Street Capitalist: Event Driven Value Investments

Larry Light at the WSJ has a great article (ht: abnormal returns) on timberland and its outperformance as an asset class. I’ve never invested in timberland myself, but Light says it features some unique qualities that make it a great place to invest:

Timberland, which a few years ago became a popular investment among institutions and wealthy folks, has held up amid market massacres for most other assets lately.

Through Sept. 30, the value of timberland rose 5%. When the National Council of Real Estate Investment Fiduciaries reports 2008′s final quarter this week, this number is unlikely to move much. That marks a slower pace of growth, yet it is growth nonetheless. In 2007, timber appreciation was a towering 15%…

Timberland is the ultimate long-term investment, with relatively little bought and sold each year — and demand still respectable for what does change hands. “As long as the sun shines, the trees will grow,” says Jeremy Grantham, chairman of Boston money manager GMO and a long-time fan of timber investing. “Timber will never be an orphan.”

Timber often is likened to high-grade bonds, meant to be held for 10 years or more. The average annual timberland appreciation for the past decade is 4.1% versus minus 3.8% for the Standard & Poor’s-500 stock index. The timberland appreciation figure, which encompasses both the land and the trees, is based on sales and appraisals. After 10 or 15 years, investors cash out when the land is sold.

This isn’t the first time I’ve heard about timberland and its potential to beat the returns of other assets during times of economic turmoil. Shai Dardashti once offered the following passage from Hedgehogging by Barton Biggs:

Gerson Bleichroder was a nineteen-century German Jew who had a life filled with immense financial triumph, persecution, and personal sadness. Otto Von Bismarck represented the Old Prussia – aristocratic, agrarian, hierarchic – and it was his ambition and vision that welded the First Reich into an empire. In 1859, when he was 37, Bleichroder became the banker and investment adviser for the rising Junker diplomat, and for 30 years the two leveraged their insights and power to achieve great wealth and prominence…

Bismarck, the Prince, worked hard at projecting a magnificent exterior and omnipotence….His primary obsession, other than ruling Germany, was with making money in the stock market so he could buy more and more timberland. He treated everyone around him abominably.

However, both men must have had that mystical “seeing eye,” which enabled them to perceive the future chain of events that would be triggered by an action in the present. This is what successful investing still is all about. While suspended in the midst of times that were full of mystery, uncertainty, and doubts, they had the capacity to maintain their pose and world view and never to impatiently or irritably reach for a fact or conclusion.

Bleichroder exploited the insights that Bismarck provided to make both his patron and himself very rich. But he also had what Bismarck once referred to as “a certain timidity in investing.” He told his clients he would attempt to get them over the long run a real return (after inflation) of 4% per annum, which would mean that the purchasing power of their wealth would double every 17 or 18 years. His timidity kept him from becoming engulfed in the new-issues market of the 1870s or in the mania for colonial investing that later wiped out so many men and German banking houses. Bismarck was perfectly satisfied with this return, but always withdrew his profits and invested them in land and trees.

Bismarck’s appetite for timberland was insatiable. His theory was that the price of land would gradually appreciate in line with population growth, or about two percentage points annually. His studies had convinced him that German forests would grow 2.75% a year, so that his real return for timberland would be around 4.75% per annum, because inflation at the time was virtually zero. If there was inflation, he was sure timberland and log prices would appreciate in line with the inflation. He thought that with very little risk, this was a spectacular compounding of wealth. As it turned out, Bismarck was absolutely right.

Over the next half century in Germany of war, inflation, surrender, and depression, timberland held value far better than anything else.

Now many of you must be wondering how to invest in timberland. From what Light says, it’s quite difficult unless you’re a member of the mega rich or at least managing their money. He does mention one company though, Plum Creek Timber Co. (NYSE:PCL). I learned about PCL a few years ago, from Clyde Milton’s Cheap Stocks. I’m hesitant to say that investing in PCL is a way to expose yourself to timberland though.

The company does own some timberland, 8 million acres or so, with 21% of that being higher quality timberland. On a back of the envelope valuation basis, the company seems like it may be undervalued. Right now, it’s selling on an EV/Acre basis of around $890 versus $1500 on the low end for the price per acre of timberland.

