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Motley Fool Issues Rare “All In” Buy Alert
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Warren Buffett’s Berkshire Hathaway bought a bunch of stocks during the second quarter. Notable names included Apple (NASDAQ: AAPL), Activision Blizzard (NASDAQ: ATVI), Occidental Petroleum (OXY -3.14%), and Chevron (CVX -1.62%).
Buffett seems to be most bullish on Apple and Occidental Petroleum. His company bought another 3.9 million shares of the iPhone maker in the second quarter. It now accounts for 41.5% of his portfolio. He’s also been buying shares of oil giant Occidental Petroleum hand over fist. He purchased another 9.6 million shares in the second quarter and recently received regulatory approval to buy up to half of the company’s stock.
However, of all the stocks Buffett is buying, the one I’m most bullish on is Chevron. Here’s why I like what I see ahead for the oil giant.
An investment in Occidental Petroleum or Chevron is a wager on oil prices. Their fortunes rise and fall with the crude oil market.
Over the past year, oil has been on the upswing. Crude started the year in the mid-$70s and surged into the $120s following Russia’s invasion of Ukraine. While crude prices have cooled off since then on macroeconomic concerns, it’s still around $90 a barrel. That’s allowing oil companies to produce a gusher of cash flow.
While it’s anyone’s guess where crude oil prices will go from here, there’s reason to believe oil could rebound sharply. Several catalysts, including OPEC, equipment shortages, and supply issues, could propel oil back toward $120 a barrel even if the economy goes into a tailspin.
There isn’t much room for error in the oil market these days, especially after the Biden administration has steadily emptied the Strategic Petroleum Reserve to take the pressure off gasoline prices. With the country’s reserves at their lowest level since 1984, a minor supply issue could drive crude prices much higher. That would give Buffett’s oil stock investments the fuel to keep rising.
There’s been a lot of focus this year on Buffett’s heavy buying of Occidental’s stock. Berkshire now has a 20.2% stake in the company, worth $12.7 billion. He also has a $10 billion preferred stock investment and warrants to buy another $5 billion of Occidental’s shares. With the recent approval to buy up to 50% of the stock, some speculate that Occidental might be Buffett’s next elephant acquisition.
However, while all the focus is on Occidental, it’s only 3.7% of Berkshire’s portfolio, making it the sixth-largest holding among the stocks Warren Buffett owns. On the other hand, Chevron is Berkshire’s third-largest position, at 10.2% of its investment portfolio. Clearly, Buffett likes Chevron a lot, maybe even better than Occidental.
While we can speculate on which one he prefers, I’m much more bullish on Chevron because of its fortress-like balance sheet, which gives it unparalleled financial flexibility. After paying down debt for the last five quarters, Chevron has pushed its net debt ratio down to 8%, well below its 20% to 25% target range.
Meanwhile, Occidental’s balance sheet is a work in progress. The company took on significant debt to wrestle Anadarko Petroleum away from Chevron in 2019, a deal Buffett helped fund via the preferred stock investment. However, that acquisition put the company in a tight spot when crude prices crashed a year later as the pandemic ground the economy to a halt. Occidental had to slash its dividend and sell assets to stay afloat.
The company has gotten bailed out by higher oil prices over the past year. They enabled Occidental to repay $8 billion of debt earlier this year, surpassing its near-term debt reduction goal of $5 billion. While achieving its target has allowed Occidental to start returning more cash to shareholders — it launched a $3 billion share repurchase program and significantly increased the dividend — a couple of things continue holding it back.
The company wants to continue reducing leverage, aiming to achieve a mid-teens ratio by year-end. Occidental also needs to start redeeming Berkshire’s preferred stock investment if it wants to return more than $4 per share via dividends and buybacks to investors.
Contrast that with Chevron. Nothing is holding back its ability to allocate cash flow to create shareholder value. Chevron has increased its dividend by 20% since right before the pandemic started and has doubled its payout since 2010. Overall, it has grown its dividend for 35 straight years. For comparison, Occidental’s dividend is still 83.5% off its peak, a level the company doesn’t expect it will reach again.
Meanwhile, flush with cash, Chevron boosted the high end of its share repurchase guidance range to $15 billion, putting it on track to retire 1% of its outstanding stock each quarter. Thanks to its top-notch balance sheet, Chevron can maintain that buyback rate even if oil prices slump. Given Occidental’s other liabilities, it might have to reallocate money from repurchases toward debt reduction if crude oil plunges.
While oil prices have cooled down recently, it wouldn’t take much to send them higher. That would benefit both of Buffett’s oil stock bets. However, I’m most bullish on Chevron. It has similar upside to higher prices, with much less downside risk. Because of that, it could still create value for shareholders if oil bounces around, with ample upside if crude takes off.
Matthew DiLallo has positions in Apple and Berkshire Hathaway (B shares) and has the following options: long March 2023 $120 calls on Apple and short March 2023 $130 calls on Apple. The Motley Fool has positions in and recommends Activision Blizzard, Apple, and Berkshire Hathaway (B shares). The Motley Fool recommends the following options: long January 2023 $200 calls on Berkshire Hathaway (B shares), long March 2023 $120 calls on Apple, short January 2023 $200 puts on Berkshire Hathaway (B shares), short January 2023 $265 calls on Berkshire Hathaway (B shares), and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.
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