By Rupert Hargreaves, Value Walk

Back at the end of August, Warren Buffett told Bloomberg ‘I’m buying stocks’ when asked if the market was overextended. He then went on to explain why, despite the market being significantly overbought compared to his favorite valuation metric (total stock market value to GDP), he still likes equities:

But which stocks is Buffett buying for his Berkshire Hathaway portfolio? According to equity analysts at Wells Fargo, there are a number of companies that look attractive today, based on what they believe to be Buffett’s investment selection criteria. These criteria include:

  • Five-year average return on equity/ return on invested capital greater than 15%
  • Debt to equity less than or equal to 80% of the industry average
  • Five-year average pre-tax profit margin 20% higher than the industry average
  • Attractive valuation: The current P/E ratio vs the 10-year historical average
  • Attractive valuation: Price to book value below historical multiples
  • Attractive valuation: Price to cash flow ratio attractive versus the rest of the industry

There are nine companies in the S&P 500 that meet all of these criteria according to the report, including cigarette producer Altria group, which is unlikely to ever find its way into Buffett’s portfolio due to his view on tobacco companies. There are also several retailers included in the selection. Considering Buffett’s lack of existing exposure to the retail sector, these might not be relevant either (Bed Bath & Beyond, Urban Outfitters and Michael Kors.)

Following in the footsteps of Warren Buffett with Hidden Value Stocks

Other candidates are more likely, such as EQT Midstream Partners LP, which would fit well into Buffett’s current shift to buying more capital intensive assets. This stock is currently trading at a forward P/E of 10.4, that’s compared to the industry average of 18 and has achieved a five-year average return on equity of 29% as well as a return on invested capital of 18.5%.

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