Our Ultimate Stock-Pickers' Top 10 Buys and Sells
Investor redemptions are starting to impact our managers' purchases and sales.
By Greggory Warren, CFA | Senior Stock Analyst
As you may recall from our last article, when we relaunched the Ultimate Stock-Pickers concept back in April 2009, we had no idea that the markets were about to take us on a wild ride. After rising close to 30% during the last seven months of 2009, the S&P 500 Index SPX rose another 15% in 2010, but not without its fair share of volatility (as the European credit crisis and its potential impact on the global economic recovery weighed heavily on shares during in the second and third quarters of last year). While 2011 is looking an awful lot like 2010 so far, with the markets rising more than 5% during the first quarter before hints of trouble in Europe during the second quarter led markets downward, it doesn't look like we'll see the kind of rebound we saw last year (when the S&P 500 rose close to 20% from the end of August until the end of 2010). That said, there are still four months left in 2011, and with the markets continuing to be volatile--turning as rapidly on good news as they have on bad news--we could just as easily close out the year in positive territory as we could in negative territory.
It was against this background that our top managers were making their buy and sell decisions during the second quarter (and early part of the third quarter) of 2011. While we continue to see plenty of instances where managers are not moving outside of their comfort zones, sticking with names they already know when putting capital to work, we have seen enough of our Ultimate Stock-Pickers moving into new names to have an impact on our list of top buys during the quarter. This was something we had noted a few weeks ago when we did an early read on the buying activity of our top managers, noting that there has been a growing interest in technology names on the part of our Ultimate Stock-Pickers over the last couple of quarters.
We also found it interesting (once all of the data was collected) that five of the 10 top purchases made during the most recent period had one or more manager actually putting new money to work in the names. As for the selling activity during the quarter, we saw a bit more broad-based selling as opposed to wholesale moves out of names due to poor fundamentals or other reasons. This makes sense to us, as we had expected to see some forced selling starting in the second quarter, as investors pulled close to $20 billion out of U.S. stock funds (versus the first quarter of 2011, which saw more than $25 billion flow into U.S. stock funds) in response to the debt crisis in Europe. That said, the outflows have been even more dramatic since the end of June, with more money flowing out of U.S. stock funds in the month of July than did during the entire second quarter, as investors were spooked by the spread of the debt crisis in Europe, the political wrangling over the debt ceiling here in the United States, and the anemic state of both the employment and housing markets domestically. While the outflows seem to have eased some at the start of August, the third quarter of 2011 is still on pace to have as much in outflows as the third quarter of last year (when more than $40 billion was pulled out of U.S. stock funds). This level of redemption activity means that we're likely to see more forced selling during the current quarter as managers have to decide between selling stocks that might be losers or trimming back winners in order to raise the cash needed to meet investor redemptions.
Ultimate Stock-Pickers' Top Holdings
Data as of 08-26-11. Fund ownership data as of funds' most recent filings.
Even with the changes made to the Investment Manager Roster earlier this year, there haven't been any significant changes in the top 10 stock holdings of our Ultimate Stock-Pickers over the last eight calendar quarters. Only two of the 10 names listed above--PepsiCo (PEP) and Cisco Systems (CSCO)--were not on the list at the end of the second quarter of 2009. PepsiCo has been a top holding for our managers for much of the last three years, but never quite had enough conviction behind it to get it onto the list of top 10 holdings. With three out of the 10 managers that owned the stock coming into the second quarter continuing to add to their stakes, it looks like PepsiCo will continue to hold a top 10 spot in our list of conviction holdings of our Ultimate Stock-Pickers. With regards to Cisco, we had noted the interest that our top managers were taking in the name earlier in the year, when four of our top managers had put new money to work in the stock, we saw two more Ultimate Stock-Pickers--Columbia Value & Restructuring (EVRAX) and FPA Crescent (FPACX)--adding Cisco to their portfolios during the second quarter.
That said, there was some difference of opinion in the group, as two managers--Fairholme Capital Management and Oakmark Equity & Income (OAKBX)--appear to have walked away from their stakes in the technology giant. Of these, the shift at Fairholme seems a bit odd, given that manager Bruce Berkowitz had just bought close to 36 million shares in the first quarter of 2011. While we may have to wait and see what rationale drove such a quick turnaround--given that Fairholme runs on a November fiscal year--we think that Berkowitz may have sold the stock (along with others in his portfolios) in order to continue to pile money into what he considers to be undervalued financials, with American International Group (AIG), Berkshire Hathaway (BRK.A) /(BRK.B), Bank of America (BAC), and MBIA (MBI) being the prime recipients of capital during the most recent period. With regards to Oakmark Equity & Income's elimination of Cisco from its portfolio, the managers noted that the sale represented an "opportunity to realize a short-term taxable loss" in the name (given that it was a relatively recent foray for the fund in the technology space).