I would caution investors to understand a few things about PCL before rushing into it. The way an equity security behaves will be quite different than an investment in timberland. Light makes a number of points that expresses the strength behind timberland: it’s relatively illiquid, takes years to unwind, and in a bad year you can simply let the trees and value grow. In some ways, this reminds me of frontier markets. Those too, are so remote and hard to access that they don’t suffer from Mr. Market’s fits of manic depression as much. PCL wont behave like that because it’s a common stock. Every day market participants will be putting a value on the company no matter what. In that sense, it will be influenced by a whole host of factors.

We all know that the price of a security and the value of a security are two very different things. What this all means is that even though timberland investors saw a 4% appreciation for their investment in 2008, a PCL investor would have seen a -50% decline in their investment. This is because PCL is subject to different influences. Over the longer term, its likely that value will follow in a company like PCL and in that case, if you’re bullish on timberland, it might be a good place to invest. An investor would have to look at the company’s current management and other business lines in order to accurately gauge whether the company is as undervalued as it looks based on the EV/Acre basis. This is something that could be worth looking into.

Yesterday, I read the Bill and Melinda Gates Foundation’s annual letter. You can find a link to it here.

In Gates’ letter, he mentions that one of the problems facing the Gates foundation and really all philanthropic organizations is the economy. When times are good, people are usually more likely to give away money. With asset prices falling, the likelihood of that is less. Gates quoted a passage from John Maynard Keynes in his letter, which he said was sent to him by Warren Buffett:

“This is a nightmare, which will pass away with the morning. For the resources of nature and men’s devices are just as fertile and productive as they were. The rate of our progress towards solving the material problems of life is not less rapid. We are as capable as before of affording for everyone a high standard of life—high, I mean, compared with, say, twenty years ago—and will soon learn to afford a standard higher still. We were not previously deceived. But today we have involved ourselves in a colossal muddle, having blundered in the control of a delicate machine, the working of which we do not understand. The result is that our possibilities of wealth may run to waste for a time—perhaps for a long time.”

THE GREAT SLUMP OF 1930 – John Maynard Keynes (Project Gutenberg)

The problem that Keynes saw at the time was one in which the lenders stopped lending and factory owners stopped producing goods because they feared that there would be no one to sell to. The following passage has certain parallels to what we’re experiencing now:

Why is there an insufficient output of new capital-goods in the world as a whole? It is due, in my opinion, to a conjunction of several causes. In the first instance, it was due to the attitude of lenders—for new capital-goods are produced to a large extent with borrowed money. Now it is due to the attitude of borrowers, just as much as to that of lenders.

For several reasons lenders were, and are, asking higher terms for loans, than new enterprise can afford. First, the fact, that enterprise could afford high rates for some time after the war whilst war wastage was being made good, accustomed lenders to expect much higher rates than before the war. Second, the existence of political borrowers to meet Treaty obligations, of banking borrowers to support newly restored gold standards, of speculative borrowers to take part in Stock Exchange booms, and, latterly, of distress borrowers to meet the losses which they have incurred through the fall of prices, all of whom were ready if necessary to pay almost any terms, have hitherto enabled lenders to secure from these various classes of borrowers higher rates than it is possible for genuine new enterprise to support. Third, the unsettled state of the world and national investment habits have restricted the countries in which many lenders are prepared to invest on any reasonable terms at all. A large proportion of the globe is, for one reason or another, distrusted by lenders, so that they exact a premium for risk so great as to strangle new enterprise altogether. For the last two years, two out of the three principal creditor nations of the world, namely, France and the United States, have largely withdrawn their resources from the international market for long-term loans.

