Successful money managers face a dilemma. When they have small amounts of money to invest, it's easier to find opportunities that let them earn outsize returns. Yet once those high performance figures go public, investors typically race in to get a piece of the action, forcing managers to find equally lucrative new opportunities if they want to meet the high return expectations of their clients.
That's usually the reason that money managers cite for closing their doors to new investors. For Fairholme Fund (NASDAQMUTFUND:FAIRX) and Morningstar Manager of the Decade winner Bruce Berkowitz, though, the story is a bit different.
Fairholme announced yesterday (link opens PDF file) that it would stop accepting new investors into its family of three mutual funds after the end of February. Existing shareholders as of that date will have the right to keep making future purchases of fund shares, but except for any exceptions the fund makes to its general policy, investors who don't already own shares will be locked out of the funds.
Fairholme had two justifications for the decision. First, it said that the funds were in a good position to invest and fund operations. Second, it argued that new investors might dilute existing shareholders in their ability to reap the benefits of the funds' current holdings.
How to read it
What's different about Fairholme compared to most funds that close their doors is that Fairholme has suffered huge outflows in recent years. With absolutely terrible performance in 2011, Fairholme sent investors fleeing as big bets on financial stocks went awry. Even last year, when the fund had very strong performance and made back a big portion of the money it lost the previous year, Fairholme still had to deal with investors pulling out $2 billion.
Moreover, it's hard to argue that Fairholme doesn't have the ability to invest more money if it comes in. Many of the funds that close their doors are focused on small-cap and mid-cap stocks, where it's easy for a fund that's too big to move the market for a favored stock. But with top holdings AIG (NYSE:AIG) and Bank of America (NYSE:BAC), Fairholme is dealing with extremely liquid companies with market caps of $50 billion to $120 billion and average volumes of tens of millions of shares per day. Even Sears Holdings (OTC:SHLDQ), which has seen its price plunge to mid-cap status, still trades more than a million shares on a typical day.
The obvious conclusion is that Berkowitz doesn't believe that AIG, B of A, and Sears offer the same compelling value they did when he first invested in the stocks. Certainly after big run-ups for B of A and AIG after their respective restructurings have largely taken place, any belief that they've lost their margin of safety seems reasonable. The case for Sears is a bit more troubling, since the shares now trade near their lowest levels in the past year. But when you combine the closures of the funds with the fact that Fairholme's cash allocation has risen from 4% to 14%, the change in philosophy seems undeniable.
The other benefit of closing is that Berkowitz will be better able to deal with investors who have been involved with the fund for a long time, rather than having to put up with impatient new investors whose only reason to invest is to chase past performance.
What you should do
If you want to get into Fairholme, you still have plenty of time to do so. Fairholme accepts direct investments, so contacting the fund company directly is the best way to ensure fee-free entry into the funds.
The other choice is simply to buy the stocks that Fairholme owns. With more than half the portfolio in the three stocks listed above, buying shares directly will give you the same exposure that Fairholme has -- at least for now. Adding shares of General Growth Properties, for which Fairholme owns warrants, would help you more closely mirror the fund. Although you'll suffer a potential lag in getting out if you rely on quarterly filings to tell you when to sell, you may still be able to reap similar returns to what Fairholme eventually gets.
Most important, don't buy Fairholme shares simply because they won't be available much longer. It only makes sense to buy a fund if you believe in its prospects, and Fairholme is concentrated enough that you really need confidence in order to have it in your portfolio.
Stay tuned for further news on Fairholme, as Bruce Berkowitz will speak at the Columbia Student Investment Management Association's conference on value investing this Friday. You'll find extensive Fool coverage of the event, which promises to have insight any investor can learn from.