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John Huber
John Huber
Articles (101)  | Author's Website |

Bruce Berkowitz Discusses His Financial Investments

September 10, 2013 | About:
Bruce Berkowitz is one investor that I like to study. I like to run an adequately diversified portfolio, taking advantage of what I consider to be numerous high-probability situations. I imagine certain probabilities with each investment, and I look at diversification in two ways: One is through the various positions I currently have, and one is through the positions I will hold in the future. The latter refers to my thesis that over time, buying undervalued stocks over and over again will work. There will be some investments that don’t work out, but over time, on balance, it works.

I think some investors who are much more concentrated than I am focus more on the latter aspect of this type of thinking. Bruce Berkowitz is an example of a focused investor. Eddie Lampert, Mohnish Pabrai and Allan Mecham are other investors who focus. They each own just a few stocks, and their top idea represents a major part of their portfolio. Perhaps this is part of the reason for their huge returns over time. I run portfolios that are more diversified, but these investors often provide me with great ideas to research.

13-Fs Are Idea Generators

As Pabrai recommends, I look at 13-F filings each quarter to find out what the greatest investors are buying. I think of 13-F filings as idea generators. They are starting points… not ending points for investment ideas. I think of these 13-Fs as a way to leverage these larger firms’ vast resources, talent and experience to source investment ideas. They are analysts, and I don’t have to pay them!

I think there is research out there that has concluded that following the best investors’ best ideas leads to significant outperformance. But I don’t think of these 13-Fs as an automatic investment system. I don’t run out and buy a stock because one of the investors I track just bought it. If I see an idea that looks interesting, I’ll look at it more closely and determine if it makes sense to me. More often than not, it doesn’t.

I go through my usual pre-inspection checklist:

  • Do I understand it? (Very basically, how do they make money?)
  • Is it cheap? (Big picture simple valuation metrics)
  • What are insiders doing?
  • What are the risks?
  • What’s the upside?
Most of the questions get answered along the way, but I like to immediately see if I can get a rough idea of what I’m dealing with. Sometimes, ideas are obvious, sometimes they aren’t. But it’s always interesting when the investor himself discloses some of his thought process behind his investments.

Bruce Berkowitz Discusses His Best Ideas

Last week, I caught this Bruce Berkowitz video where he discusses his new position in Fannie Mae and Freddie Mac preferred shares. The positions represent about 5% of his portfolio, but have the potential to become much larger since they trade at 20% of their par value.

These Fannie and Freddie preferreds are trading at about 20% of their liquidation value, and thus have significant upside. I took a look at these a few weeks ago, and after a quick look, decided that their fortunes were too tied to Congress. I don’t see an alternative to these GSEs, and the residential housing market is too tied to these entities to simply remove them from the equation, but at the same time, I’m having a hard time determining how the government decides to play this out. And we know they play by their own rules. For example, they implemented a “sweep” amendment which simply allows them to take all of the profits from Fannie and Freddie (and these profits are huge [size=11pt; line-height: 115%; font-family: Calibri, sans-serif]— [/size]the GSEs just had one of the most profitable quarters in their history ).

I don’t quite see how this is possible, legal or constitutional, but they did it, and now shareholders have to file suit just to try to protect their rights as owners.

Obviously this uncertainty is the reason that the preferreds trade at 20% of their par value, leaving a 5x possible return if this gets sorted out in Berkowitz’ favor. I decided to pass (it failed my first question: Do I understand it?) and will watch with interest to see how the situation resolves itself.

Berkowitz also discussed his ideas on AIG, BAC and SHLD, his top 3 positions which represent a large majority of his overall assets. These ideas are much easier to follow — they’re cheap, selling well below book value (or in Sears’ case, below Berkowitz’s estimated value of their real estate assets).

It’s interesting to note that he’s very bullish on all three, even after huge runs by AIG and BAC.

Here is the video with Berkowitz discussing his ideas:

About the author:

John Huber
I am the portfolio manager of Saber Capital Management LLC, a Registered Investment Advisor (RIA). Saber is an investment firm that manages separate accounts for clients. I established Saber as a personal investment vehicle that would allow me to manage outside investor capital alongside my own. Saber employs a value investing strategy with a primary goal of patiently compounding capital for the long-term.

By using separate accounts, Saber offers its clients complete transparency and liquidity (the funds are held in the name of the client and cannot be accessed by the investment manager). Saber looks to partner with like-minded clients who are interested in a patient, long-term approach to investing that is rooted in the principles of value investing.

I also write at the blog www.basehitinvesting.com.

