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Berkshire Hathaway or the S&P 500 over the Next Decade?

PART:
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Part 8
Berkshire Hathaway or the S&P 500 over the Next Decade? PART 8 OF 11

Will the Current Policy Environment Be Favorable for Berkshire Hathaway?

Monetary policy

Corporations in the US have benefited from the near-zero interest rate policy since the 2007 recession, though these benefits have been partially offset by lower leverage. As we see in every economic cycle, both trends are reversing, with the Fed raising rates and corporations increasing their leverage.

The Fed has raised rates consistently since 4Q15 and has brought Fed fund rates up to 1.25% from 0.25%. It’s expected to raise the rate once again since in 4Q17, but any further rate hike will depend on how global central banks handle their policy decisions going forward.

Will the Current Policy Environment Be Favorable for Berkshire Hathaway?

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Notably, bankers met in Jackson Hole, Wyoming, on August 25 and 26 for discussions about how to reduce the size of balance sheets of central bankers as well as the road ahead for rate hikes. Any tightening of monetary and fiscal policies will likely result in a higher cost of credit, which would reduce profitability for higher-leverage companies.

This scenario could benefit insurance players (XLF) like American International Group (AIG), Prudential (PRU), and Metlife (MET), which have parked funds in debt offerings that yield higher returns.

Premium deployment

Berkshire’s (BRK.B) insurance premiums are deployed largely into equity investments by its managers, Warren Buffett and Charlie Munger. However, Berkshire’s subsidiaries have deployed reasonable leverage for BNSF, manufacturing, and other businesses, which could result in higher interest costs in the case of higher interest rates.

BRK.B’s interest, dividend, and investment income from its Insurance division stood at $1.32 billion in 2Q17, compared with $1.41 billion in 2Q16, reflecting lower investment income, which was partially offset by higher interest income. For finance and financial products, the number stood at $364 million, compared with $411 million in 2Q16.

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