Ritholtz: Warren Buffett’s Exxon Bungle

Warren Buffett’s Exxon Bungle

By Barry Ritholtz – Nov 20, 2013

How often do you make a decision to sell something for a giant gain? Quite a few times across the arc of a career, if you are a half-decent investor. But how often is that sell decision a terrible mistake? Today, I want to tell the tale of Warren Buffett’s bungled profit-taking in Exxon. We all have war stories of the profitable sale that should never have been made. I took profits in a 2001 purchase of Apple at $15 (pre-split) at $43 to buy a house. (It was post-iPod, pre-iPhone). So who am I to criticize the sale of XOM?Before I proceed with today’s blasphemy, allow me a few caveats: I have tremendous respect for Warren Buffett, both as a person and an investor. Indeed, clients of our firm have owned Berkshire Hathaway (BRK B) for quite some time. In our portfolios, both Berkshire and credit card firm Visa (V) act as a proxy for the financial sector. Both have done very well.

What premised this morning’s discussion is Buffett’s recent purchase of Exxon Mobil (XOM). In case you missed it, Berkshire just bought ~40 million shares of XOM, a ~$3.4 billion purchase. The buy gave Berkshire a stake in the second largest market cap firm in the U.S. (indeed, the world) after Apple.

We can make an educated guess as to the appeal of the oil giant to a value investor such as Buffett. XOM trades at 11.8 times forward earnings estimated, about 23 percent cheaper than the S&P 500 forward earnings multiple. Its dividend yield is better as well, at 2.69 percent against 2 percent for the SPX.

But more interesting than the details of this buy is the simple fact that Buffett had previously owned Exxon, back in 1984. And he blew that trade in the same way many rookie traders ruin a good investment — by taking profits too early. With the benefit of time and hindsight, let’s see if there may be any investing lessons to be learned for us mere mortals.

According to Berkshire’s 1984 Annual Letter to Shareholders, Exxon was Berkshire’s fourth largest holding. It held 3,895,710 shares of Exxon Corporation.

In 1985, Buffett sold Exxon at $6.75 — it was a fast 44 percent gain in less than two years. Seems pretty hard to argue with that.

How has XOM done since Buffett sold it?

Since 1985, Exxon has had several two-for-one splits: Sept., 15, 1987; again a decade later on April 14, 1997; and most recently on July 19, 2001. Hence, that original purchase would now consist of 31,165,680 shares. That assumes dividends were not reinvested. If they were, it would be a considerably higher amount. (Hmmm, what is that Bloomberg function to calculate dividend reinvestment?)

Regardless, not counting dividends, that original ~$173 million dollar purchase would be worth about $3 billion today. That’s a back of the envelope return of 1,946 percent. And while a 44 percent return is good, a 1,946 percent return is better.

Are there any lessons here for the rest of us?

The first is that Buy & Hold can work, if you can select a company that will be around and healthy in 30 years. That is even harder to do than it sounds. Look back at most of the Dow Industrials from 20, 50 and 100 years ago. Companies that survive the ravages of time seem to be the exception, not the rule.

Perhaps another rule is to have the courage of your convictions. Buffett likes to say he buys businesses, not stocks. The oil and energy business have done exceedingly well since 1985. (Disclosure: I own IEO, the Oil ETF). Had he stayed with Exxon, instead of some other lesser investments, BRK’s track record would have been even better.

There is, of course, one last caveat to consider: Opportunity cost. Berkshire’s performance since the 1985 sale has been spectacular. The dollars reinvested back into BRK have been a home run. Comparing XOM versus BRK suggests that Buffet’s sale was not the same flub it initially appears to be. He certainly did better with the reinvested dollars than most of us would have done.

How many of us are Warren Buffett . . . ?