Should You Give These Former Star Fund Managers Another Chance?
It’s not easy being a rock-star fund manager. Beating your peers often means taking bold steps that are contrary to what other investors are doing. And when those risky moves go wrong, you can lose your sparkle in a hurry.
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Many former stars saw their reputations tarnished in recent years—whether by holding stocks that led to huge losses during the 2007–09 bear market or by missing out on big gains in the years since. But not all of them should be permanently ostracized. We took a close look at the records and investment decisions of six of these managers to determine who should be allowed back onto your “buy” list.
CGM Focus (symbol CGMFX)
Veteran manager Ken Heebner made all the right moves for years. From 2003 through 2007, his concentrated fund gained a whopping 37% annualized (a figure that included a stunning 80% gain in 2007). Over that period, CGM crushed Standard & Poor’s 500-stock index by an average of 20 percentage points per year. But the fund flamed out during the subsequent downturn, and it has never regained its mojo.
The big problem is that you never know what you’re going to get with Heebner. He typically holds only about 20 stocks, and he trades frenetically. Plus, he combines big-picture calls and company-specific bets. Because of Heebner’s approach, it’s difficult to tell what is driving the fund’s returns at any given moment, and his returns tend to vary widely from those of the market. This fund is suitable only for aggressive investors.
Fairholme Fund (FAIRX)
Bruce Berkowitz still has a solid long-term record. His fund beat the S&P 500 in eight of the past ten calendar years, and its 11% annualized gain over the past decade is enviable by almost any standard. But the fund’s worst year was a doozy. In 2011, it lost 32%, lagging the S&P 500 by 35 percentage points.
Investors shouldn’t judge Berkowitz too harshly, however. With concerns about a downgrade of the U.S. credit rating and the possible financial collapse of several European countries high on investors’ minds, fear fueled the markets in 2011, and risky investments were punished. Berkowitz held large stakes in financial stocks, which suffered severely. But those holdings represented a bet that the global economy wasn’t going to the dogs, and Berkowitz was right. Many of his positions that stank in 2011 came up smelling like roses in 2012, when Fairholme gained 35.8%, more than double the market’s 16.0% return.
Still, we can’t recommend the fund today, and that’s not only because it’s closed to new investors. At last report, one stock, insurer American International Group, accounted for 41% of the fund’s assets. That means Fairholme’s performance will be inextricably tied to the fate of that one company.
Hussman Strategic Growth (HSGFX)
John Hussman called the 2007 top of the market with spooky accuracy, and he rode to glory during the subsequent bear market. Strategic Growth lost only 6.5% from the market’s peak in October 2007 through its low in March 2009, compared with a 55% loss for the S&P 500. That’s in no small part because of the nature of the Strategic Growth fund: Hussman picks individual stocks to hold, but he can also profit from a market decline by using index futures and options.
Lately, however, Strategic Growth has been stuck in reverse. Since the market’s nadir, the fund lost 4% annualized. Some poor stock picks are partially to blame, but Hussman’s bearishness is the main culprit. In a 2009 interview with Kiplinger’s, for example, Hussman said that U.S. stocks had gotten expensive and that he had positioned Strategic Growth to defend against a declining market. That was when the Dow Jones industrial average was below 8800; now it’s about 15,000.
Legg Mason Opportunity (LMOPX)
Until the bear market struck in 2007, Bill Miller shone as brightly as any star manager. His most notable claim to fame was beating the S&P 500 for 15 straight years at Legg Mason Value (he stepped down from that fund in 2012). His record at Legg Mason Opportunity, a more aggressive fund, was also enviable. However, when the housing bubble burst, Miller believed that U.S. policymakers would be able to steer the economy back on track. So he loaded up on beaten-down financial stocks, including Bear Stearns, Wachovia, Fannie Mae and Freddie Mac. “I was dead wrong,” Miller says.
We think it’s finally time to let Miller out of the doghouse. For one thing, his results since the crisis have been spectacular (albeit highly volatile). Opportunity has returned 37% annualized since the market’s 2009 low, beating the S&P 500 by 13 percentage points per year, on average. And Miller isn’t gun-shy despite the shellacking he took during the crisis. More than 30% of the fund is currently invested in housing-related stocks. “It’s blindingly obvious that housing is recovering,” he says. Miller still likes financials and has recently been buying airline stocks.
Longleaf Partners (LLPFX)
This once highly regarded fund had a humbling experience through the 2007–09 bear market. Although Longleaf didn’t gorge on financial stocks, as some other value funds did, it did own such lemons as General Motors and Sprint Nextel. All told, the fund shed 65% during the bear market.
But Longleaf hasn’t changed its time-tested buy-and-hold strategy. Co-managers Mason Hawkins and Staley Cates still own only 20 or so stocks, and they keep an issue for four years, on average. They look for strong firms that are run by skilled executives and that generate growing amounts of free cash flow (the money that’s left for dividends, share buybacks and acquisitions). To be considered for purchase, a stock must generally trade for at least 40% less than the managers’ estimate of a firm’s true value.
We don’t think Longleaf’s 2007–09 performance represented an egregious failure of judgment. Rather, it was a period in which the managers’ strategy simply was out of favor. Over the long term, this volatile fund should deliver.
Oakmark Select (OAKLX)
Much of the aughts weren’t kind to Oakmark Select. The fund trailed the S&P 500 each year from 2004 through 2007. For most of that period, it lagged because its managers were avoiding stocks of commodity companies, says Bill Nygren, who has co-managed the fund since its 1996 inception. In 2007, however, the primary culprit behind the fund’s sorry showing was its outsize stake in Washington Mutual, the Seattle-based bank that collapsed in September 2008 (much of WaMu’s stock-price decline occurred in 2007).
But Nygren didn’t alter his value-oriented strategy in response to Select’s performance bumps, and he is again at the top of his game. Select has returned 31% annualized since the market’s March 2009 low, besting the S&P 500 by an average of six percentage points per year. “Nobody can beat the market year after year—performance is lumpy,” says Nygren. “But investors who stick with a sound investment philosophy despite bad periods tend to perform better over the long term.”
Despite being burned by a bank, Nygren hasn’t turned his back on financial stocks. At 28% of assets, financials are Select’s biggest sector weighting. The stocks remain cheap, Nygren says, because so many investors still want nothing to do with them.