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FAIRHOLME
Ignore the crowd.
This presentation uses American International Group as a case study to illustrate Fairholme Capital Managements investment strategy for the Fairholme Fund. In the pages that follow, we show Fairholme Fund shareholders why we Ignore the crowd with regard to our portfolio positions that are currently out of favor in the market. However, nothing in this presentation should be taken as a recommendation to anyone to buy, hold, or sell certain securities or any other investment mentioned herein. Our opinion of a companys prospects should not be considered a guarantee of future events. Investors are reminded that there can be no assurance that past performance will continue, and that a mutual funds current and future portfolio holdings always are subject to risk. As with all mutual funds, investing in the Fairholme Fund involves risk including potential loss of principal. Opinions expressed are those of the author and/or Fairholme Capital Management, L.L.C. and should not be considered a forecast of future events, a guarantee of future results, nor investment advice. The Fairholme Funds holdings and sector weightings are subject to change. As of February 29, 2012, American International Group securities comprised 32.2% of the Fairholme Funds total net assets. The Fairholme Funds portfolio holdings are generally disclosed as required by law or regulation on a quarterly basis through reports to shareholders or filings with the SEC within 60 days after quarter end. A complete list of the Fairholme Funds top ten holdings is available on our website at www.fairholmefunds.com. The Fairholme Fund is nondiversified, which means that it invests in a smaller number of securities when compared to more diversified funds. Therefore, the Fairholme Fund is exposed to greater individual security volatility than diversified funds. The Fairholme Fund can invest in foreign securities which may involve greater volatility and political, economic, and currency risks and differences in accounting methods. The Fairholme Fund may also invest in special situations to achieve its objectives. These strategies may involve greater risks than other fund strategies. Investments in debt securities typically decrease in value when interest rates rise. This risk is usually greater for longerterm debt securities. Lowerrated and nonrated securities present greater loss to principal than higherrated securities. The Fairholme Funds investment objectives, risks, charges, and expenses should be considered carefully before investing. The prospectus contains this and other important information about the Fairholme Fund, and may be obtained by calling shareholder services at (866) 2022263 or by visiting our website at www.fairholmefunds.com. Read it carefully before investing.
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Soundinteresting?
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1 PeterD.Hancock,May31,2012. *Seelastpagefordefinitionsofterms.
Wecertainlythinkso.
Insurance is critical to the smooth functioning of the world economy. Businesses cannot operate without coverage against the unexpected and most capital transactions cannot be financed without insurance.
BruceR.Berkowitz OutstandingInvestorDigest YearEnd2001Edition
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InvestmentThesisforAIG
ReasonableExpectations
10% Returnon
OwnersEquity*
20% ImpliedAnnual
ReturnonInvestment*
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InvestinginourCircleofCompetence*
Experiencedwithinsurancecompanies Favorableearningspower
$1,800 $1,600 $1,400 $1,200
ImprovedFundamentals Availableatattractiveprices
Initiatedpurchaseafter thefinancialcrisis.
Price
Price
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BookValuepershare
Dateofreversesplit:07/01/2009
Theseedsofgreatperformanceareusuallysown intimesofintensefearafteradisaster.
BruceR.Berkowitz,LettertoClients,October2011
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Whenarecoveringicontradesathalfofourunderstandingofintrinsic valueforareasonthathasnothingtodowithitsprospects,weswingbig.
BruceR.Berkowitz,LettertoClients,June30,2011
$60
$50
$40
Price
$30
$20
$10
$0
Price
BookValuepershare
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isBack*
#1GlobalPropertyandCasualtyInsurer,ServingCustomersinmorethan130Countries
CATEGORY
#1GeneralP&C #1D&OLiability #1MarineandFire #1MedicalandLife #2Catastrophe
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KeyFranchisesUnscathedbyCrisis, RevenuesHaveGrown
RevenuesbyReportableSegments (inmillions) Worldleaderinglobalpropertyand casualtyinsurance.
45,000employees 70millionworldwideclients #1GlobalInsurer(Euromoney)
$37,629 $11,317 $10,147 +10% $41,590
U.S.lifeinsuranceandretirement servicesleader.
