Warren Buffett over the last six decades transformed Berkshire Hathaway (NYSE: BRK.A) (NYSE: BRK.B) from a small textile operation into a trillion-dollar company. Under his leadership, Berkshire shares have advanced more than 5,500,000%, crushing the 39,000% return in the S&P 500 (SNPINDEX: ^GSPC).
Consequently, Buffett has become a source of inspiration and guidance for many investors, and his company made a few interesting capital allocation decisions in the fourth quarter, as detailed below:
Berkshire sold its entire position in the Vanguard S&P 500 ETF (NYSEMKT: VOO), the only Vanguard index fund in its portfolio.
The company added to its stake in Domino's Pizza (NASDAQ: DPZ), a dividend-stock that has returned 7,120% since January 2010.
Here's what investors should know.
Warren Buffett not only sold the Vanguard S&P 500 ETF in the fourth quarter, but also sold the only other index fund Berkshire held its portfolio, which also happened to be an S&P 500 index fund.
Those funds track the S&P 500, which is widely seen as the best gauge for the overall U.S. stock market. So, Buffet's decision to sell could be interpreted as lost confidence in the U.S. economy and domestic stocks. But that seems unlikely. Buffett has warned investors not to bet against America, and has often recommended an S&P 500 index fund as the best way for most people to get exposure to stocks.
Buffett did not recant those beliefs in his latest shareholder letter, and I think he would have if his views had changed. So, if the decision to sell the S&P 500 index funds does not reflect lost confidence in the U.S stock market, then what was his motivation? I suspect the answer lies in the microscopic size of those positions.
The S&P 500 index funds accounted for less than 0.02% of Berkshire's portfolio in the third quarter, which means they were about as consequential as pocket change to the average person. Buffett may have sold the funds to consolidate that pocket change into a larger cash position in preparation for the next stock market correction.
To be clear, I am not arguing Buffett thinks the S&P 500 is cheap today. In fact, I suspect the opposite is true. The index has a price-to-earnings ratio of 26.1 times, a material premium to the 10-year average of 22.1 times. Instead, I am arguing Berkshire selling two S&P 500 index funds is not a subtle cue for individual investors to do the same.
The S&P 500 may suffer a steep correction in the near future. But the index is still likely to return about 10% annually over the next few decades, just as it has in the past.
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Domino's operates in the intensely competitive quick-service restaurant (QSR) space, but ranks as the largest pizza company in the world due to its reputation for value and regular technological innovation, such as its AnyWare ordering platform, Pinpoint Delivery service, and use of artificial intelligence (AI) to ensure quality, predict orders, route deliveries, and set prices.
Domino's is working to reinforce its leadership with its "hungry for more" strategy, which targets increases in sales, stores, and profits through menu innovation and marketing. Through 2028, the company aims to add 1,100 stores per year, while achieving annual sales and operating income growth of 7% and 8%, respectively.
Changes in same-store sales are a good way to measure the efficacy of that strategy, and Domino's is running circles around its peers. Last year, the company reported same-store growth of 3.2% domestically and 1.6% internationally. Meanwhile, Papa John's and Pizza Hut (owned by Yum! Brands) saw same-store sales decline 3.1% and 4%, respectively.
However, Domino's reported disappointing financial results in the fourth quarter, narrowly missing estimates on the top and bottom lines. Revenue increased 3% to $1.4 billion and GAAP net income increased 9% to $4.89 per diluted share. But there was a silver lining. The company gained about a percentage point of market share in QSR pizza as it continued to outperform its peers, according to CEO Russel Weiner.
Wall Street expects earnings to grow at 9% annually through 2028. But that estimate leaves room for upside. Domino's aims to grow operating income at 8% annually over that period, and it has regularly repurchased stock in recent years. That combination hints at faster earnings growth than analysts anticipate, which makes the current valuation of 29 times earnings look more reasonable.
Add to that the quarterly dividend has increased at 17% annually over the last five years, including a 15% increase to $1.74 per share in the fourth quarter, and Domino's stock is a compelling long-term investment idea. Investors should start with a very small position today and add more shares when the price dips.
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Trevor Jennewine has positions in Vanguard S&P 500 ETF. The Motley Fool has positions in and recommends Berkshire Hathaway, Domino's Pizza, and Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.
Warren Buffett Sells His Only Vanguard Index Fund and Buys a Dividend Stock Up 7,120% Since 2010 was originally published by The Motley Fool