Looking at the trading activity among the other top 10 holdings, our managers were net buyers of Microsoft (MSFT), which was also a top 10 purchase by our Ultimate Stock-Pickers during the quarter. While there were no new-money purchases in the name, 10 of the 15 managers holding the stock coming into the second quarter added to their holdings, with three managers--Dodge & Cox Stock (DODGX) , FPA Crescent, and Yacktman (YACKX)--making meaningful additions to their stakes in the software giant. With regards to Wells Fargo (WFC), which was also a top 10 purchase during the quarter, we saw seven out of 12 managers holding the bank at the start of the second quarter adding to their stakes, with three managers--Berkshire Hathaway, Parnassus Equity Income (PRBLX), and Tweedy Browne Value (TWEBX)--all making meaningful additions to their holdings. As we had noted in our last article, Wells Fargo continues to get a lot of attention from Warren Buffett, with Berkshire adding more than 32 million shares to its stake in the bank over the last four calendar quarters.
Another top 10 holding that received attention from our Ultimate Stock-Pickers during the recent period was Procter & Gamble (PG) , with five of the 11 managers holding the stock at the end of the first quarter adding to their positions. Of note was the fact that three of these managers--Aston/Montag & Caldwell Growth (MCGIX), Parnassus Equity Income, and Yacktman--made meaningful additions to their stakes in Procter & Gamble during the second quarter. We also saw additional buying activity in Wal-Mart (WMT), which was held by 14 of our top managers at the start of the period. While one manager--Oppenheimer Global (OPPAX)--did blow out their stake in the retail giant during the period, six managers were actually adding to Wal-Mart, with FPA Crescent making a meaningful addition to its holdings. We saw a similar trend in Johnson & Johnson (JNJ) as well, with one manager--Oakmark (OAKMX)--walking away from the name during the second quarter, while five of the remaining 11 managers holding the stock at the start of the period were adding to their stake. Of its sale of Johnson & Johnson during the quarter, the managers at Oakmark noted that they had eliminated the position "after the company announced a stock-financed acquisition" that they believed would "decrease its per-share value."
While we also saw a meaningful sale of Coca-Cola (KO) by one of our top managers--Matrix Advisors Value (MAVFX)--during the period, it wasn't enough to detract from the additional purchases that were made in the beverage giant by some of our Ultimate Stock-Pickers in the quarter. As for the other two names on the list--ExxonMobil (XOM) and Berkshire Hathaway--our top managers were net buyers of both stocks, with each firm seeing at least one manager making a meaningful addition to their holdings. With regards to ExxonMobil, both Columbia Dividend Income (LBSAX) and Yacktman added to their stakes in the energy giant, with the managers at Yacktman making a meaningful addition to their position. As for Berkshire Hathaway, we already noted that Bruce Berkowitz was adding to his stake in the conglomerate, making it the 10th-largest holding at Fairholme Capital Management. While not quite as large of a holding at FMI Large Cap (FMIHX), the managers at the fund did add to its stake in Berkshire Hathaway during the most recent period.
Ultimate Stock-Pickers' Top Purchases
Data as of 08-26-11. Fund ownership data as of funds' most recent filings.
Looking at the top 10 purchases made during the most recent period, the list is dominated by technology and financials. We recently noted the increased interest that our top managers have taken in technology stocks, which now account for 13% of our Ultimate Stock-Pickers aggregate holdings (compared to around 10% in the year-ago period). And while it would be easy to point the finger at Bruce Berkowitz for the increased trading activity in financials, he was not alone in putting money to work in the sector during the quarter. That said, much of Berkowitz's capital was being aimed at more troubled names, like American International Group and Bank of America, rather than at less controversial firms, like Wells Fargo and MetLife (MET). At the end of the day, though, even Buffett saw some value in the underperformers, committing $5 billion in capital to Bank of America before the end of last week.
Overall, though, we have to admit that the two things that really stood out to us this quarter was the fact that Cisco broke into the top 10 holdings of our Ultimate Stock-Pickers and that Google (GOOG) was not only acquired by seven of our managers during the quarter but that four of them--Oakmark, Oppenheimer Global, RS Capital Appreciation (RCAPX), and Alleghany (Y)--were actually making new-money purchases in the name. While we do have our fair share of growth managers on the list--with four out of the 22 fund managers on our list categorized as large-cap growth funds--it is interesting see several of the large-cap blend managers, as well as one of the insurance managers, migrating over to the technology space. Having taken a fairly deep look at both Google and Cisco, as well as some our thinking about why some of our top managers feel like they are finding value in the technology space, we'll limit ourselves to the remaining purchases made during the quarter.
