment decisions. Charlie and I never will operate Berkshire in a manner that depends on the kindness of strangers – or even that of friends who may be facing liquidity problems of their own. During the 2008-2009 crisis, we liked having Treasury Bills – loads of Treasury Bills – that protected us from having to rely on funding sources such as bank lines or commercial paper. We have intentionally constructed Berkshire in a manner that will allow it to comfortably withstand economic discontinuities, including such extremes as extended market closures. * * * * * * * * * * * * The downside of float is that it comes with risk, sometimes oceans of risk. What looks predictable in insurance can be anything but. Take the famous Lloyds insurance market, which produced decent results for three centuries. In the 1980’s, though, huge latent problems from a few long-tail lines of insurance surfaced at Lloyds and, for a time, threatened to destroy its storied operation. (It has, I should add, fully recovered.) Berkshire’s insurance managers are conservative and careful underwriters, who operate in a culture that has long prioritized those qualities.

If the dividend rate on Bank of America common stock – now 30 cents annually – should rise above 44 cents before 2021, we would anticipate making a cashless exchange of our preferred into common. If the common dividend remains below 44 cents, it is highly probable that we will exercise the warrant immediately before it expires. Many of our investees, including Bank of America, have been repurchasing shares, some quite aggressively. We very much like this behavior because we believe the repurchased shares have in most cases been underpriced. (Undervaluation, after all, is why we own these positions.) When a company grows and outstanding shares shrink, good things happen for shareholders. * * * * * * * * * * * * It’s important for you to understand that 95% of the $86 billion of “cash and equivalents” (which in my mind includes U.S. Treasury Bills) shown on our balance sheet are held by entities in the United States and, consequently, is not subject to any repatriation tax. Moreover, repatriation of the remaining funds would trigger only minor taxes because much of that money has been earned in countries that themselves impose meaningful corporate taxes. Those payments become an offset to U.S. tax when money is brought home. These explanations are important because many cash-rich American companies hold a large portion of their funds in jurisdictions imposing very low taxes.

If the investor, instead, fears price volatility, erroneously viewing it as a measure of risk, he may, ironically, end up doing some very risky things. Recall, if you will, the pundits who six years ago bemoaned falling stock prices and advised investing in “safe” Treasury bills or bank certificates of deposit. People who heeded this sermon are now earning a pittance on sums they had previously expected would finance a pleasant retirement. (The S&P 500 was then below 700; now it is about 2,100.) If not for their fear of meaningless price volatility, these investors could have assured themselves of a good income for life by simply buying a very low-cost index fund whose dividends would trend upward over the years and whose principal would grow as well (with many ups and downs, to be sure). Investors, of course, can, by their own behavior, make stock ownership highly risky. And many do. Active trading, attempts to “time” market movements, inadequate diversification, the payment of high and unnecessary fees to managers and advisors, and the use of borrowed money can destroy the decent returns that a life-long owner of equities would otherwise enjoy. Indeed, borrowed money has no place in the investor’s tool kit: Anything can happen anytime in markets. And no advisor, economist, or TV commentator – and definitely not Charlie nor I – can tell you when chaos will occur. Market forecasters will fill your ear but will never fill your wallet.

Next up is cash. At a healthy business, cash is sometimes thought of as something to be minimized – as an unproductive asset that acts as a drag on such markers as return on equity. Cash, though, is to a business as oxygen is to an individual: never thought about when it is present, the only thing in mind when it is absent. American business provided a case study of that in 2008. In September of that year, many long-prosperous companies suddenly wondered whether their checks would bounce in the days ahead. Overnight, their financial oxygen disappeared. At Berkshire, our “breathing” went uninterrupted. Indeed, in a three-week period spanning late September and early October, we supplied $15.6 billion of fresh money to American businesses. We could do that because we always maintain at least $20 billion – and usually far more – in cash equivalents. And by that we mean U.S. Treasury bills, not other substitutes for cash that are claimed to deliver liquidity and actually do so, except when it is truly needed. When bills come due, only cash is legal tender. Don’t leave home without it. Finally – getting to our third point – we will never engage in operating or investment practices that can result in sudden demands for large sums. That means we will not expose Berkshire to short-term debt maturities of size nor enter into derivative contracts or other business arrangements that could require large collateral calls.

