Fairholme Makes Big Bets on Financial Stocks
BALTIMORE (Stockpickr) -- From a performance standpoint, few funds hold a candle to Fairholme (FAIRX), a mutual fund that's ranked in the top 1% of funds for the last 10 years. (Fairholme also ranks similarly high for shorter periods.)
Part of the reason for that performance is the fund's charter, which affords veteran manager Bruce Berkowitz plenty of rope to hang himself with or, in this case, blow away the competition. Berkowitz and his partner Charlie Fernandez are free to invest outside the traditional equity world, in alternatives such as debt and private transactions. That's a rare amount of freedom in this industry.
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Berkowitz and Fernandez have used that freedom to focus on riskier deep value plays, keeping a hoard of cash on hand to limit downside risks. Fairholme looks for investments that trade at a discount, with trustworthy and skilled management teams. Lately, the fund has been finding just that in the financial sector.
While financials fell hard in 2008, they recovered in large part last year only to languish again in 2010 as expectations outpaced these firms' abilities to produce fundamental results. Major banks and investment firms still carry significant concerns, with risk-laden balance sheets and opaque valuations. Still, that's probably exactly why Fairholme sees value in this sector.
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With major stakes in financial stocks hiked in Fairholme's latest quarterly filing with the SEC, here's a look
at four of the financial stocks that the fund has been buying
.
Whatever you may think of
Goldman Sachs
(GS) - Get Report
, it's hard to argue over the firm's financial performance. One of the last remaining bulge bracket investment banks, Goldman did financial battle with the broad market, delivering billions of dollars in profits as stock valuations (including its own) slid precipitously. That's not to say that Goldman wasn't without its own concerns.
While the company had managed to profit from controversial bets against subprime debt, Goldman still took a $10 billion TARP investment following the firm's transition to a bank holding company, a move that provided access to easy liquidity but adds a new set of regulatory limitations on the firm.
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Now that Goldman's TARP stake has been repaid with interest, the firm is free of governmental interference once again -- a major positive for shareholders who want to see Goldman return to autonomy.
Increased scrutiny over leverage at bank holding companies likely means that Goldman Sachs will see profitability decline. That said, those risks have already largely been priced into the stock -- and an increase in Goldman's total size means that net income should continue to grow on an absolute basis even if margins get somewhat squeezed.
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At present, Goldman makes up 5.47% of Fairholme's portfolio; the fund owns 5.58 million shares.
If you don't think of
Berkshire Hathaway
(BRK.A) - Get Report
as a financial stock, think again.
famous conglomerate is a major player in the insurance business. Granted, that exposure is somewhat lessened by non-financial subsidiaries and a massive blue-chip investment portfolio, but insurance is the firm's core competency.
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It should come as little surprise that Fairhome owns a large stake in Berkshire Hathaway (worth $473 million at last count). Bruce Berkowitz is a Buffett disciple who uses a similar concentrated value strategy in his fund. That bet is paying off well in 2010; this year, shares of Berkshire have rallied more than 20%.
The biggest benefit of Berkshire Hathaway is the firm's conservative approach to investing. Because the insurance industry requires heavy exposure to the financial markets, it's a business that's heavily impacted by the market's ebb and flow -- with a couple of legendary investors at the firm's helm (Buffett and partner
), Berkshire has managed to put together a balance sheet that's absolutely filled with value. This stock should see additional upside to finish 2010.
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This year has been similarly bullish over at
Citigroup
(C) - Get Report
.
Despite headwinds in economics and investor sentiment, this behemoth bank has managed to see its shares rise more than 25% since the first trading day of 2010. That's been thanks in part to major improvements in Citi's financial performance -- just a couple weeks ago, the firm announced its third consecutively profitable quarter.
>>Who Owns Citi?:
But Citi's recovery is still far from finished. The bank still owns risky consumer debt and vestiges from its forays into riskier but more lucrative financial businesses. Right now, Citi is working on divesting itself of many of those divisions, returning its focus to retail and commercial banking. The company's new positioning is a welcome change for shareholders, who yearn for a return to stable banking operations.
That said, not all of Citi's financial businesses are going away. The company will be keeping much of its investment banking arm as well as lucrative banking businesses that cater to high net worth clients. In total, the newer, leaner Citigroup will make up just shy of 70% of the current company's assets.
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Fairholme sees value in Citi right now; the fund owns nearly 202 million shares.
Despite Fairholme's concentrated portfolio, the fund's management isn't averse to doubling down on specific industries. Right now, banking makes up a major part of Fairholme's portfolio -- and
Bank of America
(BAC) - Get Report
is another major stake.
Bank of America shares many of Citigroup's attributes, both positive and negative. BofA's biggest benefits, though, make it stand out from Citi -- the firm has a massive deposit base with a footprint in some of the most attractive growth markets in the country, as well as an enviable wealth management business in Merrill Lynch. Like Citi, Bank of America is struggling to return its focus to retail and commercial banking, businesses that the firm excels at.
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While concerns over lax foreclosure management are marring BofA right now, the issues should prove short lived. Ultimately, it's this bank's exposure to high-growth parts of the U.S. that make it an attractive play in 2010.
To see the rest of the fund's plays, check out the
on Stockpickr.
-- Written by Jonas Elmerraji in Baltimore.
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At the time of publication, Rhino Stock Report was long BRK.B.
Jonas Elmerraji is the editor and portfolio manager of the Rhino Stock Report, a free investment advisory that returned 15% in 2008. He is a contributor to numerous financial outlets, including Forbes and Investopedia, and has been featured in Investor's Business Daily, in Consumer's Digest and on MSNBC.com.