I can be reached at [email protected]

Visit John Huber's Website

Rating: 3.8/5 (12 votes)


Cornelius Chan
Cornelius Chan - 3 years ago    Report SPAM
Obviously this uncertainty is the reason that the preferreds trade at 20% of their par value, leaving a 5x possible return if this gets sorted out in Berkowitz’ favor. I decided to pass ([i]it failed my first question: Do I understand it?) and will watch with interest to see how the situation resolves itself.[/i]

This is a very good response from you IMO. There are plenty of balls coming at you but you can wait for a ball that you are comfortable hitting.

A point I have made earlier on this site (and which was misunderstood by the crowd) is that... To some, what is a speculation to others can be an investment because of higher level knowledge afforded due to some connection or association or just plain accurate knowledge of an investable idea.

I laughed when some guru went and invested in Bank of Ireland or Royal Bank of Scotland or National Bank of Greece... all ridiculously cheap stocks, they have gone up a bit since. Yes even I was salivating at these cheap stocks, but I cannot begin to value them due to major problems with Western banking system. But then, I thought, right... to him it could be more of an investment than a speculation because he knows a hell of a lot more about it than I do.

End of the day: don't try and pretend to understand something just to ride a guru's coattails. I agree with you 100% and just put it in the 'too hard pile' and move on.

Batbeer2 premium member - 3 years ago
FWIW, I think an investment in JNJ or KO is in no way simpler than buying Fannie Mae's preferreds. Frankly, I don't think it comes much simpler than FNMAJ. Most investors have a rough idea of the risk associated with Fannie and and the economic value of its assets.

At 5x book, 4x sales and 16x earnings, one has to have a pretty good understanding of the franchise value of KO to confidently buy that stock. I think most people who own KO, are unable to come up with a coherent explanation why KOs assets today are worth 25B, 100B or 250B.

That makes KO a speculative stock doesn't it?

The owner of FNMAJ probably has a better idea of what it is they own than the typical owner of KO.

I'd rather own a stock that the market rightly perceives to be wrought with risk than a stock that the market wrongly perceives to be free of risk.

The reason people won't come out and say they like FNMAJ is because if it flops, people will say: "you idiot/pig/fool you should have known". If you sing the praises of KO and it flops, people will say: "WOW, bad luck. Management sure screwed up there didn't they?"

In value investing, no amount of analytical skill will make up for a lack of social courage.

Just random thoughts.
Vgm - 3 years ago    Report SPAM
"I laughed when some guru went and invested in Bank of Ireland...But then, I thought, right... to him it could be more of an investment than a speculation"

CWR -- Wilbur Ross and Prem Watsa made sizable investments in Bank of Ireland a couple of years back when they bought from the Irish government. We can only assume they had clarity in the deal. We certainly know they had multiple discussions directly with the government. Gurus of that caliber never speculate. They only buy when they understand the business and its prospects, and are they're willing to be patient over the long term. They bought at 10 Euro cents/share at a time when tangible book value was north of 25.

Long Bank of Ireland
Cornelius Chan
Cornelius Chan - 3 years ago    Report SPAM
"Long Bank of Ireland"

I sincerely hope you make out like a bandit with this stock. I had to let it pass me by, along with those other ultra-cheap European banking stocks.

"Gurus of that caliber never speculate. They only buy when they understand the business and its prospects, and are they're willing to be patient over the long term"

This is an accurate statement on the face of it. It does contain some subtleties that could be fleshed out though.

Such as the understanding of investment and its price per share.

1) How much should I trust the guru vs. my own homework? 50/50? 70/30?

2) Having trusted the guru's homework, is the margin of safety through cheapness good enough?

Regarding those ultra-cheap (at the time) European banks, I must admit my bias against Western banks led me to easily pass them by. So it is not like I did hours of my own homework and decided only after I had put in the due diligence.

Regarding Fannie Mae, they were cheap at 80 cents a share. They are 5 bucks now. I would have preferred them at the 80 cents. LOL!
Extramiler - 3 years ago    Report SPAM
Batbeer, why did you pick the J preferreds over the others? Thanks
Batbeer2 premium member - 3 years ago
>> Batbeer, why did you pick the J preferreds over the others?

Just an example. there's not much between them.

I had a look at all of them and the bid/ask spreads can be meaningful. I'd prefer the ones with a high nominal yield. None of them should ever trade above par since they are redeemable at par. If I were in charge of Fannie Mae and I were to start redeeming some preferreds, I would start with the ones that:

1) Were redeemable (the ones that are past their expiry date)

2) Have the highest nominal yield.

FNMAG for instance is also currently redeemable but has a nominal yield of 5.3%. FNMAJ has a nominal yield of 7.6%. Both currently trade at about 20% of par. It is conceivable that Fannie redeems the latter while letting the former ride. In such a scenario, I would prefer to own FNMAJ and be bought out (if only because of the lower trading costs).

