"Tracking Bruce Berkowitz’s Fairholme Portfolio – Q2 2016 Update"
"Bruce Berkowitz’s US stock portfolio decreased this quarter from $1.66B to $1.45B.Fairholme's large stake in AIG Warrants was reduced while increasing Bank of America. These two trades are a repeat of last quarter’s activity.The portfolio is very concentrated with the largest three positions accounting for ~73% of the US long assets.This article is part of a series that provides an ongoing analysis of the changes made to Fairholme’s US stock portfolio on a quarterly basis. It is based on Fairholme’s (FAIRX) (FOCIX) (FAAFX) regulatory  filed on 08/15/2016. Please visit our  article for an idea on how his holdings have progressed over the years and our  for the fund’s moves during Q1 2016.Berkowitz’s US stock portfolio decreased 12.32% from $1.66B to $1.45B this quarter. The portfolio continues to be very concentrated with the vast majority invested in just five businesses. The largest three positions are St. Joe Companies, Sears Holdings, and Bank of America and together they account for 73.43% of the 13F portfolio.Berkowitz’s flagship Fairholme Fund (FAIRX) has generated significant alpha since its December 1999 inception: thru Q2 2016, the fund’s annual returns are at 10.07% compared to 4.20% for the S&P 500 index. The fund has however underperformed over the most recent 10-year period.Top holdings that are not in the 13F report include Fannie Mae pfds (FNMAS), Freddie Mac pfds (FMCKJ), and Imperial Metals (IPMLF). Fairholme Fund is known to hold significant cash especially when markets are high. The current cash allocation is ~30%.Note: In Fairholme’s semi-annual report, Fannie & Freddie were termed as the best businesses the firm has ever owned. Also, the buy thesis on Imperial Metals was summarized: the Red Chris & Mount Polley mines should allow them to double output while rivaling lowest-cost producers. Also, copper’s potential medical use (ability to kill bacteria) could be an eventual catalyst.New stakes:None.Stake Disposals:Now Inc. (DNOW): The 7.26% DNOW stake was purchased in Q3 2015 at prices between $14.80 and $19.74. It was disposed of this quarter at prices between $15.96 and $19.30. The stock currently trades at $20.54. Last two quarters had seen a combined ~10% trimming.Note: Now Inc. is a May 2014 spinoff from National Oilwell Varco (NOV). Fairholme’s ownership stake in the business was ~6.5%.Stake Increases:Bank of America (BAC), WTS 13.30 Strike, and BAC WTS 30.79 Strike:  BAC is Berkowitz’s third largest position at 15.66% of the US long portfolio. The stake was first purchased in 2010 and minor adjustments had since been made every quarter. Q1 2015 saw a ~19% reduction in the common and a ~8% increase in the warrants. Q3 2015 saw an almost two-thirds reduction in the common at prices between $15.26 and $18.45. In Q4 2015, the common saw an 86% reduction while the warrants were increased by 21%. The common stake was more than doubled last quarter at prices between $11.16 and $16.83. This quarter saw another ~50% increase in the common stake at prices between $12.18 and $15.11. The warrants stake saw a ~6% trimming. The stock currently trades at $15.17.Note: Fairholme’s semi-annual report talked about this investment: “improving operating efficiencies should more than counter declining net interest margins.”Lands’ End (LE): The 3.39% LE stake was purchased in Q3 2015 at prices between $21.26 and $28.92 and increased by 63% the following quarter at prices between $21 and $28. The stock is currently at $17.01. Last quarter saw a ~5% trimming while this quarter saw a ~3% increase. .Note: Lands’ End is an April 2014 spinoff from Sears Holding. Berkowitz received ~7.35M shares but that stake was sold out by the end of that year. The current position is ~9% of the business.Sears Canada (SRSC): The SRSC position was established in Q4 2014 as a result of Fairholme participating in a rights offering from Sears Holdings. They distributed one subscription right for each share of Sears Holdings held and it allowed the purchase of 0.375643 shares of Sears Canada at $9.50 per share. The rights would have resulted in the purchase of around 10M shares but Berkowitz ended up with ~40% more (oversubscription privilege). There have been minor increases since. This quarter saw a ~5% increase. The stock is now at $2.81.Sears Holdings Corp (SHLD) and Sears WTS 28.41 Strike: Sears is Berkowitz’s second-largest position at 30.22% of the US long portfolio. The original stake was established in 2007 although the position size has fluctuated over the years. Last two years saw consistent buying. The current stock price ($17.79) is far below Fairholme’s cost-basis. The pattern of buying signifies a strong bullish bias. For investors attempting to follow Berkowitz, SHLD is a good option to consider for further research. He controls ~25% of the business. This quarter saw a ~5% increase in the common and a marginal reduction in the warrants.Note: Fairholme’s semi-annual report stated that they believe Sears is starting to unlock value (strategic alternatives for Home Services, Kenmore, Craftsman and Die Hard brands) although it is taking longer than expected. It also mentions