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Investment Opportunity from ‘Value Gap’

Since taken over by Warren Buffett in 1964, Berkshire Hathaway (BRK) has made investment gain of a total of 1,826,163% for anyone who holds its stock in the last 50 years (until 2014). This means that if you buy BRK for US$ 1,000 in 1964 and still holding it until the end of 2014, then by ignoring the factor of inflation, your investment is now worth.. US$ 18.3 million.


Although the numbers look fantastic, but do not forget that you need to wait for 50 years to earned such fortune. But that’s not what we’ll discuss in here. In this article, we will focus on the fact that although the stock of BRK tend to rise steadily in the loooooong term, but it could also decline in a given year, usually because the company posted financial performance that is not as good as the year before, whether because of decline in net earnings or net equity. Warren himself states that in the last 50 years, Berkshire stock had three times plummeted by more than 50%. Thus, although in the long term BRK shares will eventually continue to rise, but at certain times, some people may instead suffer huge losses from their investment in Berkshire.

More specifically, the following is the data of the percentage growth of net assets/equity of BRK, compared with the percentage of increase or decrease in the price of its shares each year, from 1964 to 2014. Data in percent:

Year Equity Value Market Value ‘Value Gap’
1965 23.8 49.5 (25.7)
1966 20.3 (3.4) 23.7
1967 11.0 13.3 (2.3)
1968 19.0 77.8 (58.8)
1969 16.2 19.4 (3.2)
1970 12.0 (4.6) 16.6
1971 16.4 80.5 (64.1)
1972 21.7 8.1 13.6
1973 4.7 (2.5) 7.2
1974 5.5 (48.7) 54.2
1975 21.9 2.5 19.4
1976 59.3 129.3 (70.0)
1977 31.9 46.8 (14.9)
1978 24.0 14.5 9.5
1979 35.7 102.5 (66.8)
1980 19.3 32.8 (13.5)
1981 31.4 31.8 (0.4)
1982 40.0 38.4 1.6
1983 32.3 69.0 (36.7)
1984 13.6 (2.7) 16.3
1985 48.2 93.7 (45.5)
1986 26.1 14.2 11.9
1987 19.5 4.6 14.9
1988 20.1 59.3 (39.2)
1989 44.4 84.6 (40.2)
1990 7.4 (23.1) 30.5
1991 39.6 35.6 4.0
1992 20.3 29.8 (9.5)
1993 14.3 38.9 (24.6)
1994 13.9 25.0 (11.1)
1995 43.1 57.4 (14.3)
1996 31.8 6.2 25.6
1997 34.1 34.9 (0.8)
1998 48.3 52.2 (3.9)
1999 0.5 (19.9) 20.4
2000 6.5 26.6 (20.1)
2001 (6.2) 6.5 (12.7)
2002 10.0 (3.8) 13.8
2003 21.0 15.8 5.2
2004 10.5 4.3 6.2
2005 6.4 0.8 5.6
2006 18.4 24.1 (5.7)
2007 11.0 28.7 (17.7)
2008 (9.6) (31.8) 22.2
2009 19.8 2.7 17.1
2010 13.0 21.4 (8.4)
2011 4.6 (4.7) 9.3
2012 14.4 16.8 (2.4)
2013 18.2 32.7 (14.5)
2014 8.3 27.0 (18.7)
Average 19.4 21.6 (2.2)

Now, before we discuss the long table above, I will explain first, what is meant by the value gap (please read this section carefully!). If you googling the internet, there are several explanations about the value gap, but value gap here is the difference between the percentage of increase/decrease in the value of net assets/equity of Berkshire, or in other words the real value of the company, with the percentage of increase/decrease in the price/market value of the shares. If the number is negative in a given year, meaning that during the year, Berkshire stock price rose higher than the equity value of the company. And if the number is positive in a given year, it means the opposite, Berkshire's equity value rises higher than its stock price.

So if someone wanted to invest for the long term in Berkshire, he should buy the shares at the end of a particular year where the value gap in that year was positive.

For example, in the above table, the highest figure of value gap highest was recorded in 1974, ie 54.2%, since the price of Berkshire stock for the year fell 48.7% (in that year, the Wall-Street was hit by a crash, related to an oil crisis in the Middle East), whereas the net asset value of the company actually still grew by 5.5%. If someone was bold enough to buy shares of Berkshire at the end of 1974 (‘bold’ here is the right term, because at the time the Wall Street were destroyed for two years in a row), then at the end of 1976, or only two years later, he would make extraordinary profit as the shares of Berkshire climbed a total of almost 150 percent!

Stock Prices Fall = Rare Opportunity!

The column of value gap above showed more negative numbers than the positive ones. And it explains that you can only buy Berkshire in certain years where the price has been fall (usually because of a market correction), say like in 1974, once again if the goal is for long-term investment.

Another example, in 2008, the S&P 500 dropped 37.0% because of the subprime mortgage crisis, and even the equity value of Berkshire also down 9.6% over the previous year (over the last 50 years, Berkshire's equity dropped only two times, ie in 2001 and 2008). But because Berkshire's stock price fell more deeply, its value gap become positive. And here’s the fact: When the crisis finally ended, in later years Berkshire managed to keep its equity growing, and its stock price also continue to rise almost every year (only dropped once in 2011).

In conclusion, as long as you choose the stock of a good company (there is a lot of criteria to say that a company is a good one), the decline in its stock price in a given year, either because the market correction/crash or because the poor performance of the company, is always a chance, as long as you commit to hold the stock in the long term (1 year or more).

Part two of this article can be read here.

Any inquiries about investment in Indonesia Stock Market, please send an email to teguh@averepartners.com.

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