Then there's the possibility that something else good happens to Fannie and/or Freddie without the preffereds being redeemed in which case they would all probably gap up to par or something close to that. At par, I obviously prefer 7.6% to 5.3%.

In short, the preferred shares are accounted for as a form of debt. If someone decides Fannie Mae has to reduce its leverage (this would make political, legal and economic sense), the preferreds that are currently redeemable have a big target on their back. The higher the nominal interest rate, the bigger the target.
Vgm - 3 years ago    Report SPAM
"I sincerely hope you make out like a bandit with this stock [BoI]"

CWR -- thanks, it's done just fine so far (up 150%). Due to market volatility at the time, I was fortunate to be able to buy in significantly below Watsa and Ross.

I bought a basket of ultra-cheap European banks during the turmoil which was 50% of my portfolio, with BoI by far the largest component. They have all risen from the ashes in the past two years. They were all 'too important to be allowed to fail' IMHO. In each case, one or more value investors whom I respect had bought at least one of them.

To your question about how much emphasis should we put on a guru valuation versus our own, I feel that's a personal choice and is context-dependent. I'll be very humble here and say that I consider all my own personal gurus to be vastly better than I am. It's just a fact. In the case of BoI, there was terrific disclosure from the bank itself as to the status quo which allowed me to do quite indepth DD, as well as disclosure from Ross and Watsa which told me exactly what they were doing and paying. They also had great confidence in the CEO and in Ireland's prospects for recovery - two pieces of information I could not myself have elucidated. All told, it became a compelling investment case, and I bought big.

But I'm not alone. Pabrai recently said that Munger had given him three suggestions for finding good investments. One was to look at what the great investors are doing. I think it's a very efficient path to success. I pay especial attention to those who run highly concentrated portfolios since concentration reflects confidence, and confidence comes from deep analysis. (Glenn Greenberg and Lou Simpson are two)
Extramiler - 3 years ago    Report SPAM
Thanks Batbeer!
CarstenPrause - 3 years ago    Report SPAM


As far as I understand, currently the US Government collects all dividend payments and is not paying them out to investors which is what Berkowitz's lawsuit is about. Is there a way to win with the preferred even if Bruce lost his lawsuit? Do you have an understanding if the preferreds would need to be bought back eventually or is there a risk that preferred shareholders could get wiped out?

I appreciate your comments.


Batbeer2 premium member - 3 years ago
>> Do you have an understanding if the preferreds would need to be bought back eventually or is there a risk that preferred shareholders could get wiped out?

The short answer:

Only in the stock market are people willing to bet tens of billions of dollars that a politician can be trusted to to do precisely as he says.

The long answer:

I can come up with three scenarios.

1) Nothing changes. The treasury continues to sweep all the cash forever and fund all deficits forever too. Fannie and Freddie's employees are in effect now civil servants and tax payers now own the company outright as well as any risk that comes with that.

There is no political, economic or legal driver for this scenario. I can see why it needed to be done but it seems equally inevitable to me that it will stop.

2) Congress revokes the mandates of Fannie and Freddie.

The banks won' t be able to sell their loans to Fannie or Freddie and immediately run out of cash to originate new mortgages because no one is buying the old ones. That would create problems that are orders of magnitude worse than the problems of 08/09..... Unless of course the banks are allowed to lever up a few trillion dollars to do it. This would serve to postpone armageddon a few years.

OK, let's assume they avoid this by first creating some new Fannies and Freddies before killing the old ones.

You are then left with the mountain of very long-term loans that Fannie and Freddie already own. That portfolio is growing rapidly as we speak. Is the government of the USA going to confiscate all mortgages that were originated in recent years?

No. If this comes to pass, Fannie and Freddie will be returned to shareholders minus their former mandate. Politicians get to declare victory and lawyers won't have much of a case.

3) Obama announces some very tough new regulations (akin to what the ED did to the for-profit education) that he says will rule out housing bubbles and credit crunches forever. The treasury subsequently exercises their warrants (thereby retaining control) and Fannie and Freddie are released from conservatorship.

If the treasury ever exercises those warrants to take control of the common, are they likely to take care of the preferreds first?

Under all three scenarios, someone is going to have the job of reducing the leverage of Fannie and Freddie. Redeeming those pesky preferred shares is a start. It can be done in weeks without legal hassle and has an immediate positive impact on complexity of the situation and the leverage as reported under the latest Basell rules.
John Huber
John Huber premium member - 3 years ago
Batbeer, great comments. Thanks for your input on this. It's a very interesting situation. A lot of variables and a lot of game theory here. Will be interesting to see how this shakes out eventually.

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