Appaloosa, Greenlight, Lone Pine, ESL Investment and Icahn Partners are five of the hottest hedge-fund firms around. Other managers, hoping to gain an edge, keep close tabs on what they're buying and selling. Here's what they own now.
IN THE INVESTMENT BUSINESS, THERE ARE LEADERS and followers. Certain top-notch money managers are closely watched -and often imitated by their peers. This is particularly true in the hedge-fund industry, where thousands of managers need to keep generating good returns or risk losing their in vestors and their jobs.
Who matters? Based on discussions v,ith many institutional investors, we've identified five well-re garded hedge funds whose investment moves are closely scrutinized. These leaders are Appaloosa Management, run by David Tepper; Greenlight Capital, managed by David Einhorn; Lone Pine Capital, run by Steve Mandel; ESL Investment Management, run by Ed Lampert, and Iealm Partners, managed by Carl Icahn.
The table below shows the five managers' tnree largest holdings on Sept. 30, as well as" one sizable purchase and one sale in the three months ended Sept. 30. (Some portfolio buys and sales reflect changes to existing positions.) These investments and transactions offer a glimpse of what the smart money is doing. The managers' holdings include some well-known names such as Time Warner (ticker: TWX) and Oracle (ORCL), as well as Ameriprise Fi· nancial (AMP), Sears Holdings (SHLD) and Brook field Asset Management (BAM).
In the. past two weeks, institutional investors in search of investment ideas have been poring over the third-quar ter holdings of these and other managers with strong stock-picking skills. Other closely watched hedge funds in clude Blue Ridge Capital, Atticus Capital, Perry Capi tal, Caxton Associates, Maverick Capital, Tontine Management, Highfields Capital and Alson Capital. In the mutual-fund industry, other managers watch Bill Miller of Legg Mason; Southeastern Asset Management's Staley Cates and Mason Hawkins, and Dodge & Cox, led by John Gunn. .
Institutional investors must disclose their U.S. equity holdings in a regulatory filing called a 13- F report within 45 days of the end of a quarter. Most managers submit their 13-Fs as late as possible because they don't want to tip off rivals about what they're doing. The September figures became available in mid-November.
Our table has its limits. The information now is two :;,omhs old, and it's possible the managers listed have scslecl back or sold certain stocks that they held on Sept 30. We've tried to lower the chances of that by focusing on managers with low to moderate turnover and rela tively concentrated portfolios.
Another caveat: The trend toward hedge funds investing in stocks held by other hedge funds has intensified in recent years, prompting some managers to avom stocks held by too many funds. The fear is that these stocks, known in the business as hedge fund hotels, could be vulnerable to shatp declines if bad company news prompts many managers to sell. Goldman Sachs publishes a widely followed quarterly report analyzing which stocks are favored and shunned by hedge funds.
By looking at the top holdings of some top man agers, investors can put together a best-ideas portfo lio without paying management fees. Most of the larg est and best-run hedge funds are closed to new inves tors, and ewn if they were to open their doors, fees can be steep. Hedge funds generally cmTY base man agement fees of at least one percentage point and typically take 20% or more of profits.
Yet an investment strategy that borrows the best ideas of some top hedge funds may not come close to matching the funds' retmns because of a small sample size and the timing of trades. Hedge funds also make investments that don't show up in qum'terly filings, such as purchases of bonds and foreign equities, and short sales of stocks.
Many equity-oriented hedge funds engage in short selling in an effort to deliver positive retmns in both rising and falling markets, thereby justifying their incen tive-fee structure. Short selling generally is a tougher way to make money, however, because of the market's upward bias and the danger of "squeezes," or trading by others aimed at forcing up the prices of stocks that are popular with "shorts." Reflecting these difficulties, some hedge-fund operators have begun long-only funds.
The $4 billion Appaloosa fund built its reputation as one of the best investors in the debt of financially dis tressed companies, but the fund's strong returns in the past two years are the result of David Tepper's underap preciated stock~picking skills.
