Consider Warren Buffett's Recommendation: Avoid Purchasing any Stock in 2025 Unless It Satisfies this Condition
Arguably, one of the world's top stock pickers isn't making many stock purchases these days. Warren Buffett has been a net seller of stocks for eight consecutive quarters, and chances are that count will reach nine when Berkshire Hathaway discloses its fourth-quarter 2024 transactions.
The reason for Buffett's reticence? He's a master at selecting stocks due to his remarkable selectivity. Fewer picks can potentially lead to greater investment success.
So, before diving into the stock market in 2025, consider adopting Buffett's picky approach. Don't invest in any stock unless it meets his test:
Two-Step Test
Much like how Warren Buffett selects stocks for Berkshire Hathaway or companies for acquisition, he uses a two-step test to pinpoint potential winners. Revealed in his 2013 shareholder letter, this process involves:
- Estimating Future Earnings: This requires carefully assessing a company's business and industry trends to forecast earnings over a five-year (or more) period. Buffett aims to avoid investing in unstable businesses that might deliver temporary earnings growth.
- Valuation: Buying a stock only if it's reasonably priced relative to the lower end of the estimated earnings range. Buffett won't invest in a stock unless it passes this price check.
Simple, yet Challenging
Although this two-step test may appear straightforward, it's much easier said than done.
Determining a company's earnings over a five-year period can be difficult, especially if the business operates in a rapidly evolving industry. Buffett mentions his "circle of competence" – understanding a business and its industry – is crucial for accurately projecting future earnings.
Finding undervalued stocks in some market environments can be challenging as well. With Buffett sidelined, accumulating over $325 billion in cash for Berkshire suggests he hasn't found attractive opportunities to invest in recently.
Potential Buffett Test Passers in 2025
Bearing in mind Buffett's criteria, here are a few stocks that might meet the test in 2025:
Energy Transfer (ET 0.86%): This North American midstream energy company is involved in transporting natural gas, natural gas liquids, and crude oil. With renewable energy's growth, pipes will continue to be essential for transporting these resources. Energy Transfer pays a substantial distribution with a 6.5% yield.
Occidental Petroleum (OXY 0.38%): Buffett has consistently added shares of Occidental Petroleum, an oil and gas producer, to Berkshire's portfolio. The low-priced stock and its attractive valuation might appeal to Buffett. However, whether it's attractive for other investors depends on their valuation metrics and assumptions.
Enrichment Data:
- Buffett's Intrinsic Value Approach: Warren Buffett focuses on companies with strong competitive advantages; high returns on equity (ROE); and experienced, competent management. He seeks businesses with "moats" (protecting their market positions), allowing them to maintain high profitability over a long period.
- Avoidance of Value Traps: Buffett avoids companies whose current stock prices are too high, irrespective of their intrinsic value. Buffett finds value in businesses that have been unfairly overlooked by the market due to short-term volatility or market misunderstandings.
- Value investing: Buffett follows the value investing strategy, focusing on companies trading below their intrinsic value. He seeks opportunities to buy undervalued stocks, holding them until their intrinsic value catches up with market price, resulting in profitable investments.
- Company Analysis: Buffett examines company fundamentals in-depth, including financial ratios, management quality, and competitive position. He studies industries and companies for years before making an investment decision.
- Patience: Buffett believes in a long-term investment horizon, focusing on companies with sustainable competitive advantages that will continue to generate profits for years to come. He advises investors to adopt a patient mindset and avoid being swayed by market fads or short-term price fluctuations.
- Given Buffett's focus on intrinsic value, he might have confidence in investing in companies with strong competitive advantages and high returns on equity, even in 2025.
- Buffet's cautious approach to investing, as seen in his net selling of stocks and accumulation of cash, might lead him to only buy stocks that meet his two-step test, including estimating future earnings and valuation, in 2025.
- Companies like Energy Transfer and Occidental Petroleum, which have shown potential for steady earnings and attractive valuations, could potentially pass Buffett's test in 2025, encouraging him to consider buying their stocks.
- With Buffett's net selling streak continuing, the financial market might see less money flowing into stocks in 2025 as investors wait for Buffett to find stocks that meet his stringent criteria, just as he did with Energy Transfer and Occidental Petroleum.