Unlike Cisco and Google, several of our top managers may now wish that they had walked away from Hewlett Packard (HPQ) during the second quarter rather than throwing additional money at the name. Eight of our Ultimate Stock-Pickers held the stock coming into the second quarter, and five of them made fairly meaningful additions to their stakes during the period, with the managers at Yacktman even noting in its quarterly letter to shareholders that "Hewlett-Packard's stock could perform well from current levels even if its businesses continue to struggle." Things couldn't have been further from the truth, though, as the shares have declined more than 30% since the end of the second quarter after the company not only lowered its full-year guidance for the third quarter in a row, but also announced that it was exploring strategic alternatives for its PC division, admitted that its table and phone strategies have been a failure, and announced a $10 billion software acquisition. This may have proven to be too much to take for some of our managers, who might just have taken advantage of the drop in the stock price this quarter to recognize a short-term taxable loss on the holding.
With regards to the other names on the list that we haven't already talked about, Research in Motion (RIMM) saw buying activity from one of the two managers holding the name at the start of the second quarter, with the managers at Yacktman actually making a new-money purchase in the Canadian producer of the BlackBerry line of mobile phones. As for United Parcel Service (UPS), three of the eight managers that were holding the name at the end of the first quarter added to their stakes during the most recent period, with Parnassus Equity Income actually making a new-money purchase in the world's largest parcel delivery company. The managers at Parnassus Equity Income initiated positions in three different stocks--Target (TGT), CVS Caremark (CVS) and UPS--noting that the latter two "should hold up well if economic growth is subdued, and should thrive if the economic picture ends up being better" than their current projections.
Ultimate Stock-Pickers' Top Sales
Data as of 08-26-11. Fund ownership data as of funds' most recent filings.
Not unlike the top purchases, there was a discernable trend among the top sales that were enacted during the second quarter, with four energy firms--Total (TOT), Schlumberger (SLB), Baker Hughes (BHI), and Devon Energy (DVN)--making our list of top sales. Of these, Total stands out the most, as it was not only blown out at FPA Crescent, but also was completely eliminated from the portfolio at Mutual Shares(TESIX) as well. Devon was also sold out of one portfolio--Parnassus Equity Income--as that manager also eliminated stakes in Apache (APA), Black Hills (BKH), First Solar (FSLR) , Deere (DE), Microsoft, Teva Pharmaceuticals (TEVA), and Valeant Pharmaceuticals (VRX) during the quarter.
Bucking the trend of technology purchases, both Intuit (INTU) and Oracle (ORCL) were also being sold by our top managers during the period, with Accenture (ACN) and UnitedHealth Group (UNH) in the same boat. These sales seemed to be driven more by the need to cover investor redemptions than anything else, as they were all matching (or in two cases exceeding) the returns of the S&P 500 during the second quarter. The same could be said of Pfizer (PFE), which was held by 12 of our top managers at the start of the second quarter and was sold by four of these managers, with one of them--Hartford Capital Appreciation (ITHAX)--completely eliminating its stake in the pharmaceuticals giant during the period. And while its share price may have faltered somewhat during the second quarter, Morgan Stanley (MS) was another name that saw what we consider to be forced sales, with two managers selling during the period--the most notable of which was Fairholme, which was not only dealing with increased redemptions during the second quarter but also was raising capital to throw at other financials--namely American International Group, Berkshire Hathaway, Bank of America, and MBIA.
As we noted earlier, we expect the level of selling to pick up this quarter as our top managers face the prospect of even greater investor redemptions in the face of volatile markets. If this is the case, we're likely to see more quality names working their way up on to the list of top sales during the third quarter, much as we did last year (and during the fourth quarter of 2008 and first quarter of 2009). That said, we also expect to see firms like Hewlett-Packard, which was a top 10 purchase this quarter, rotating on to the top sales list as some managers throw in the towel and walk away with a short-term taxable loss for their troubles.
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Disclosure: Greggory Warren own shares in the following securities mentioned above: Procter & Gamble. It should also be noted that Morningstar's Institutional Equity Research Service offers research and analyst access to institutional asset managers. Through this service, Morningstar may have a business relationship with fund companies discussed in this report. Our business relationships in no way influence the funds or stocks discussed here.
The Morningstar Ultimate Stock-Pickers Team does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.