Meanwhile, the reluctant attitude of lenders has become matched by a hardly less reluctant attitude on the part of borrowers. For the fall of prices has been disastrous to those who have borrowed, and anyone who has postponed new enterprise has gained by his delay. Moreover, the risks that frighten lenders frighten borrowers too. Finally, in the United States, the vast scale on which new capital enterprise has been undertaken in the last five years has somewhat exhausted for the time being—at any rate so long as the atmosphere of business depression continues—the profitable opportunities for yet further enterprise. By the middle of 1929 new capital undertakings were already on an inadequate scale in the world as a whole, outside the United States. The culminating blow has been the collapse of new investment inside the United States, which to-day is probably 20 to 30 per cent. less than it was in 1928. Thus in certain countries the opportunity for new profitable investment is more limited than it was; whilst in others it is more risky.

A wide gulf, therefore, is set between the ideas of lenders and the ideas of borrowers for the purpose of genuine new capital investment; with the result that the savings of the lenders are being used up in financing business losses and distress borrowers, instead of financing new capital works.

At this moment the slump is probably a little overdone for psychological reasons. A modest upward reaction, therefore, may be due at any time. But there cannot be a real recovery, in my judgment, until the ideas of lenders and the ideas of productive borrowers are brought together again; partly by lenders becoming ready to lend on easier terms and over a wider geographical field, partly by borrowers recovering their good spirits and so becoming readier to borrow.

Seldom in modern history has the gap between the two been so wide and so difficult to bridge. Unless we bend our wills and our intelligences, energized by a conviction that this diagnosis is right, to find a solution along these lines, then, if the diagnosis is right, the slump may pass over into a depression, accompanied by a sagging price-level, which might last for years, with untold damage to the material wealth and to the social stability of every country alike. Only if we seriously seek a solution, will the optimism of my opening sentences be confirmed—at least for the nearer future.

It is beyond the scope of this article to indicate lines of future policy. But no one can take the first step except the central banking authorities of the chief creditor countries; nor can any one Central Bank do enough acting in isolation. Resolute action by the Federal Reserve Banks of the United States, the Bank of France, and the Bank of England might do much more than most people, mistaking symptoms or aggravating circumstances for the disease itself, will readily believe. In every way the more effective remedy would be that the Central Banks of these three great creditor nations should join together in a bold scheme to restore confidence to the international long-term loan market; which would serve to revive enterprise and activity everywhere, and to restore prices and profits, so that in due course the wheels of the world’s commerce would go round again.

Keynes’ solution was that central banks needed to come together and take unified action in order to shore up confidence. Today’s Wall Street Journal had a great article penned by Yale’s Robert Shiller about the difficulties behind rallying confidence:

The term “animal spirits,” popularized by John Maynard Keynes in his 1936 book “The General Theory of Employment, Interest and Money,” is related to consumer or business confidence, but it means more than that. It refers also to the sense of trust we have in each other, our sense of fairness in economic dealings, and our sense of the extent of corruption and bad faith. When animal spirits are on ebb, consumers do not want to spend and businesses do not want to make capital expenditures or hire people…

A critical aspect of animal spirits is trust, an emotional state that dismisses doubts about others. In talking about animal spirits, Keynes sought to convey the message that swings in confidence are not always logical. The business cycle is in good part driven by animal spirits. There are good times when people have substantial trust and associated feelings that contribute to an environment of confidence. They make decisions spontaneously. They believe instinctively that they will be successful, and they suspend their suspicions. As long as large groups of people remain trusting, people’s somewhat rash, impulsive decision-making is not discovered.

Unfortunately, we have just passed through a period in which confidence was blind. It was not based on rational evidence. The trust in our mortgage and housing markets that drove real-estate prices to unsustainable heights is one of the most dramatic examples of unbridled animal spirits we have ever seen.

Furthermore, while animal spirits have been high over a very long period of time, a whole new system for the granting of credit had been generated. Some 30 or 40 years ago there was much less intermediation in financial markets. But then along came financial innovation and a new financial system, not just in mortgages and housing but throughout the credit system, with complicated strategies of securitization and use of derivatives. The more complex the transaction the more trust is needed to sustain the transaction.

Shiller offers us a few ways officials could get the animal spirits confidence again:

So what must we do to revive our animal spirits and economic growth? We must be certain that programs to solve the current financial and economic crisis are large enough, and targeted broadly enough, to impact public confidence. Not only do we need a fiscal stimulus significantly greater than the proposal that is currently on the table, government action is also needed to take the place of the credit markets that seemingly worked so well when animal spirits were high. The Treasury and the Federal Reserve not only need a fiscal target, they also need a credit target. This should not be a dollar number, but rather a target for how the credit markets should behave. The goal should be that those who would normally receive credit in times of full employment can once again find it easy to do so, at rates with realistic risk premiums.

