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Bruce Berkowitz’ Bets Big On Sears, Fannie Mae, And Freddie Mac
Mr. Berkowitz is unapologetic for the poor returns, noting he always has promised his investors ultra-concentrated, often contrarian bets and high volatility was a likely result. “The people who had the smoothest ride were those in Bernie Madoff. Life is not smooth,” he said.
Except this isn't exactly true. In the past before he was a celebrity Berkowitz would often comment about holding cash and the importance of "absolute returns" as opposed to relative returns versus the market. I actually think the fund's strategy shifted as it got bigger from buying small to mid-sized value stocks with a margin of safety to large high risk stocks that could absorb the liquidity that was being thrown at the fund on a daily basis. In other words a small ignored bank with a clean balance sheet can be a lot safer than AIG and Fannie Mae. The results with the former tend to be dead money or nice returns, the latter terrible or great returns. I'm pretty sure if I were to map the standard deviation of this fund before it had a ton of assets and after when it was buying these big high risk names you would see that it became much more volatile.
“Spending 30 years analyzing equities is a really great way to understand credit,” Mr. Berkowitz said.
Actually, many would say the opposite is true, that analyzing credit first is a better way to understand stocks and their unique balance sheet vulnerabilities than vice versa.
@Shostakovich, Actually when I look at the old portfolios and annual reports I see the fund was then a truly all-cap fund with a few large companies like--Berkshire Hathaway--to some tiny companies like Gladstone Capital and Wlitel Communications and a number of mid-sized ones too. Here's an excerpt from the 2003 semi-annual report:
We continue to act with the knowledge that the golden rule of investing is: Don't Lose. And the best way we know to follow that rule is to buy parts of good businesses run by exceptional people at the right price. We are continually on the search to find the next Warren Buffett and Charlie Munger, Joe Steinberg and Ian Cumming, Jack Byrne - the next business thoroughbreds. While our search goes on, we will continue to buy more of what we know and understand best, subject only to paying the right price and the position limits imposed on the Fund by law.
@LewisBraham: its been an odd ride with Bruce, hasn't it? I say this as someone who is a current FAIRX shareholder. Believe it or not, I've actually been more concerned by Bruce's personal qualities than his investment approach per se.
There was the phase when Bruce talked up betting on the jockey and the horse, and actively asked shareholders on calls (and in letters) to recommend jockeys. That felt a little odd to me, but I held on.
Somewhere around that time, Bruce made a huge short-term investment in PFE, before they switched to a better "jockey". The thesis was that PFE was cash-heavy, and therefore could play a "merchant bank of Venice" role. Indeed, after PFE switched jockeys, they did enjoy a nice uptick in performance. So, Bruce may have been a victim of "premature accumulation" as he likes to say. Those in the know always chuckle when Bruce uses that line.
Then there was the departure of two analysts who went on to found Goodhaven. About that time, Barrons (or a similar publication, but maybe it was Vanity Fair) had a damning piece on some of the bizarre decisions Bruce made with respect to hiring staff of questionable investing and business backgrounds. I should have punted on FAIRX then. I guess the M* "OMG Manager of the Millenium" award should have been a tip-off, but I nurtured myself on the hype.
Then there was the period when Bruce seemed to be practically tripping over himself to appear on any financial / news segment that would have him. Bruce's oft-repeated rationale was: "...the best way to communicate with shareholders...". Which is hooey, because he thereafter adopted a stilted, pre-canned conference call format. On those calls, a few of which were taped, you'd swear Bruce was reading from a teleprompter.
Now we have the "liquidity risk" stories that pop up here and there in the financial press. Yes, journalists need a story, etc., etc., but Bruce should have realized that chasing hot-money chasers creates a lot of fair weather friends.
In general, I have no problem with buy and hold, nor deep value approaches. But the other stuff doesn't mix well with the humility and equanimity that I think are required to succeed in this paradigm. Bruce might prove to be another object lessons that brilliant investors and analysts do not necessarily make good fund managers.
Just think about this: When this fund hit $10 billion in assets, it was taking in upwards of $100 million in fees a year. I don't think it ever had a tremendous analyst staff or back office or that many employees overall at like say Fidelity. That means a significant portion of that $100 million was going to Berkowitz directly. What does that do to someone's mind to make that much money in a single year? How does it affect your ego and your motivation to work hard to continue to produce excess returns?
@Shostakovich why have you held on? I'm asking as someone who's still in FAAFX -- I sold my (larger) FAIRX holding about two years ago. FAAFX is about 7% of my portfolio and I figure (very tentatively) that I might as well hold on at this point. I agree with the above, but he still seems like a guy with the capacity to be brilliant. Can he learn from his mistakes, is the question?
@expatsp: good question ... especially since I am in the middle of a portfolio re-organization (for myself and my wife) to better reflect how likely we are to rebalance and etc. !
Some background...
In general, before I buy into a fund, I do a lot of research. I consider my asset allocation, role in portfolio, etc. I don't look at simple average returns without also considering downside / upside capture and cumulative returns. I used to go so far as to do a correlation and simulation exercise to determine if the candidate fund would add bang to buck while acting differently than my core 4-5 funds. I like managers who know how to hold cash.
Before moving out of a fund, I try to be very sensitive to my own biases and put the breaks on any temptation to jump in and out of funds. I want stuff I can buy and hold; I don't want to fall into the trap of "OMG I should be doing something all the time" and thus getting low investor returns because I can't leave well enough alone. I remain sensitive to the fact that solid active managers will underperform. I have held funds that have underperformed over 3 year intervals for example, and have gone on to deliver long-term above-average results. So, I want something more than just a bad stretch to make a move. I don't mind a concentrated portfolio, and philosophically am skeptical of crowd phenomena.
