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Bruce Berkowitz Has 26% of the Fairholme Fund in AIG – Don’t You Think You Should at Least Consider It for Your Portfolio?

February 03, 2012 | About:
CanadianValue

CanadianValue

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This week GuruFocus provided us with a copy of the 2011 Bruce Berkowitz / Fairholme Fund letter to his shareholders.

What an awful year for Berkowitz. Not just was performance horrible, down 32.42%, but his investors have also been abandoning him like rats on a sinking ship with his assets decreasing from $21 billion at the start of 2011 to under $7 billion by year end.

Isn’t it amazing that in one year Berkowitz has gone from being crowned the manager of the decade by Morningstar in 2010, to someone you are afraid to entrust your money to?

I just don’t buy that Berkowitz has lost it. The mistake that Berkowitz has made in my opinion is that he has invested the fund's money the way he would invest his own money. He is taking a concentrated portfolio approach and trying to make as much money as he can, without risking permanent impairment of capital.

In doing this he has ignored the impact that volatility will have on the loyalty of his investors. Unlike Berkowitz, most investors can’t handle paper losses.

I think there are going to be a lot of people regretting giving up on Berkowitz at exactly the wrong time.

Because the Berkowitz's portfolio has been beaten down there could be some very attractive opportunities. And the one that I just can’t ignore is AIG (AIG). Berkowitz has an astonishing 26% of the Fairholme Fund in AIG. To me that says either he thinks this is one of the greatest opportunities he has ever been presented with or he has gone completely off the deep end.

So when I saw the video below which is a discussion with the AIG chairman I sat up and paid attention. If there is any company that has more stink on it than AIG I don’t know what it is. As the poster boy for the financial panic in 2008, AIG has been left for dead, and may very well present a great opportunity.

Some key points:

- Taxpayers still own 70% of AIG

- AIG is ready to grow and return capital

- AIG is done playing defense and is ready to go on the offensive

- AIG has excess capital and is repurchasing shares

- AIG is going to pay back shareholders by growing the business and may make acquisitions

- AIA may well become one of those acquisitions

- AIG is not rolling over and dying in a liquidation, the future is growth



Now here is what Berkowitz most recently had to say about AIG:

AIG common stock and warrants are by far the largest issuer holding of The Fairholme Fund and the company is worthy of a Dickens novel. Started in Singapore by U.S. citizen C.V. Starr in the 1930’s, built into a shining example of how America can compete and win around the world by an imperial M.R. Greenberg, torn apart by a ruthlessAG Spitzer, and now rising from the ashes of a great tragedy. The company’s book value of $45 per share is heading to $55 in the near future and yearly earnings power of $4 per share will further propel shareholder value. Yet, AIG’s market price plummeted to less than half of book value due to what we can only surmise as a belief that the United States Treasury will sell its 77% ownership stake below the Department’s $29 cost. Why this is negative for long-term investors we do not know.

My problem with AIG is that it is far too complex for me to fully understand it. I owned it for most of the month of October and sold with a very quick and lucky gain. I’m considering buying again, but am aware that if I do I’ll be doing so more because of Berkowitz and his conviction than anything I know.

Rating: 3.9/5 (26 votes)

Comments

waup7707
Waup7707 - 2 years ago
I took out a home equity line of credit from AIG several months ago and it gave me a front-row-seat view of AIG’s people and business. To sum it up, it was very frustrating and painful to do business with AIG. It took more than three months, two appraisals, and endless due diligence of AIG’s loan team to close my HELOC. After closing, it took more than three weeks for AIG to put my account in their system. My excruciating experience tells me that AIG is a dysfunctional, bureaucratic, indifferent place. If I were a shareholder, I would have been horrified and dumped my shares.

In the past several years both before and after financial crisis, I have pulled up AIG’s 10k’s and tried to understand its business, risk and value. However, I have to admit I am not competent of understanding AIG and I feel few if any investors may truly assess the risks of AIG’s myriad businesses and derivative books.

Even for my personal portfolio without redemption pressure, I would be extremely uncomfortable putting more than 5% of my total asset on a black-box type of financial company with a lot of risks that cannot be quantified.

mo77
Mo77 - 2 years ago
AIG is my largest holding within my 401k portfolio. There are very few companies out there w/ a lower risk of a permanent impairment of capital. What people forgot about AIG is that it was a single division, the AIG financial products unit that wrote the now infamous Credit Default Swaps that brought the entire company down.

However every other division of this company was fairly profitable.