There are three ways to restore these credit markets. The Treasury and the Federal Reserve have been inventive in applying all three methods. The first is the extension of rediscounting. The Fed has invented many different special loan facilities. They have even invented ingenious ways to combine Treasury money to make very large-scale loans while still within the legal requirement that the Fed can only lend against safe collateral when using TARP funds for the Term Asset-Backed Securities Loan Facility, which will support consumer, student and small-business loans. But so far the total amount of such rediscounting has been small relative to the size of the credit markets. They need to be much larger.

Second, so far more than $250 billion of government money has been used to recapitalize banks. But just making the banks solvent is not enough. The banks, whose managers are suffering from the same flagging animal spirits as the rest of the economy, will not expand their credit much just because they are more solvent. The banks will only expand if they see profitable opportunities to grant loans and if their fear of failure is diminished. It will take much more than keeping the banks solvent to make them take on the disappeared credit flows.

And, finally, especially in considerably expanding the powers to support the lending of Fannie Mae and Freddie Mac, government-sponsored enterprises have replaced a significant portion of the mortgage markets. But the government should do much more here as well. For example, failed banks might be kept alive longer as bridge banks under government supervision with the purpose of making credit freely available.

Robert J. Shiller: Animal Spirits Depend on Trust (WSJ)

I don’t want to veer off too far into economics. When I invest, I tend to view economics from a very limited perspective and prefer to focus more on bottom-up factors. But I think that in the solutions Shiller outlines, we can see some of the risks that still exist in our financial system. For much of January, the market has rocketing upwards, but maybe we should exercise a bit of restraint until we see more done by the government in terms of fixing the broken banks and pushing for lending to resume.

With that in mind, I’ve been looking at adding to my portfolio. I’ll likely be reducing my position in Fairfax Financial, it’s around 50% of the portfolio. Instead, I’ll take an approach of adding small positions and gradually increasing them, with the volatility I’ve seen in the past 3 months, this method might be more useful than buying all at once.

Great write up of it at Compounding Machines. Be sure to read the whole thing. I’m a huge Eddie Lampert fan but have never invested in Sears. It certainly looks interesting at this price and is one situation I’m looking into.

A while back, I commented that AIG’s aircraft leasing unit, ILFC would be the perfect addition to Warren Buffett’s Berkshire Hathaway (NYSE:BRK.A). The company had all of the qualities you look for in a possible Berkshire addition: a strong moat, Steven Udvar-Hazy an entrepreneurial CEO, and a need for a new owner. Still though, Buffett himself affirmed that AIG’s businesses were so good that it was unlikely to acquire any of them at a low enough price.

Now, Bloomberg reports that the usual rogues gallery of private equity funds are bidding on the unit:

Carlyle Group, TPG Inc. and Kohlberg Kravis Roberts & Co. are bidding for American International Group Inc.’s plane-leasing business, according to people familiar with the situation.

The firms may eventually take part in a group to buy Los Angeles-based International Lease Finance Corp., said the people, who declined to be identified because the offers aren’t public. Steven Udvar-Hazy, ILFC’s founder and chief executive, said in November he may join with investors in a buyout of the unit, which he suggested was worth about $10 billion.

The world’s biggest buyout firms are looking for ways to put their estimated $400 billion of committed capital to work after the global credit crisis restricted leveraged lending and reduced LBOs by about 70 percent last year. Forced sales by financial companies may provide some of the best opportunities.

“You have a situation where there’s a distressed seller and these are the times when private-equity funds get their best returns,” said Steven Kaplan, a professor at the University of Chicago Booth School of Business…

ILFC and General Electric Co.’s GE Commercial Aviation Services, the world’s largest aircraft-leasing firms, are among the biggest customers for aircraft makers including Airbus SAS and Boeing Co. ILFC, founded 36 years ago, has a fleet of more than 1,000 planes valued at more than $50 billion, according to its Web site. It had shareholders’ equity, or assets minus liabilities, of $7.5 billion as of Sept. 30, according to a regulatory filing.

