Warren Buffett bet $4.1 billion on this battered tech stock. Should I follow him?

If you want to invest like the pros, I have good news for you: every three months, institutional investors must disclose their trading activity. This includes Warren Buffett and the holding company he has run since the 1960s, Berkshire Hathaway (BRK.A 0.14%) (BRK.B 0.14%).

In its latest disclosure, we learned that Berkshire Hathaway bought more than $4.1 billion from Semiconductor manufacturing in Taiwan (TSM -2.84%) shares in the third quarter. This is more than a little surprising since Berkshire is not used to acquiring shares of chipmakers. Additionally, the industry as a whole is reporting relatively weak demand from electronics manufacturers.

Why do Buffett and Berkshire find TSMC shares particularly attractive during what appears to be a rotten time for their industry? Here’s what ordinary investors who want to emulate Buffett’s success need to understand.

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Why Buffett likes TSMC stocks

Buffett is known to be a contrarian investor who takes a long-term view. He often places big bets on cyclical companies as they find themselves in the most depressing parts of their respective business cycles.

At present, the semiconductor industry as a whole is taking a step back from relatively weak demand for electronic devices. For example, South Korea recently reported a 29.4% year-over-year decline in semiconductor sales in the first 20 days of November.

The semiconductor industry as a whole may feel bad, but TSMC’s semiconductor foundries have advantages that keep them in demand. It is one of the few companies that can produce chips that are only 7 nanometers or 5 nanometers wide. As the industry as a whole took a step back, TSMC reported third-quarter sales that climbed 48% year-over-year and 15% from the prior quarter.

TSMC’s advantage when it comes to making smaller chip designs is about to get a whole lot stronger. Delivery issues with its tool supplier have slowed its rollout of 3-nanometer technology, but the company plans to start mass-producing at that size in the second half of 2023.

A smart buy now?

The recent news that Berkshire is now a shareholder helped lift TSMC stock off its 52-week low, but it still looks like a bargain at more than 40% below its January high. At recent prices, you can buy the stock for just 12.8 times the earnings forecast.

TSMC’s current earnings multiple is appropriate for stocks that increase earnings by a low single-digit percentage each year. If TSMC didn’t have a head start on its competitors when it comes to manufacturing highly advanced chips, its valuation would make sense, but it doesn’t. Chip designers are still pounding on TSMC’s door to get their products built in 5nm, and they’re even more excited about the company’s ability to produce 3nm which will begin next year.

Despite a challenging environment for the semiconductor industry as a whole, TSMC reported third-quarter net profit that rose 80% year-over-year. There’s no guarantee it’ll continue to outperform the competition, but the company has a clear lead in the lucrative space of tiny chips that look unassailable for at least five years – and possibly much longer.

At recent prices, TSMC’s US Depository Receipts, which are essentially shares of a foreign company that trade on US exchanges, offer a dividend yield of 2.1%. Investors will be happy to know that the company hasn’t cut its home-currency payouts since implementing an all-cash dividend program in 2009.

A global recession triggered by soaring interest rates could cause markets to tumble and drag TSMC lower than it has already been this year. Receiving a consistent payment from quarter to quarter will make it much easier to hang in there for the long haul and come out miles ahead, like Buffett does.

Put it all together, and TSMC looks like a very smart stock to buy now.

Cory Renauer has no position in the stocks mentioned. The Motley Fool holds and recommends Berkshire Hathaway (B shares) and Taiwan Semiconductor Manufacturing. The Motley Fool recommends the following options: $200 long calls in January 2023 on Berkshire Hathaway (B shares), $200 short puts in January 2023 on Berkshire Hathaway (B shares) and short calls of $265 in January 2023 on Berkshire Hathaway (B shares). The Motley Fool has a disclosure policy.