13,000employees 16millioncustomers RecognizedleaderinU.S.market
$27,482
$30,273
YTD2010* Chartis
YTD2011** SunAmerica
Ignore the crowd.
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IndustryLeaderWithLoyalCustomerBase*
2011ACCOLADES
BUYERS CHOICE AWARD FOR EXPERTISE,BUSINESS INSURANCE INNOVATION AWARD,BUSINESS INSURANCE MOST TRUSTED BRAND IN KOREA,CHOSUN ILBO BEST QUALITY SERVICE TRAVEL INSURANCE COMPANY (CHINA), WORLD TRAVEL FAIR STANDOUT COMPANY AWARD (BRAZIL), REVISTA SEGURADOR BRASIL BEST PRODUCT INNOVATION AWARD (GENERAL INSURANCE), CELENT COMPANY OF THE YEAR (HEALTH INSURANCE),CELENT BEST PRACTICES IN TECHNOLOGY (GLOBAL MARINE AND ENERGY), CELENT
~93%**RetentionontheseSegments
*PiechartsrepresenttheproportionofeachindicatedsegmentthatdoesbusinesswithChartis. **AtSeptember30,2011,basedona12monthrollingaverage.
98%
96%
89%
~33%
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TOP BANK CHANNEL FIXED ANNUITY PROVIDER FOR 15CONSECUTIVE YEARS LEADER IN INDIVIDUAL VARIABLE ANNUITIES
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TrustButVerify
OurResearchhasbeenEnhancedbyUnprecedentedDisclosure
[Note:ThesealsbelowdepictseveralofthegovernmentagenciesthathaveexaminedAIG, butinnowaysignifyanendorsementofanykind.]
AIGMovingForward
AggressivelyWindingDownandDeRiskingtheAIGFPDerivativesPortfolio1
$1,600
$1,450
$1,400 $1,200 $1,000 $800 $600 $400 $200 $0 MarketDerivatives* Arbitrage/Multi SectorCDS *
2008
89%
$240 $144 $65 $18 $8 $40 $20
RegulatoryCapital StableValueWrap CDS(including Book * Mezzanine) *
3Q2011
40,000
35,000
OutstandingTradePositions
$302,201
16,100
94%
3,900 2,100 3Q2011 2010
$183,526
95%
$59,850 $26,042 2010 3Q2011
$50,000 $0
2008
2009
2008
2009
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AIGFinancialProductsCorporation *Seelastpagefordefinitionsofterms.
PowerfulFranchisesandValuableAssets
AsAIGshedsadditionalnoncoreassetsandfurtherreducesriskexposures, thevalueofitspowerfulfranchisesandassetswillemerge.
CHARTIS
SUNAMERICA
ComparedtoitsPeers, AIGisExceptionallyCheap
1.40
Historical15yearPrice/BookAverageforProperty&CasualtyInsuranceSector= 1.30
1.20
AIGPrice/Book* =0.56
1.00
PricetoBook
0.80
0.60
0.40
0.20
Chubb (MarketCap:$18+Billion) Ace (MarketCap:$23+Billion) Travelers (MarketCap:$23+Billion) Allstate AmericanInternationalGroup (MarketCap:$14+Billion) (MarketCap:$47+Billion)
5YearAveragePrice/Book*
CurrentPrice/Book*
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$25BuysYou$45+
Investingisallaboutwhatyougiveversuswhatyouget.*
GIVE =$25
FutureCash Flows**
MarketCap:$47bn
In return for purchasing stock (above) at historic lows, an investor in AIG receives book value (right) that far outweighs the cost. This provides potential downside protection as well as upside opportunity. There can be no assurance that the market will recognize AIGs true intrinsic value, but when the market returns to a weighing machine, AIGs market cap should increase.
GET =$45+
*BruceR.Berkowitz,MorningstarConference,June9,2011 MarketPricesasofJanuary30,2012. **Futurecashflowsarenotguaranteed.