Companies like ILFC and GECAS buy planes from manufacturers and place them with airlines, reaping monthly rental income and helping their customers by shouldering the debt and balance- sheet burden. Aircraft list prices typically range from about $65 million to $240 million or more.

Carlyle, TPG, KKR Make Bids for AIG’s Aircraft-Leasing Business (Bloomberg)

Great interview here. Walmart (NYSE:WMT) is known to be a data monster when it comes to retail. Insights from someone like Lee Scott could prove useful when looking at the sector and the broader economy:

Here are some brief notes:

Most distressing about today’s business climate
- at Sam’s Club, the small business owner is clearly under stress
-Many are buying supplies at a just-in-time manner instead of buying ahead due to limited credit and business down.
-Similar behavior most everywhere (UK, Mexico, Canada) except in places like Brazil, Argentina
-Manufacturers in Hong Kong are reporting sales down too, pressures across for anyone who produces for homes (towels, bed sheets, etc)
-Total less shipments, more pressure on the Chinese to find markets domestically as buyers
-Chinese government is trying to stimulate domestic consumption

What has changed at Walmart?
-Our ability to listen
-We operated under the radar, kept focused on the customers and associates
-In the 90′s, after we drew the attention of the labor bosses, we couldn’t understand why people didn’t like us. Customers liked us. The harder they pushed at us, the more we pushed back. We built barriers that assumed that people who criticized us had evil intentions.
-We just finally learned through board members to listen. We had meetings, learned about the lack of understanding these people had about Walmart and misunderstandings.
-What people really wanted was a store that looked and fit with their communities.
-It was a matter of listening to the customer.

Lessons in Business
-You can have a strong belief that you’re right and still end up being wrong

Sustainability
-We’ve never claimed to be green and we’re not.
-We’d like to get better. The things we’re doing are making a difference.
-Suppliers have eliminated waste for us (example: drug company put pills on one card rather than multiple, eliminating 2000 pounds of waste)
-This eliminates cost and waste. It is good for business.
-In this case it was the board that led management

Walmart in today’s climate
-We’re positioned to sell for less
-We operate cheaper, we don’t necessarily buy for less.
-We don’t have the scale to buy cheaper. That’s a myth
-Can we buy a truckload of a product cheaper than a person buying a case? Sure.
-If you’re buying 2 million dozen women’s tops, to get the factories, fabrics, the economics of scale may actually be disadvantageous.
-Operational advantages help lower cost. Our computer systems and logistics. Management structure, all help lower cost. Walmart doesn’t pay for management getting a glass of wine when we’re out because our customer doesn’t care about that.
-At this time, when people are compelled to spend less, we’re positioned well.

How deep is the recession? How long will it last?
-Clearly a deep recession. No idea on how long it will last.
-We had a great weekend in flat panel sales, but exercise categories were very weak.
-Blu-ray performed relatively well.
-Customers are targeted and more selective at buying.

Walmart’s business: What’s changing?
-PG and Unilever come up with an idea, all we have to do is figure out how to sell a lot of it.
-Selling has changed rapidly. The consumer as they have less time, the consumer wants the store to edit the assortment more. They don’t want to see 43 different kinds of dental floss. They just want the things that are meaningfully different that they might look for.
-When you sell for less, what you want are the most informed consumers. That way they walk in and are armed with the best information. The internet has helped in this area.

Bruce Berkowitz of the Fairholme Fund (FAIRX) is featured in a great interview with Advisor Perspectives. Here’s a few quotes, but be sure to read the whole thing:

Leucadia National has minimal disclosure, no Wall Street coverage, and no conference calls. Further, their free cash flow is irregular. How can you meet Ben Graham’s requirement of thorough analysis or determine the margin of safety?

We can’t do that analysis in this case, because we are dealing with more of a Berkshire Hathaway issue. We place a significant amount of weight on the past record of management, along with analyzing holdings on a quarterly and annual basis. Mostly, this represents the style of investing where we respect the people running the company. We have studied Leucadia and their management over a 20 year period. There are no surprises.

