There is contrarian investing and then there is contrarian investing. Bruce Berkowitz has been getting a lot of attention for either being early or being wrong by concentrating heavily on the financial sector. With the recent release of his semi-annual report revealing that an astonishing 18% of the Fairholme Fund is invested in AIG (AIG), you can bet he is going to be taking even more heat.
I’ve seen Berkowitz load up on individual names to such a degree in the past. But the two companies that were such large positions were Berkshire Hathaway (BRK.B)(BRK.A) and Canadian Natural Resources (CNQ), both of which are very solid and not controversial companies.
Berkowitz provided his reasoning for loading up so heavily on AIG:
“AIG common stock is similarly cheap, due mostly to market pressures caused by the U.S. Treasury’s desire to sell its 77% ownership. When a recovering icon trades at half of our understanding of intrinsic value for a reason that has nothing to do with its prospects, we swing big.”
And while the huge position on AIG is attention-grabbing, the list of ugly names in his top ten holdings is nearly as noteworthy. Look at this list of positions that make up 74% of the Fairholme Fund’s assets:
Top Ten Holdings
American International (AIG) 18.2%
Berkshire Hathaway (BRK.A) 7.2%
AIA Group 6.7%
Sears Holding Corp (SHLD) 6.4%
Bank of America Corp (BAC) 5.7%
Brookfield Asset Management (BAM) 5.6%
Goldman Sachs (GS) 5.5%
Citigroup (C) 5.5%
Morgan Stanley (MS) 5.3%
Regions Financial (RF) 5.3%
Total of Top Ten Holdings 71.2%
Excluding Berkshire and maybe Brookfield, every one of these companies is on the short list of most disliked public companies in America, AIG being the poster boy for the government bailout, Goldman Sachs being public enemy number one for shorting the very products it was selling, Sears Holding being a floundering retailer, and the rest of them banks which helped create the credit crisis and housing market collapse.
As Berkowitz describes below, this isn’t his first trip to the rodeo. In the early '90s when he was not such a high-profile investor, he got rich investing in beaten-down financials:
“The Fairholme Fund’s outperformance over the past decade was based on seeking undervalued securities of companies perceived to be in extremis. Our inclination remains to run from the popular and embrace the hated where prices tend to reflect such mistrust. Often, we are ahead of the crowd, too early, and appear wrong for a time. However, performance awards over the years show that we eventually get it right by seeing beyond temporary conditions and by avoiding diversification that leads to mediocrity. Our history is to buy in bulk during blowout sales with the knowledge that market price volatility only measures short-term perception of long-term risk. When prices fall off the proverbial cliff, investors run fearing that the market is omnipotent. But, such plummets do not always mean death and destruction. This was the case in the early 1990s, when studied banks and financial guarantors stabilized around five times normal earnings before their rise to all-time highs.”
I’ve looked at a number of these companies as investments myself and concluded that I’m not smart enough to understand them. But getting exposure to this basket that Fairholme has assembled now, after several weeks of market punishment, may be a very astute contrarian play. Collectively this group of companies is going to be key to the American financial system going forward. If America does okay going forward, these companies will thrive with it.
I think now is exactly the time to be piling into the Fairholme Fund or assembling for yourself the basket of stocks in his top ten. Two years from now I think investors will be glad they did.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.