Working Paper: NBER ID: w19681
Authors: Andrea Frazzini; David Kabiller; Lasse H. Pedersen
Abstract: Berkshire Hathaway has realized a Sharpe ratio of 0.76, higher than any other stock or mutual fund with a history of more than 30 years, and Berkshire has a significant alpha to traditional risk factors. However, we find that the alpha becomes insignificant when controlling for exposures to Betting-Against-Beta and Quality-Minus-Junk factors. Further, we estimate that Buffett's leverage is about 1.6-to-1 on average. Buffett's returns appear to be neither luck nor magic, but, rather, reward for the use of leverage combined with a focus on cheap, safe, quality stocks. Decomposing Berkshires' portfolio into ownership in publicly traded stocks versus wholly-owned private companies, we find that the former performs the best, suggesting that Buffett's returns are more due to stock selection than to his effect on management. These results have broad implications for market efficiency and the implementability of academic factors.
Keywords: Warren Buffett; Investment Strategy; Market Efficiency; Alpha; Leverage
JEL Codes: G11; G12; G14; G22; G23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Leverage (G32) | Buffett's high Sharpe ratio (G11) |
| Leverage + focus on safe, high-quality, and cheap stocks (G11) | Buffett's performance (G40) |
| Controlling for BAB and QMJ factors (C39) | Buffett's alpha becomes statistically insignificant (G40) |
| BAB and QMJ factors (C38) | Explain a large portion of Buffett's returns (G11) |
| Buffett's stock selection skill (G11) | Publicly traded stocks outperform private companies (G24) |
| Buffett's investment strategy (G11) | Systematic approach that can be replicated (C90) |
| Buffett-style portfolios (G11) | Align closely with his actual returns (G40) |