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INsider: Follow Berkowitz's lead, don't buy his fund

Fairholme Fund top performer in large-cap value funds, but now's a bad time to jump on board

By Jason Kephart

Nov 28, 2012 @ 3:21 pm (Updated 3:27 pm) EST

Bruce Berkowitz, Fairholme Fund

Bruce Berkowitz's journey from worst to first is nearly complete, but what got him there is exactly why advisers should keep away.

One year after finishing in the bottom percentile of large-cap funds, his flagship Fairholme Fund ticker:(FAIRX) is set to finish in the top percentile of funds in 2012 with a return of nearly 30%.

The turnaround has been fueled by a strategy Mr. Berkowitz has described as “embrace the hated,” according to Bloomberg. Boiled down, it means buying stocks that no one else wants. So while top holdings like American International Group Inc. ticker:(AIG), Bank of America Corp. ticker:(BAC) and Sears Holdings Corp. ticker:(SHLD) were dragging Fairholme Fund to a jaw-dropping 32% loss in a year when the S&P 500 was flat, Mr. Berkowitz held steady.

The patience paid off big-time, as all three have posted stirring returns. The fund's largest holding, AIG, is up 42%, while both Bank of America and Sears are up more than 50%.

Unfortunately, investors in the Fairholme Fund didn't show the same resolve as Mr. Berkowitz. As the fund showed signs of struggling early last year, investors began to bail.

The fund has had 20 straight months of net withdrawals since February 2011. In total, investors have pulled out more than $9.8 billion over that time, according to Lipper Inc.

With the Fairholme Fund back on top of the investment world, now may seem like the time to get back in. Sadly, that's the opposite of the buy-low, sell-high mentality that led to its turnaround.

Mr. Berkowitz's “embrace the hated” approach shouldn't be limited to picking stocks but also used when picking mutual funds, some investment pros say.

Cliff Asness, founder of AQR Capital Management, spoke to advisers about the strategy's benefits at the Schwab Impact Conference in Chicago in November — whether he knew it or not.

Mr. Asness told his audience that the best way to pick funds was to find the best managers, then to wait until they were out of favor to buy them.

Of cource, embracing the hated is a lot easier said than done. It takes conviction and a strong stomach. But as Mr. Berkowitz has shown, it can lead to major rewards.