Their management is honest, decent, and does not have an oversized ego. They have a better track record than Berkshire Hathaway and they take their fiduciary roles very seriously. Moreover, whereas Berkshire Hathaway is built to last for a very long time horizon, Leucadia has value even over shorter time periods. When the CEO, Ian Cumming, and the president, Joseph Steinberg, retire, they’ll probably give all the money to their shareholders and call it a day.

Leucadia (NYSE:LUK) has always been a favorite of value investors, but they’ve hit a bit of a rough patch lately, stemming from their acquisition of Fortescue. I particularly like this bit about investing in the underlying debt of some of Fairholme’s companies-

You have paired some of your stock positions with senior subordinated debt. Can you explain the investment thesis behind this?

The bond market is more dysfunctional than the equities market. When we see that we can get excess return on the higher end of the credit structure, we know we are on to something good.

We look for certain covenants on the bonds we buy. For example, we want “cross default” provisions, so that if any of the company’s bonds default, then principal payment is accelerated on all the bonds. Similarly, we want change-of-control or “poison pill” provisions, which accelerate principal payments in the event of a takeover. This way, even in an unfriendly or hostile situation, we still get our “box of chocolates” from the bond markets.

And the Fairholme investing process:

Are your positions in health care predicated on the Congress and the new administration enacting some form of national health care plan? What happens if the funds to move forward with such a plan are not available?

To answer this question I must explain our investment process. First, we look at a company’s free cash flow relative to its price. Ideally, we look for a free cash flow yield of 10% or better. [In a recent conference call with investors, Berkowitz said that he is now seeing opportunities with companies trading at two or three times cash flow.] Then we ask what management will do with that cash. If management has a record of investing wisely, that’s great. But we also worry about what can go wrong – what I referred to earlier as “killing the company.” If there are signs that value will be destroyed by actions such as over-leveraging the balance sheet or other stupid management decisions, or if there are certain questions we cannot answer, then we move on to the next investment candidate.

We did not invest in these sectors because we saw nationalized health care coming. We invested because of the value of these companies, in terms of free cash flow, relative to their prices in the market.

The Baby Boomer generation is entering retirement, and they are interested in life, liberty, and the pursuit of happiness. I know, because I am 50-and-a-half and at the edge of this generation. This is a gigantic demographic segment starting to retire and they want to be in good shape and to stay young – and it will take a lot to achieve that.

We have a great health care system, but the unintended consequences include rising costs. For example, nobody says you are too old for a hip replacement. Health care is expensive and HMOs insure the greatest number of people. The two HMOs we own handle 25% of the insured population in the US.

Obama wants everyone insured with the same degree of coverage as the members of Congress. If HMOs like UnitedHealth, WellPoint, WellCare, and others cannot provide these services, then who will? The only thing government can do is to cut a check. Those that are providing these services now will be the ones providing it in the future.

These businesses are very much like our insurance businesses. They can make a mistake in pricing a policy, but in six months they will have the opportunity to adjust those policies. They may lose some members but overall retention rates will be quite high.

Be sure to read the rest, Berkowitz discusses Sears Holdings (NASDAQ:SHLD) and what his thoughts are on 2009. Here’s the full interview in PDF format.

Eleanor Laise, at the Wall Street Journal, has a good article about the recent troubles at the Fairholme Fund a couple of days ago. I’m not invested in the Fairholme Fund, but I really like the work that they do. For much of the year, they managed to dodge the credit crisis by refusing to invest in complex financials and sold their energy holdings around the top. Both of these moves would be a recipe for market beating returns, but eventually as Mr. Market’s depression spread to the entire market, funds that were concentrated in equities like Fairholme were hurt as well.

After outperforming a badly listing market by losing just a few percentage points in each of the first three quarters of 2008, the $6.7 billion mutual fund dropped 24% in the last three months of the year, lagging behind the Standard & Poor’s 500-stock index by two percentage points.

