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Oct. 6, 2016, 1:00 p.m. EDT

Huge egos undermine star fund managers

Bruce Berkowitz, a one-time ‘Fund Manager of the Decade,’ crashes and burns

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By Howard Gold, MarketWatch


WSJ
Bruce Berkowitz’s Fairholme Fund has shrunk to $2.7 billion in assets, prompting Morningstar to warn that it “faces serious liquidity risks.”

You can quibble about the numbers — whether it’s 66% , 80%-plus or even up to 100% of fund managers who underperform indices and benchmarks. But the verdict is in: The overwhelming majority of active fund managers can’t beat the market.

No wonder investors have been dumping actively managed mutual funds . Passive funds now comprise more than one-third of the market.

The principal argument against active investing is that the additional costs of paying fund managers eats up whatever outperformance, or “alpha,” they’re able to generate through superior stock picking.

But some of the hottest money managers may flame out spectacularly for the same reason they became superstars in the first place: huge egos and massive overconfidence.

That was amply in display in an appearance last week by Bruce Berkowitz, manager of the once-stellar Fairholme Fund /zigman2/quotes/200889155/realtime FAIRX -1.12% , on the PBS show “ Consuelo Mack WEALTHTRACK .” (The Fairholme Foundation is a WEALTHTRACK sponsor.)

Berkowitz, you might recall, was named “Fund Manager of the Decade” for domestic equities by Morningstar in 2010.

It was as big a kiss of death as the Sports Illustrated cover jinx: Fairholme underperformed the S&P 500 Index badly over the next six years. It is ranked near the bottom of its category for the past one, three and five years. Long-time investors (including me) bailed: The fund’s assets under management dropped 87%, from $20 billion-plus to $2.7 billion now, prompting Morningstar to warn this week that the fund “faces serious liquidity risks.”

Berkowitz shone by making concentrated bets on big value names like Berkshire Hathaway /zigman2/quotes/200060694/lastsale BRK.B -0.77%  and, later, AIG /zigman2/quotes/203700638/lastsale AIG -3.72% . But his reversal of fortune came from outsized positions in barking dogs like Fannie Mae /zigman2/quotes/206704055/delayed DE:FNM -3.62% , Freddie Mac /zigman2/quotes/202741363/delayed FMCC -0.77% , Sears Holdings and St. Joe /zigman2/quotes/207502994/lastsale JOE -2.37% , which as of May 31 together comprised nearly 40% of Fairholme’s holdings. All of them have significantly underperformed the S&P 500 for nearly a decade.

Yet Berkowitz defended them as contrarian bets that would pay off if investors only were as patient as he. (Fairholme did not respond to emailed questions from MarketWatch by deadline.)

On Sears, he told Mack: “Our analysis we have right. It’s just taken longer.” Uh-huh, more than a decade. It’s a bet, he explained, on the real estate owned by Sears — a thesis embraced by Sears Holdings’ chairman and largest investor, Eddie Lampert of ESL Investments.

But Sears’ same-store sales fell 5.2% from last year, having tumbled in every quarter but one since fallen star Lampert took over in 2005. In August, the company borrowed $300 million from Lampert . Last year, it spun off some 254 Sears and Kmart stores into a real estate investment trust called Seritage Growth Properties.

Problem is, too many of the shopping centers in which Sears stores are located are becoming “zombie malls” where the only customers are the Walking Dead. A 2016 report from research firm Green Street Advisors estimated Sears would have to close nearly half its locations to generate the sales per square foot it did a decade ago. Good luck with that one.

/zigman2/quotes/200889155/realtime
US : U.S.: Nasdaq
$ 15.83
-0.18 -1.12%
Volume: 0.00
April 3, 2020
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/zigman2/quotes/200060694/lastsale
US : U.S.: NYSE
$ 178.34
-1.39 -0.77%
Volume: 6.65M
April 3, 2020 6:30p
P/E Ratio
5.37
Dividend Yield
N/A
Market Cap
$433.52 billion
Rev. per Employee
$637,113
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/zigman2/quotes/203700638/lastsale
US : U.S.: NYSE
$ 20.46
-0.79 -3.72%
Volume: 9.57M
April 3, 2020 6:30p
P/E Ratio
5.47
Dividend Yield
6.26%
Market Cap
$17.62 billion
Rev. per Employee
$951,774
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/zigman2/quotes/206704055/delayed
DE : Germany: Munich
1.34
-0.05 -3.62%
Volume: 0.00
April 3, 2020 9:02p
P/E Ratio
N/A
Dividend Yield
N/A
Market Cap
N/A
Rev. per Employee
N/A
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/zigman2/quotes/202741363/delayed
US : U.S.: OTC
$ 1.29
-0.01 -0.77%
Volume: 2.06M
April 3, 2020 3:59p
P/E Ratio
N/A
Dividend Yield
N/A
Market Cap
$838.58 million
Rev. per Employee
$10.66M
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/zigman2/quotes/207502994/lastsale
US : U.S.: NYSE
$ 16.10
-0.39 -2.37%
Volume: 309,189
April 3, 2020 6:30p
P/E Ratio
36.03
Dividend Yield
N/A
Market Cap
$956.58 million
Rev. per Employee
$2.08M
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