Innovel Solutions (previously Sears Logistics Services), a ~1100-truck delivery service as an example of a “hidden” asset.St Joe Companies (JOE): JOE is the largest stake at 29.85% of the 13F portfolio. The bulk of the position was purchased in the 2008-2009 timeframe and there have only been minor adjustments since. Currently, it trades at $19.12. Last quarter saw a marginal reduction while this quarter saw a minor increase.Note: Fairholme see’s JOE investment as a good hedge against rising inflation.Sears Hometown & Outlet Stores (SHOS): SHOS is a minutely small 0.36% position. It saw a ~89% increase in Q4 2015 but the relative sizing is still very small. There was a marginal increase this quarter.Note 1: Sears Hometown and Outlet Stores is a spinoff from Sears Holdings (mid-October 2012 rights offering).Stake Decreases:American International Group (AIG) WTS 45 Strike: AIG was Berkowitz’s largest position as of Q2 2015 even after a ~78% reduction in the common during the previous seven quarters. Q3 2015 saw the common stake almost sold-out (~96% reduction) at prices between $55.66 and $64.54. Q4 2015 saw another ~63% reduction. The remainder common stake was sold out last quarter. The stock currently trades at $59.31. Last quarter saw a large ~52% further reduction in the warrants. This quarter saw that stake again reduced by ~50%. The remaining position is still fairly large (top five) at 6.85% of the portfolio.Seritage Growth Properties (SRG): SRG is a top-five 11.79% position. It was spun-off from Sears Holdings through a Rights Offering in July 2015 and trading started at $37 per share. Fairholme participated and accumulated 3.37M shares (13.5% of the business). Last two quarters had seen marginal increases while this quarter saw a very minor reduction. The stock currently trades at $46.71.Note: Fairholme’s semi-annual report notes the steady progress being made in repurposing, re-tenanting, and redeveloping many of the 266 properties that it purchased from Sears last year - “Redeveloping anchor space comes at a cost to landlords, but holds the promise of hefty returns as department stores paying as little as $2 a square foot in rent are replaced by new anchors paying $15 to $20 a square foot..."Kept Steady:Leucadia National (LUK): LUK is a very long-term holding that was built-up over several years. The position has seen large reductions since Q2 2013. Q4 2015 saw a ~55% reduction at prices between $16.08 and $21.11 and the remaining stake was almost eliminated last quarter at prices between $14.45 and $17.39. It currently trades at $18.82.The spreadsheet below highlights changes to Fairholme’s US stock holdings in Q2 2016:13D/G/A & Form 3/4 filings thru 5/17/2016: NOW - 4/4/2016 13G/A - 6,781,500 shares - 6.3%. SHLD - 3/22/2016 13D/A - 26,705,248 shares - 25%.13D/G/A & Form 3/4 filings thru 2/18/2016: AIG - 2/16/2016 13G/A - 271,560 shares - 0%. DNOW - 2/16/2016 13G/A - 7.19M shares - 6.7%. LE - 2/16/2016 13G/A - 3.04M shares - 9.5%. SRSC - 2/16/2016 13G/A - 18.3M shares - 18%. MRC - 2/16/2016 13G/A - 5.63M shares - 5.5%. SRG - 2/16/2016 13G/A - 3.38M shares - 13.6%.FAIRS  released 1/28/2016: 2015 Performance: The Fairholme Fund (the “Fund” or “FAIRX”) decreased 11.48% versus a 1.38% gain for the S&P 500 Index (the “S&P 500”) in 2015. Historical Performance: From Dec 29, 1999 inception through 2015 FAIRX annual returns was at 10.2% compared to just 4.1% for the S&P 500. However, it has underperformed over the last-ten-year period: 5.59% vs 7.31%. Shift in Strategy: Historically, large and liquid markets have allowed the Fund to focus on a few, best ideas. Times have changed. Over the course of the year, the Fund reduced positions that appreciated and initiated investments in several new opportunities. Going forward, if markets remain less liquid, we will become less concentrated than in the past. Cash: Over 20%. Top Holdings & Thesis: 1) AIG - largest holding because: a) trades at significant discount to $80 tangible-book-value, b) untapped opportunity to improve cost structure, and c) potential for WTS strike price & conversion ratio to improve based on future dividend and capital distributions. 2) SHLD - second-largest holding because Fairholme’s estimated NAV is at $147 per share. 3) SRG - established because SRG & SHLD have two of the lowest priced real estate portfolios in the US. 4) Fannie & Freddie - primarily FNMAS & FMCKJ - combined they are the largest stake at 16.4% of assets because they believe that in time the Net Worth Sweep will be halted and Fannie/Freddie will transform into low-risk public utilities with regulated rates of return.  5) JOE - 12.8% of assets committed because they believe that the intrinsic value of St. Joe’s current entitlements and other assets is substantially higher than its recent market price. 6) Imperial Metals - 5.4% of fund assets - believe they believe that Imperial’s Red Chris mine is a replay of low-cost Horizon Oil Sands (CNQ’s), but with one of the largest copper resources and the seventh largest gold deposit in the world. 7) Oil & Gas - MRC Global & Now Inc. - thesis: Prices cannot stay below marginal costs when demand grows and supply depletes – at least, not for too long."