Mr. Berkowitz used his cash hoard to snatch up beaten-down shares, but new holdings like defense companies Northrop Grumman Corp. and Boeing Co. have fallen. Longer-term stakes like investment company Leucadia National Corp. and retailer Sears Holdings Corp. also were hit.

Some Fairholme investors are losing faith. In November, Fairholme experienced its first monthly outflow in more than three years, with investors pulling about $7 million from the fund, according to fund tracker Lipper Inc.

Mutual Fund Fought Off Bears but Now Is Clawed (WSJ)

Laise’s article is actually pretty balanced. Sometimes I think that journalists and the public are quick to cast a stone at managers who hit small bumps like this, but she devotes a good amount of the article to Bruce Berkowitz’ views on the fund.

One thing I’ve noticed is that value investors can have a hard time when managing the money of others. Inherently, value investors are going after areas of the market that no one else is touching. The problem with this is that such decisions can make their investors question their ability. When the markets are panicked, investors can panic too. This is particularly bad for a fund like Fairholme, where the level of concentration increases volatility.

If investors get really panicked, they’ll force withdrawals from funds and sometimes force selling. There are a few ways to get around this (borrowing, cash cushion) but often, it always looks bad when investors are pulling out of an investment vehicle. It’s times like those when fund managers should be vigilant and keep their investors calm.

Laise’s article only touches on it, but Berkowitz responded to the withdrawals by holding a great conference call. For much of the year, during the credit crisis, we’ve seen companies get on and hold these emergency conference calls to calm the fears of their investors. And almost every time, these conference calls are utter wastes of time. They end up trying to place the blame for their current woes on parties besides themselves — be it the government and their market intervention, or demonic short sellers.

Berkowitz didn’t do that. Instead, he spent most of his time on the call going back and forth with people who’ve invested in the Fairholme Fund. What investors received was great – frank discussions about the companies that were invested in and his perspectives on what went wrong this quarter. Rather than play the blame game, he said that Fairholme’s performance was due to a couple mistakes.

1. Misreading the management of a couple companies.
2. Buying too early.

Even Warren Buffett sometimes finds himself in situations like that (staying in Coca-Cola too long, buying to early during this most recent financial crisis). I don’t think that the occasional misread of a company’s management will end up killing a portfolio. Most investors are sufficiently diversified to protect against that. I don’t believe that the fund’s short term performance will be any indication of how it will perform in the longer term. Value investors aren’t trading daily and as a result, should probably be judged with a longer time period.

Throughout the call, Berkowitz was incredibly reassuring to investors. He spent a lot of time talking about specific holdings with the fund’s investors.

I liked the questions about Sears Holdings (NYSE:SHLD). Sears has taken a lot of hits in the press lately about the poor performance of its stock and the continuously turning turnaround. But now, if you look at what Eddie Lampert has done, maybe his decisions weren’t too bad. While most retailers were spending cash on upgrading their stores, Lampert was more focused on allocating cash to generate high returns. With cash and spending tight, a company like Sears might be better positioned than others. The fund’s investment thesis in Sears was really based around the company’s liquidation valuation, not because other value investors flocked to it, or Eddie Lampert’s successful hedge fund career.

He also discussed Pfizer (NYSE:PFE) a company that the fund selected because of its free cash flow yield, new CEO, cost-cutting, and distribution network. Berkowitz envisions Pfizer as a pharmaceutical merchant bank. With Pfizer generating what looks like $14 billion in FCF TTM, that kind of capital could be deployed quite well to acquire other companies with more developed drugs. That would be incredibly useful to offset the loss of Lipitor.

If you read through the Fairholme Fund’s letters, you’ll see that they mainly look for factors like high FCF yields, a good moat, and a good balance sheet. These companies might be hurting right now because of Mr. Market’s depression, but it seems hard to argue that their long term prospects are bad. The wont need government intervention and should be able to thrive by engaging in cheap acquisitions right now.

Besides specific investments, Berkowitz mentioned on the call that he would be pushing 100% of his net worth into the Fairholme Fund. I don’t know of a more reassuring move that a fund manager could make, especially in a time when investors are particularly frenzied and the economic situation remains a bit bleak.