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Eminent investor Bruce Berkowitz says investors shouldn’t worry too much about making contrarian bets in the short term, and should stick with their investment convictions when others run in the opposite direction.

He also suggests having a concentrated portfolio and bet on only a handful of well-researched stocks.

“With the type of value investing I do, you look very wrong until you’re right,” Berkowitz told an investor conference.

Bruce R Berkowitz is the Founder and Chief Investment Officer of Fairholme Capital Management, and President and Director of Fairholme Funds Inc.

He received his Bachelor of Arts degree in Economics from the University of Massachusetts at Amherst in 1980. In 2010, he was named the 2009 Domestic-Stock Fund Manager of the Year as well as the Domestic-Stock Fund Manager of the Decade (2000-2009) by Morningstar. He was also named 2013’s Money Manager of the Year by
Institutional Investor magazine.

Berkowitz founded The Fairholme Fund in 1999, and Fairholme Capital Management in 1997 prior to which he was the Managing Director and Senior Portfolio Manager at Smith Barney Inc. from 1995 to May 1997.

Investment philosophy
Berkowitz has consistently generated above-average returns with his exceptional investment strategy and is very popular among fellow investors, who regard him as an expert in the investment domain.

Berkowitz attributes his investing success to the very low price he is willing to pay for a given security, which he feels gives him a great chance of making money in the long run.

He aims to buy stocks at cheaper prices to obtain a margin of safety and then waits for the market’s perceptions of a beaten-down stock to change. He then decides whether the stock is crucial to the economy or not.

Berkowitz shared some investing tips in a speech that investors can emulate to help them invest better. Let’s look at these timeless investing lessons from the legend.

1. Spot companies that can withstand tough times
Berkowitz said investors need to spot companies that can perform well in difficult times. He feels investors do not need to predict the future for such companies.

“We tend to be more about the jockey than the horse. It’s important to understand how people are going to behave under stress. You don’t have to predict the future if you know the company has the assets and management to do well in difficult times. That’s when the seeds for exceptional performance are planted,” he says.

Berkowitz says if the companies which investors are planning to invest in have managers who are engineered for difficult times, then this can be an added advantage.

“We spend a lot of time thinking about what could go wrong with a company — whether it’s a recession, stagflation, zooming interest rates or a dirty bomb going off. We try every which way to kill our best ideas. If we can’t kill it, maybe we’re on to something,” he said.

2. Get greedy when luck is favourable
Berkowitz says investors at some point in a business cycle have to get greedy. He says one needs to develop the skill of knowing when the luck is on their side and take advantage of that luck.

“The time to get greedy is when everybody is running for the hills with fear. And that is usually a great time to get the greed going,” he said.

3. Always keep cash in hand
Berkowitz says it is vital for investors to have some cash with them as it can keep them calm and prevent them from pressing the panic button. “Cash is the equivalent of financial Valium. It keeps you cool, calm and collected,” says he.

He feels having cash can be seen as a strategic asset as it allows investors to take advantage of those great opportunities that come up from time to time.

4. Focus on a few companies
Berkowitz says investors should focus on a very few companies that can withstand any economic environment. “Concentrated investing implies less risk of permanent loss as long as you maintain superior knowledge about the companies you own. Risk comes from not knowing what you are doing,” he says.

He feels investors in their investment careers need only a few good ideas to click for them, which can make them very wealthy.

Also he believes investors should be prepared to deal with the fact that markets are unpredictable and anything can go wrong anytime and they should be ready to deal with the situation.

“We focus on very few companies. We try and know what you can know. We try and only buy a few companies which we believe have been built to last in all environments. We recognize that you only need a few good ideas in a lifetime to be fabulously wealthy. We’re always trying to wonder what can go wrong. We’re very focused on the downside,” he says.

5. Never let your guard done
Berkowitz says investors shouldn’t let their guard down even if they have earned a lot of money as even their last investment idea may lead to disaster and they may end up losing decades of wealth in a matter of minutes.

“What worries me is knowing that it’s usually a person’s last investment idea that kills them. As you get bigger, you put more into your investments. And, that last idea, which may be bad, will end up losing more than what you’ve made over decades,” he said.

6. React quickly if opportunity arises
Berkowitz says there are two approaches that one can follow in investing; one is trying to predict and other is to react to any given situation.

He feels it is better to react to situations and look for stressed situations and buy if appropriate opportunity arises. Berkowitz says it is essential for investors to study the macro variables carefully which can be very valuable to their investment success.

“When it comes to macro events, you can either predict or react. I’ve proved time and again that my crystal ball is horrible, so my focus has to be on reacting to extremes in individual securities by selling at high valuations and buying at low valuations,” he said.

7. Avoid taking too much risk
Berkowitz says the primary goal of an investor should be to achieve long-term growth of capital without taking a lot of risk.

8. Be contrarian
He says investors should try to avoid the popular stocks and turn their attention to the unpopular ones to take advantage of their current low prices.

Berkowitz believes investors’ brains are wired for overreaction, momentum, and for following the crowd, so he feels to attain success investors should be contrarian and ignore the crowd.

“When something goes down in price, I know business schools tell you that if it goes down or up fast, that’s volatile. It’s riskier. But I don’t see how a security, if it goes down 50% in value, is riskier than it was when it was double that price. So it’s like grocery shopping. You know, your favorite food’s on sale, your favorite companies. You count the cash they generate. And there’s not many times when you can find good companies with a double-digit free cash flow yields, which we found. And of course, when the panic sets in, then you have some tremendous bargains,” he says.

9. Learn from investing greats
Berkowitz feels one should always be open to new ideas and use good ideas from other investors that are aligned to their investment philosophy.

“We use a lot of grapevine ideas, asking people what they’ve finished buying that might be interesting. Why wouldn’t you look at what other great investors have found?,” he says.

10. Focus on the present
Berkowitz feels investors should try and focus on the facts of today and avoid thinking too much about the future, as it only increases stress and negativity.

11. Invest in your circle of competence
Berkowitz says if one isn’t familiar with a company’s business, and doesn’t have the time to become thoroughly knowledgeable about it, he shouldn’t invest in it.

12. Have patience
Berkowitz says time has proven to be one of the most useful tools for investors. He feels studies have shown, from time to time, the damage done to portfolios that invest having a short term time horizon.

13. Avoid shorting
Berkowitz says shorting is a potentially dangerous investment technique and not a lot of investors have the courage to use it.

“When I do short a stock, which is not very often, I buy options since all you can lose is what you paid for the option. I am not genetically engineered for shorting. If you are long and you are wrong, you go to zero. If you are short and you are wrong, you may face death. The mania of markets can last quite a long time, and when you take into account mark to market and the collateral needed, it doesn’t appeal to me.” he says.

14. Don’t over diversify
Berkowitz says investors should avoid over-diversifying their portfolio. “Over-diversification will just lead to an average return. The price for an above-average return is short-term volatility,” he says.

(Disclaimer: This article is based on Bruce Berkowitz’s speech at an investor conference)


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