With every big financial institution there are risks and a certain amount of black boxism. Everything is paper, what the value of that piece of paper is from one day to the next may fluctuate.

I would posit that these companies in 2012 are in far better shape for the following reasons:

- There is endless external scrutiny (news media, the political class, Wall street analysts & Wall Street protestors) on every move AIG makes and a constant assessment of it's assets and liabilities.

- I also feel there is far greater internal scrutiny of the assets and liabilties held by AIG as well as these other institutions.

I hold this view because human nature dictates it.

Unfortunately running a mutual fund like Berkowitz does, you do not have the luxury of permanent capital and you are subject to constant pressure of shortened time horizons. Berkowitz is forced to sell at a loss because of high redemption rate.
jcla71
Jcla71 - 2 years ago
These are the facts: in a year when the market was flat, eight of the top ten largest positions in Berkowitz's portfolio were down more than 40% in 2011: AIG, BAC, C, SHLD, MS, GS, RF, and JOE.

I have no doubt that these shares were "cheap" last year. The problem, however, is that cheap stocks have a tendency to get cheaper. Berkowitz should consult a chart once in a while, and observe price and volume movements.

Also, AIG is a horrible insurance company to deal with, from a policyholder's perspective. This has been the case for years. They deny virtually every claim, on the flimsiest of grounds, and force the policyholder to bring litigation in force them to pay benefits due under the policy.
wescileppi
Wescileppi - 2 years ago


No, quite frankly I don't. Berkowitz joins the long list of former top rated fund managers who have flamed out spectacularly. He forgot or ignored Buffett's two rules of investing about not losing capital. The more I read about mutual funds and study Buffett and the other great value investors, the more convinced I become about index funds (If you must invest in mutual funds) or my own personal investment fund made up of individual stocks.
vuasu
Vuasu - 2 years ago
How can one conclude that permanent capital loss has incurred when the companies are doing better and the book values and earnings are improving?? Does Ben Graham buy WONDERFUL companies and hold forever!
Chaim422
Chaim422 - 2 years ago
The article is spot on. Of course it is cheap for a reason. But this cheap? It's book value is >$45/share. That means that if AIG would close down shop tomorrow, that is what shareholders would get. (Of course this is simplified, but that's the idea.)

While no one thinks that they will close tomorrow, the book value is a good proxy for what it's really worth. If it's worth less than book value then they have no reason to stay business.

My fear is that they are selling policies below cost to make the numbers look better than they are and to raise cash. Does anyone have any insight into this issue?
mpt
Mpt - 2 years ago
One challenge with AIG is SOTP. In a spin-off, Some parts of AIG would trade at super low multiples.

Here are the parts:

- AIA Stake

- NOL Carry forward

- Chartis --- ( mediocre P&C will carry multiples higher then AIG but lower then peer group )

- SunAmerica ( life insurance. Most life companies like HIG and LNC have lower multiples than AIG)

- Union Guaranty ( Mortgage Gauranty peers like MTG and RDN carry low valuations)

- Air Craft Leasing ( Peers are carrying very low market multiples)

I haven't tried to figure out SOTP but that would be an interesting exercise.
benethridge
Benethridge - 2 years ago
"The company’s book value of $45 per share is heading to $55 in the near future and yearly earnings power of $4 per share will further propel shareholder value."

So why is he selling it?...at a loss?
Charteroak_2000
Charteroak_2000 premium member - 2 years ago


Would I consider it ? Nope -that's one that goes into the "too hard" pile...
AlbertaSunwapta
AlbertaSunwapta - 2 years ago
wescileppi, I don't think volatility equals losses in Buffett's mind. Buffett has said he'd like to see the stocks he owns fall by 50%. Berkowitz is only down 40%.

Berkowitz is living the dream. :-)
Cogitator99
Cogitator99 - 2 years ago
Benethridge, as mentioned, he had to sell holdings to meet redemptions. That's probably why MS is gone and why C is close to being gone.

That said, unless picking stocks is all you do for a living, AIG is probably way too tough to tackle.
benethridge
Benethridge - 2 years ago
Ah, good point, Cogitator99. Charlie Munger made a comment on such redemptions, as I recall. He said he couldn't do a good job under such a constraint either....or something to that effect.

Ben
aladdu
Aladdu - 2 years ago


I think Berkowitz has been right more often than he is wrong. However, I was troubled by the fact that he would not provide a number on what he believed the intrinsic value of SHLD is. Not sure why he would do that. Warren Buffett would not communicate with his partners very often about his positions. But, when he did, he would make sure they knew what he had, what intrinsic value he believed it had and so on.

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