Fairholme Fund Rebounds Strongly In 2012
Berkowitz’s largest holding, insurance company AIG, founded in 1919 and the 29th-largest public company in the world, needed a $125 billion bailout from the federal government in 2008-2009 because of poor management of its financial products, as well as deregulation of over-the-counter derivatives, such as credit default swaps, which permitted risk-taking, according to the Financial Crisis Inquiry Commission’s final report.
It was the largest government bailout of a private company in U.S. history. In exchanged for the bailout, the government received, among other things, warrants for a 79.9% equity stake in the company.
Berkowitz waited until the first quarter of 2010 to buy shares of AIG. He first bought 15,038,100 at an average price of $29. Then, headed as the stock price trended upward for that year: 17,750,900 at an average of $38 in the second quarter; 120,500 at an average of $37 in the fourth quarter; and 11,376,486 at an average of $45 in the fourth quarter.
His largest buy consisted of 58,966,502 shares at an average cost of $31 per share in the second quarter of 2011. Most recently, he sold 1,682,774 shares at an average price of $26 in the third quarter of 2011.
In the last year, AIG shares have slid 40%, which greatly contributed to losses at Fairholme and caused many to question Berkowitz’s judgment. The company’s shares have taken a turn for the better, however, since the start of this year. The stock is up 9.14% to date in January.
January increases could be associated with the company’s new plan to merge its businesses and promote its brand more. The company announced that Matrix Direct, its life insurance unit, had a 24% spike in business when advertised as AIG direct instead. On Thuesday, the company said it would combine the employee benefits of its property insurance unit Chartis and life insurance business American General into a new unified employee benefits organization, named AIG Benefit Solutions. The new unit’s revenue would reach about $1 billion, according to Reuters.
Sears Holdings (SHLD)
Sears, Berkowitz’s second largest holding, is an unlikely hero for his portfolio in 2012. Its share price lost 40% over the last year, making it a major detractor to his returns as well. At the end of December 2011, Sears’s stock price plunged almost 30% on news it would close 100 to 120 Kmart and Sears Full-line stores. But year to date, it has gained 44%.
The company had better news in January. On January 23, CIT announced it would finance Sears’ vendors, cause its stock to have its largest two-day increase in more than three years. A steeper incline in share price began around January 17, when rumors began spreading that Sears could go private.
Sears’ financials on the other hand show few improvements. Revenue has declined each year from 2007, when it made $53 billion, to 2011, when it made $43 billion. Earnings had fluctuated but remained positive from 2005 to 2011, but the last three quarters have seen losses, for a trailing-12 month loss of $363 million. Its net margin followed a similar pattern; it remained positive from 2005 to 2011, but shrunk the last two years, and was negative the last three quarters, and fell to its lowest point, negative 4.4%, in the third quarter 2011. Cash flow is also running dry, with negative results the last three quarters, after gains from 2004 to 2010.
Berkowitz has held Sears shares since pre-2007. In the second quarter of 2007, the average price for Sears stock was $180.59. On Tuesday it trades for $47.39, and Berkowitz holds 16,270,692 shares.
Another great investor, Eddie Lampert, is chairman of Sears and continues to add to his holdings, which is now almost half of the company.
Bank of America (BAC)
Bank of America, Berkowitz’s third-largest holding, lost 86% of its share price over the last five years. Year to date, however, it has increased 31%.
Bank of America is one of the world’s largest financial institutions, with $2.3 trillion in total assets, approximately 58 million consumer and small business customers, 5,700 retail banking offices and approximately 17,800 ATMs. It also has online banking with 30 million active users.
The primary driver of its share price gains has been its financial results for the final three months of the year. The bank posted better-than-expected revenue which increased 11% to $24.89 billion, and a fourth-quarter profit of $2 billion, compared to a net loss of $2 billion a year ago.
“Our fourth-quarter results reflect the aggressive steps we have been taking to strengthen the balance sheet and position the company for long-term growth," said Chief Financial Officer Bruce Thompson. “During the quarter, we significantly increased capital and liquidity. Our Tier 1 common equity ratio increased to 9.86 percent from 8.65 percent in the third quarter of 2011, and our time-to-required funding increased to 29 months from 27 months. For 2012, our focus is to continue to build capital and liquidity and manage expenses."
Some measurements were lower, though. Bank of America’s fourth-quarter return on average assets fell sequentially from 1.07% to 0.36%; fourth-quarter return on equity fell from 17% to 5.2%.
Berkowitz’s thesis for financial stocks is: 1% return on assets = 10% return on owner’s equity = 20% implied annual return on investment.
“Using Ben Graham’s framework, recently the market has been a ‘voting machine,’ but when it returns to a ‘weighing machine’ Bank of America’s strong fundamentals will come into play,” Berkowitz said in his Bank of America cast study.
The share price of Citigroup, Berkowitz’s fourth-largest holding and the third-largest U.S. bank, dropped 40% over the last year, and increased almost 14% year to date. Citigroup has been struggling to grow after it received a $45 billion federal bailout in 2008.
Citigroup’s share price was on its way up in the first two weeks of the month, but fell slightly when their financial results appeared on January 17. Its fourth-quarter revenues declined 7% year over year; net credit losses declined 40% year over year. Revenues for the full-year 2011 declined to $78.4 billion compared to $86.6 billion the previous year, driven by a $6.4 billion decline in citi holdings revenues. Citicorp loans grew 14% versus the prior year, and Tier 1 Common increased 11.8% to $115.1 billion for the year. Year-over-year book value per share increased 8%, and tangible book value increased 12%. On
On Tuesday, the bank said it would make more spending cuts as its $1 billion investment in its business last year did not increase revenue. The cuts will include 1,200 job reductions in the Securities and Banking division.
Berkowitz sold his 850 Citigroup shares in the third quarter of 2007. He re-opened a position with 21,469,827 shares in the fourth quarter of 2009 at about $40 per share. He has been mainly adding since then, but has made a few small sales. Most recently, he sold 1,463,895 shares at an average price of $32.50 in the third quarter 2011; he now owns 24,924,003 shares.
Most of Berkowitz’s top stocks have a long way to go to fully recover, but 2012’s performance could mean they are on their way. Learn more about Bruce Berkowitz and see his portfolio here.