FAIRX fulfilled all of my buy criteria when I first became a shareholder in 2007. I resisted the temptation to go all-in during its heyday, and kept it at 5% of my portfolio, in a sleeve that I consider alternate approaches. I have not rotated into or out of the fund, and have made money on it since I bought in. Oddly enough, however, in holding FAIRX I would have done no better since 2007 than if I had bought and held a decent bond fund...
So, all that said...
I guess I have held on to FAIRX in large part because of the biases and philosophy noted above, and its small share of my total portfolio. But also I made a career change in 2011, and have increasingly had much, much less time for investing (because I have less time for anything). I was also insufficiently sensitive to the issues that LewisBraham notes above. I always had more of an emotional attachment to the FAIRX philosophy, then to Bruce himself. That said, I was ticked off by Bruce's AUM and publicity spree, as well as what might be considered flaws in personal judgement (Barron's piece), but just never got around to making a move, because I bought into his theses. Now, silly as it seems, the issue is identifying the suitable fund to rotate into given my current portfolio.
@Shostakovich Thanks for your thoughts, which are somewhat similar to mine, though at this stage I've also got tax reasons to wait a little bit longer to sell. And as I said, I do believe he's still capable of brilliance. His bond fund FOCIX, despite a rocky path, has done very well since inception.
Comments
For some reason, I'm thinking of the Artio saga.
Actually when I look at the old portfolios and annual reports I see the fund was then a truly all-cap fund with a few large companies like--Berkshire Hathaway--to some tiny companies like Gladstone Capital and Wlitel Communications and a number of mid-sized ones too. Here's an excerpt from the 2003 semi-annual report: https://sec.gov/Archives/edgar/data/1096344/000109380103000886/ncsr-703.txt
Even in the case of large companies it did own back then, I don't know how you go from buying a company like Berkshire Hathaway, which has long had a balance sheet like Fort Knox, to AIG and Fannie Mae.
There was the phase when Bruce talked up betting on the jockey and the horse, and actively asked shareholders on calls (and in letters) to recommend jockeys. That felt a little odd to me, but I held on.
Somewhere around that time, Bruce made a huge short-term investment in PFE, before they switched to a better "jockey". The thesis was that PFE was cash-heavy, and therefore could play a "merchant bank of Venice" role. Indeed, after PFE switched jockeys, they did enjoy a nice uptick in performance. So, Bruce may have been a victim of "premature accumulation" as he likes to say. Those in the know always chuckle when Bruce uses that line.
Then there was the departure of two analysts who went on to found Goodhaven. About that time, Barrons (or a similar publication, but maybe it was Vanity Fair) had a damning piece on some of the bizarre decisions Bruce made with respect to hiring staff of questionable investing and business backgrounds. I should have punted on FAIRX then. I guess the M* "OMG Manager of the Millenium" award should have been a tip-off, but I nurtured myself on the hype.
Then there was the period when Bruce seemed to be practically tripping over himself to appear on any financial / news segment that would have him. Bruce's oft-repeated rationale was: "...the best way to communicate with shareholders...". Which is hooey, because he thereafter adopted a stilted, pre-canned conference call format. On those calls, a few of which were taped, you'd swear Bruce was reading from a teleprompter.
Now we have the "liquidity risk" stories that pop up here and there in the financial press. Yes, journalists need a story, etc., etc., but Bruce should have realized that chasing hot-money chasers creates a lot of fair weather friends.
In general, I have no problem with buy and hold, nor deep value approaches. But the other stuff doesn't mix well with the humility and equanimity that I think are required to succeed in this paradigm. Bruce might prove to be another object lessons that brilliant investors and analysts do not necessarily make good fund managers.
@LewisBraham: totally.
Derf
Some background...
In general, before I buy into a fund, I do a lot of research. I consider my asset allocation, role in portfolio, etc. I don't look at simple average returns without also considering downside / upside capture and cumulative returns. I used to go so far as to do a correlation and simulation exercise to determine if the candidate fund would add bang to buck while acting differently than my core 4-5 funds. I like managers who know how to hold cash.
Before moving out of a fund, I try to be very sensitive to my own biases and put the breaks on any temptation to jump in and out of funds. I want stuff I can buy and hold; I don't want to fall into the trap of "OMG I should be doing something all the time" and thus getting low investor returns because I can't leave well enough alone. I remain sensitive to the fact that solid active managers will underperform. I have held funds that have underperformed over 3 year intervals for example, and have gone on to deliver long-term above-average results. So, I want something more than just a bad stretch to make a move. I don't mind a concentrated portfolio, and philosophically am skeptical of crowd phenomena.
FAIRX fulfilled all of my buy criteria when I first became a shareholder in 2007. I resisted the temptation to go all-in during its heyday, and kept it at 5% of my portfolio, in a sleeve that I consider alternate approaches. I have not rotated into or out of the fund, and have made money on it since I bought in. Oddly enough, however, in holding FAIRX I would have done no better since 2007 than if I had bought and held a decent bond fund...
So, all that said...
I guess I have held on to FAIRX in large part because of the biases and philosophy noted above, and its small share of my total portfolio. But also I made a career change in 2011, and have increasingly had much, much less time for investing (because I have less time for anything). I was also insufficiently sensitive to the issues that LewisBraham notes above. I always had more of an emotional attachment to the FAIRX philosophy, then to Bruce himself. That said, I was ticked off by Bruce's AUM and publicity spree, as well as what might be considered flaws in personal judgement (Barron's piece), but just never got around to making a move, because I bought into his theses. Now, silly as it seems, the issue is identifying the suitable fund to rotate into given my current portfolio.
D.S.