Mason Hawkins’ Southeastern Asset Management just released its 2011 year-end investor letter. The firm writes: “After delivering strong returns in 2009 and 2010, we are disappointed to report weak results for 2011.” In the past year, Southeastern Asset Management’s Partners Fund lost 2.85%. Its Small-Cap Fund gained 2.11%, while its International Fund was down 20.29%. Don’t be fooled by these poor returns though. Mason Hawkins’ Partners Fund returned more than 1100% since its inception in 1987, vs. 658% return for the S&P 500 index. Mason Hawkins has a long and proven track record that outperformed the market. We think his top stock picks are likely to beat the market over the next couple of years. The top 5 stocks picks are Dell (DELL), Chesapeake Energy (CHK), Loews (L), Aon Corp (AON), and DIRECTV (DTV). Let’s take a look at these stocks.
Southeastern Asset Management believes most analysts have disregarded Dell’s growing free cash flow and believes the company will continue using its cash to repurchase shares. “It is only 35% of our appraisal value,” writes the hedge fund. Now Dell is the largest holding, 8.9%, of Southeastern’s Partners Fund. The firm had more than 146 million shares of DELL at the end of Q3. David Einhorn bought DELL at an average price of $15.53 during Q4, following Whitney Tilson. So, it seems that hedge funds are crazy about the stock. Now, Dell is approaching $18 per share.
The second largest position in Southeastern Asset Management’s Partners Fund is Chesapeake Energy (CHK), which accounts for 7.7% of the portfolio. Southeastern Asset Management is bullish about the stock. They reason, it “sells for less than half of our NAV in part because the market doubts McClendon’s willingness to spend less than cash flow on additional lease acreage.” Although the oversupply and the warm winter pushed natural gas prices to under $3/mcf, liquefied natural gas companies can profit from exporting gas to Asia and Europe over the long term. Southeastern Asset Management had 87.39 million shares of CHK as of February 6, which translates to a 13.3% passive stake in the company. The firm had more than 88 million shares as of the end of September. Now CHK is trading at about $22.
Loews (L) is the third largest position in Southeastern Asset Management’s large stock picks. The firm believes Loews sells for less than half of its appraised value, due to “mispricing of publicly traded CNA and the resulting conglomerate discount.” Now, Loews accounts for 6.6% of Southeastern’s Partners Fund. Southeastern Asset Management kept boosting its Loews position for the three quarters in 2011, and the firm had more than 38 million shares of the stock at the end of Q3. Loews is now trading at $22.50. Cliff Asness, D. E. Shaw, and Ken Griffin also owned positions in the stock last year.
Aon Corp (AON) accounts for 6.1% of Partners Fund’s portfolio. Southeastern Asset Management believes AON is trading below 70% of its appraisal price because of the premium float and goodwill amortization from acquisitions. Southeastern Asset Management reported 22.95 million shares or 7.1% stake of AON on February 6, and more than 23 million shares at the end of September.
DIRECTV (DTV) has a dominant market share in Latin America where most countries don’t have the infrastructure for cable lines. DTV accounts for 5.7% of Southeastern Asset Management’s Partners Fund. In the third quarter, Southeastern Asset Management had more than 34 million shares of DTV in its portfolio. DTV is now trading at about $45, returning 7% from a year ago.
Overall, these 5 positions total 35% of Southeastern Asset Management’s Partners Fund, and averaged a loss of 6% in the past year. We think these stocks are dirt cheap and we expect them to outperform the market over the next couple of years. Our favorite is Dell which has an expected free cash flow yield of 16% in 2012. The free cash flow yield jumps above 20% after adjusting Dell’s net cash position. We are in the process of initiating a position in Dell.