For tax-paying investors like you and me, the picture has been far worse. During the same 47-year period, continuous rolling of U.S. Treasury bills produced 5.7% annually. That sounds satisfactory. But if an individual investor paid personal income taxes at a rate averaging 25%, this 5.7% return would have yielded nothing in the way of real income. This investor’s visible income tax would have stripped him of 1.4 points of the stated yield, and the invisible inflation tax would have devoured the remaining 4.3 points. It’s noteworthy that the implicit inflation “tax” was more than triple the explicit income tax that our investor probably thought of as his main burden. “In God We Trust” may be imprinted on our currency, but the hand that activates our government’s printing press has been all too human. High interest rates, of course, can compensate purchasers for the inflation risk they face with currency-based investments – and indeed, rates in the early 1980s did that job nicely. Current rates, however, do not come close to offsetting the purchasing-power risk that investors assume. Right now bonds should come with a warning label. Under today’s conditions, therefore, I do not like currency-based investments. Even so, Berkshire holds significant amounts of them, primarily of the short-term variety. At Berkshire the need for ample liquidity occupies center stage and will never be slighted, however inadequate rates may be. Accommodating this need, we primarily hold U.S.

Treasury bills, the only investment that can be counted on for liquidity under the most chaotic of economic conditions. Our working level for liquidity is $20 billion; $10 billion is our absolute minimum. Beyond the requirements that liquidity and regulators impose on us, we will purchase currency-related securities only if they offer the possibility of unusual gain – either because a particular credit is mispriced, as can occur in periodic junk-bond debacles, or because rates rise to a level that offers the possibility of realizing substantial capital gains on high-grade bonds when rates fall. Though we’ve exploited both opportunities in the past – and may do so again – we are now 180 degrees removed from such prospects. Today, a wry comment that Wall Streeter Shelby Cullom Davis made long ago seems apt: “Bonds promoted as offering risk-free returns are now priced to deliver return-free risk.” • The second major category of investments involves assets that will never produce anything, but that are purchased in the buyer’s hope that someone else – who also knows that the assets will be forever unproductive – will pay more for them in the future. Tulips, of all things, briefly became a favorite of such buyers in the 17th century. This type of investment requires an expanding pool of buyers, who, in turn, are enticed because they believe the buying pool will expand still further.

We keep our cash largely in U.S. Treasury bills and avoid other short-term securities yielding a few more basis points, a policy we adhered to long before the frailties of commercial paper and money market funds became apparent in September 2008. We agree with investment writer Ray DeVoe’s observation, “More money has been lost reaching for yield than at the point of a gun.” At Berkshire, we don’t rely on bank lines, and we don’t enter into contracts that could require postings of collateral except for amounts that are tiny in relation to our liquid assets. Furthermore, not a dime of cash has left Berkshire for dividends or share repurchases during the past 40 years. Instead, we have retained all of our earnings to strengthen our business, a reinforcement now running about $1 billion per month. Our net worth has thus increased from $48 million to $157 billion during those four decades and our intrinsic value has grown far more. No other American corporation has come close to building up its financial strength in this unrelenting way. By being so cautious in respect to leverage, we penalize our returns by a minor amount. Having loads of liquidity, though, lets us sleep well. Moreover, during the episodes of financial chaos that occasionally erupt in our economy, we will be equipped both financially and emotionally to play offense while others scramble for survival. That’s what allowed us to invest $15.6 billion in 25 days of panic following the Lehman bankruptcy in 2008.

Buffett opened the 2009 annual meeting against the backdrop of the recently completed crisis-era preferred equity investments in Goldman Sachs, General Electric, Wrigley and Harley-Davidson, totalling approximately $14.5 billion of crisis-deployed capital. Buffett and Munger told shareholders that the transactions had been structured to provide Berkshire with attractive current yield on the preferred and the warrants to acquire common equity at the strike prices, and that the underlying counterparty companies were positioned to weather the cycle given the durability of their underlying franchises. Buffett walked shareholders through the Berkshire capital deployment discipline during the crisis, framing the transactions as the natural outcome of carrying the largest cash position in Berkshire's history into the downturn. He flagged that the cash had been deliberately preserved for exactly the environment in which it had been deployed, that the warrants were the optionality on the long-term recovery of the underlying franchises and that Berkshire had been able to negotiate terms that no other counterparty could have negotiated because of the size of the cash deployment, the speed of execution and the perceived long-term stewardship that Berkshire provided to the counterparty companies. On the Q&A, shareholders pressed on whether the credit crisis implied that Berkshire's own insurance subsidiaries, especially the derivative structures Berkshire had entered into, were exposed to collateral calls. Buffett responded that the equity-indexed put and the credit default swap portfolios were long-dated and that the mark-to-market losses were not realisation events, that Berkshire's balance sheet had been stress-tested through significantly worse environments than the 2008 panic and that the Company would not be a forced seller of any position. Munger added that the most important lesson of the crisis was the rarity of being able to deploy large amounts of capital at attractive terms and that Berkshire had been preparing for exactly that environment for two decades. The meeting closed with Buffett and Munger reiterating the long-term framework of compounding intrinsic value per share, anchored on the insurance float, the wholly-owned operating businesses, the concentrated long-term equity portfolio and the willingness to carry large cash reserves through bull markets to deploy through panics.