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AIGsLongTermGoals
PreparingtoProsperOnceAgain*
INCREASE RETURN ON EQUITY (ROE)TO 10% GROW EARNINGS PER SHARE INCREASE PRETAX OPERATING INCOME UTILIZE DEFERRED TAX ASSETS (DTA) REDUCE GENERAL &ADMINISTRATIVE EXPENSES DEPLOY EXCESS CAPITAL FOR: POTENTIAL SHARE REPURCHASES DIVIDEND PAYMENTS ACQUISITIONS ORGANIC BUSINESS OPPORTUNITIES
*AIGPressRelease,February23,2012.
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Manyshallberestoredthatnowarefallen
Horace,Ars Poetica
40,000,000 $1,800 $1,600 $1,400 $1,200 35,000,000
30,000,000
ShortInterest
25,000,000
5,000,000
ShortInterest
Price
AsAIGssharepricedecreasedduringthefinancialcrisis,shortinterestgrew. Recently,shortinteresthasdecreased,althoughitremainsatelevatedlevels.
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*Dateofreversesplit:07/01/2009
Price*
$1,000
Staying theCourse
Courage ofConviction
This is not an easy time for value investors. As we practice the strategy, value investing has been underperforming and prices for our companies are depressed and do not reflect intrinsic value or business fundamentalsEach of our holdings generates excess free cash. All are at bargain prices. Yet, our investment experience has taught us that we cannot control prices. Cheap can get cheaper, even if there is nothing fundamentally wrong. However, market history says that high quality, wellmanaged companies dont stay cheap for long.
BruceR.Berkowitz LettertoClients February2000
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Pastperformancedoesnotguaranteefutureresults
Book Value: The net asset value of a company, calculated by total assets minus and liabilities. EquitytoAsset Ratio: A ratio used to help determine how much shareholders would receive in the event of a companywide liquidation. The ratio, expressed as a percentage, is calculated by dividing total shareholders equity by total assets of the firm, and it represents the amount of assets on which shareholders have a residual claim. The figures used to calculate the ratio are taken from the companys balance sheet. Implied Annual Return on Investment: Calculated by dividing a companys implied annual earnings by its total market capitalization at the time of investment. Return on Equity (ROE): The amount of net income returned as a percentage of shareholders equity. Return on equity measures a corporations profitability by revealing how much profit a company generates with the money shareholders have invested. Credit Default Swap: Transfers the credit exposure of fixedincome products between parties. The buyer of a credit swap receives credit protection, whereas the seller of the swap guarantees the credit worthiness of the product. Risk of default is transferred from the holder of the fixed income security to the seller of the swap. Market Derivatives: Derivatives are financial arrangements among two or more parties with returns linked to or derived from some underlying equity, debt, commodity, or other asset, liability, or foreign exchange rate or other index or the occurrence of a specified payment event. Arbitrage/MultiSectors CDS: Represents the CDS portfolio that, according to Federal Reserve officials, is a synthetic long credit position and written on CDO transactions that generally had underlying collateral of residential mortgagebacked securities, commercial mortgagebacked securities, and CDO tranche securities. Regulatory Capital CDS (Including Mezzanine): Represents derivatives written for European banks that allowed them to reduce the amount of capital they needed to set aside to cover potential losses on certain asset portfolios of residential mortgages and corporate loans by buying protection against losses on underlying assets. Mezzanine refers to transactions in which the underlying collateral credit ratings on a standalone basis were predominantly A or lower at origination. Stable Value Wrap Book: Maintenance agreement that a stable value fund enters into with one or more financial institutions to maintain a stable or positive net asset value. The wrap contract is known to smooth performance and reduces the impact of market volatility. Stable value is a lowrisk asset class that seeks capital preservation and consistent returns. Super Senior CDS Exposure: Credit default swap transactions were entered into with the intention of earning revenue on credit exposure. In the majority of these transactions, credit protection was sold on a designated portfolio of loans or debt securities. Generally, such credit protection was provided on a second loss basis, meaning that credit losses would be incurred only after a shortfall of principal and/or interest, or other credit events, in respect of the protected loans and debt securities, exceeds a specified threshold amount or level of first losses.
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