Bruce Berkowitz

On paper, the strategy followed by Bruce Berkowitz, founder and managing member of Fairholme Capital Management LLC, is simple: Buy companies that are trading on the cheap relative to free cash flow.

Although “a lot of people have similar strategies,” according to Mike Breen, an analyst with Morningstar Inc., few have been able to execute it like Mr. Berkowitz, manager of the $9.4 billion Fairholme Fund (FAIRX).

“He just hits the market right,” Mr. Breen said.

It shows in the performance of the fund. Year-to-date through Sept. 4, the fund was up 25.92%, placing it in the seventh percentile of its large-blend category; it had a one-year return of -8.43%, placing it in the sixth percentile; and annualized three- and five-year returns of 1.65% and 8.35%, respectively, placing it in the first percentile.

Mr. Berkowitz maintains that such performance is a result of the fact that he and others at Fairholme look at the world a little differently than other asset managers.

“We are trying to be focused on the downside. The upside will take care of itself,” Mr. Berkowitz said.

That has led him to make some unusual bets.

For example, some industry ob-servers thought that he was too quick to acquire Pfizer Inc. (PFE).

He built a big stake in the pharmaceuticals giant — it accounted for 14.3% of the Fairholme Fund’s assets as of May 31, according to its most recent semiannual report — before the stock hit bottom.

Being early in Pfizer was probably a drag on the fund’s performance, Mr. Breen said.

Another troubled holding was Sears Holdings Corp. (SHLD).

It accounted for 8.8% of the Fairholme Fund’s assets as of May 31, though the stock took a beating during the market downturn.

Neither stock, however, has meant disaster for the fund.

Thanks to Mr. Berkowitz’ stock-picking abilities, the fund still beats most of its peers, Mr. Breen said.

“It’s not like they have gotten every pick right,” he said. “But we have full faith and confidence in their process.”

And both Pfizer and Sears look as if their worst days are behind them. Sears’ stock was doing particularly well at the end of last month, thanks in large part to back-to-school shopping, according to industry analysts.

But it isn’t all about stocks.

Mr. Berkowitz always allocates a large portion of the fund’s assets to cash. The percentage of assets held in cash has averaged in the mid-teens since the fund’s inception at the end of 1999, he said.

Mr. Berkowitz allocated 17% of the fund’s assets to cash at the end of May, according to the most recent data.

Cash can be seen as a drag on a fund’s performance, but he doesn’t see it that way. “We always want to be able to react to whatever may happen,” Mr. Berkowitz said.

And having a large position in cash allows the fund to do just that, he said.

It is an appealing strategy, said Adam Bold, chief executive of The Mutual Fund Store, which has about $3.5 billion of client assets.

The best managers are the ones who “don’t necessarily rely on the herd mentality,” he said.

But there is more to being a good manager than performance.

Total annual fund operating expenses for the Fairholme Fund — including the management fee — are a relatively low 1%.

It is part of a philosophy rooted in always doing what’s right for the shareholder, Mr. Berkowitz said.

“We follow what I consider to be the golden rule, which is basically: “Treat your shareholders the way you want to be treated,’” he said. “We assume that our shareholders have worked very hard for their money and that they have entrusted us with a large portion of their long-term investments.”

Before starting Fairholme in 1997, Mr. Berkowitz was a managing director with Smith Barney Inc. from December 1993 to October 1997. Prior to that, he was at Lehman Brothers Kuhn Loeb Inc. until December 1993.