Because of the large earnings per share to be shown on our common stock under the new methods, it is certain that the shares will command a price in the market far above the option level of $50 per share, making the readily realizable value of these option warrants greatly in excess of the present cash wages that they will replace. C. The Corporation will realize an additional large annual profit through the exercise of these warrants. Since the par value of the common stock will be fixed at 1¢, there will be a gain of $49.99 on each share subscribed for. In the interest of conservative accounting, however, this profit will not be included in the income account, but will be shown separately as a credit to Capital Surplus. D. The Corporation's cash position will be enormously strengthened. In place of the present annual cash outgo of $250,000,000 for wages (1935 basis), there will be annual cash inflow of $250,000,000 through exercise of the subscription warrants for 5,000,000 shares of common stock. The Company's large earnings and strong cash position will permit the payment of a liberal dividend which, in turn, will result in the exercise of these option warrants immediately after issuance which, in turn, will further improve the cash position which, in turn, will permit a higher dividend rate -- and so on, indefinitely. 4. Inventories to be carried at $1. Serious losses have been taken during the depression due to the necessity of adjusting inventory value to market.

We continue to be blessed with extraordinary managers at our portfolio companies. They are high-grade, talented, and shareholder-oriented. The exceptional results we have achieved while investing with them accurately reflect their exceptional personal qualities. o We told you last year that we expected to do little in arbitrage during 1989, and that's the way it turned out. Arbitrage positions are a substitute for short-term cash equivalents, and during part of the year we held relatively low levels of cash. In the rest of the year we had a fairly good- sized cash position and even so chose not to engage in arbitrage. The main reason was corporate transactions that made no economic sense to us; arbitraging such deals comes too close to playing the greater-fool game. (As Wall Streeter Ray DeVoe says: "Fools rush in where angels fear to trade.") We will engage in arbitrage from time to time - sometimes on a large scale - but only when we like the odds.

In past reports we have told you that our insurance subsidiaries sometimes engage in arbitrage as an alternative to holding short-term cash equivalents. We prefer, of course, to make major long-term commitments, but we often have more cash than good ideas. At such times, arbitrage sometimes promises much greater returns than Treasury Bills and, equally important, cools any temptation we may have to relax our standards for long- term investments. (Charlie's sign off after we've talked about an arbitrage commitment is usually: 'Okay, at least it will keep you out of bars.')

Our yearend portfolio shown below includes one arbitrage commitment, Lear-Siegler. Our balance sheet also includes a receivable for $145 million, representing the money owed us (and paid a few days later) by Unilever, then in the process of purchasing Chesebrough-Ponds, another of our arbitrage holdings. Arbitrage is an alternative to Treasury Bills as a short-term parking place for money - a choice that combines potentially higher returns with higher risks. To date, our returns from the funds committed to arbitrage have been many times higher than they would have been had we left those funds in Treasury Bills. Nonetheless, one bad experience could change the scorecard markedly.

We also, though it takes some straining, currently view medium-term tax-exempt bonds as an alternative to short-term Treasury holdings. Buying these bonds, we run a risk of significant loss if, as seems probable, we sell many of them well before maturity. However, we believe this risk is more than counter-balanced first, by the much higher after-tax returns currently realizable from these securities as compared to Treasury Bills and second, by the possibility that sales will produce an overall profit rather than a loss. Our expectation of a higher total return, after allowing for the possibility of loss and after taking into account all tax effects, is a relatively close call and could well be wrong. Even if we sell our bonds at a fairly large loss, however, we may end up reaping a higher after-tax return than we would have realized by repeatedly rolling over Treasury Bills.