In 2005, Appaloosa did well with resource stocks, and this year it has scored with technology shares, including Oracle, Cisco Systems (CSCO) and Microsoft (MSFT). Both Oracle, Appaloosa's top equity holding, and Cisco have risen more than 50% jn 2006. The Appaloosa fund recently was up about 25% year-to-date.
On Sept. 30, Appaloosa held other tech issues, includ ing Micron Technology (MU), Applied Materials (AMAT) and Texas Instruments (TXN). Its largest holding was the Nas daq 100 Trust Shares (QQQQ), an ex change-traded fund dominated by tech stocks.
Last w:ek Tepper said the Nasdaq 100 index, now at 1760, isn't as cheap as it was in the summer at 1450. "There'snoth ing to jump up and down about," Tepper said, though he noted "equities are as good as any other asset class now."
Oracle, at 19, isn't the bargain it was in January, at 12, and the same is true of Cisco, which has rallied to 27 from 19. Appaloosa also has scored with airline stocks AMR (MIR), UAL (DADA) and Continental (CAL), all bought in the third quarter.
Einhorn is known as an astute stock picker and a patient investor. His Green light fund has generated annual returns of 27% since its founding a decade ago; through November, it was up 23% year-to date. Einhorn declined to comment.
Spinoffs have long been a fruitful area for investors, and Einhorn has done well with them. The fund's largest holding, Freescale Semiconductor, a Motorola castoff, was bought Friday for $40 a share in a $17 billion leveraged buyout, the largest ever in the tech sector. Free scale accounted for 30% of Greenlight's equity holdings on Sept. 30, and rose 58% this year before going private.
On Sept. 30, Greenlight's other top holdings were Ameriprise Financial, Mi crosoft and Hog: pira (HSP). Ameriprise was a 2005 spinoff fi'om American Ex press (AJtP) and Hospira came out of Abbott Labora tories (ABT). With the Freescale sale, Einhorn will have a lot of new money to invest, and his fans will be looking closely at his fourth-quarter filing.
At a New York charity lunch in May, Einhorn talked about his affinity for Mi crosoft; He made a fantasy baseball anal ogy, saying that buying Microsoft, then trading at 23, was like getting Alex Rod riguez, the New York Yankees star, for a merely average price in a fantasy-base ball draft. Microsoft is now at 29.
Steve Mandel is another stockpicker other hedge-fund managers watch. His $8 billion Lone Pine Capital fund has a strong record over eight years, returning about 25% annually. Through November, it was up about 11 % year-to-date.
Mandel's reputation has been en hanced ",rith scores in Google (GOOG) and Apple Computer (AAPL) in the past few years. Google was Lone Pine's second-largest holding at the end of the third quarter, but Mandel cut the firm's position by nearly 25% in the period, to 1.1 million shares from 1.46 million, after reducing the position by almost 500,DOO shares in the second quarter. This suggests Goo gle may be getting too rich for Man del, who declined to comment.
Lone Pine added to its holdings in Corneast (CMCSA) and Qualcornrn (QCOM) in the third quarter while establishing a position in Schlumberger (SLB). The fund was a seller of Re search in Motion (RIMM) and Amer ica ModI (AMX) in the quarter.
Ed Lampert's success and wealth have made him the Warren Buffett of the hedge-fund industry. Lampert is both an investor and corporate strate gist, having played a key role in engi neering the turnaround of the formerly bankrupt and seemingly hopeless Kmart and then orchestrating a win ning merger with Sears Roebuck.
His ESL Investment owns over 40% of Sears Holdings, worth $10.3 billion. Sears Holdings, at 170, is up ten-fold in the three years since Kmart emerged from bankruptcy. In. the Kmart/Sears merger, Kmart stock was the cmrency for the deal.
Lampert, Sears' chairman, is a re tailing maverick who stresses profit ability, not grmvth. He feels many re-, tailel~s focus too much expanding their store bases rather than maximizing profits from existing locations. This is a controversial strategy that worked at another ESL holding, AutoZone (AZO). Lampert has been \villing to harvest profits at Sears and Kmart and tolerate declining sales.
Lampert, who idolizes Buffett, has developed a cult following. Many hedge fund managers own Sears because they admire his retailing skills and view the company as a vehicle for Lampert to make acquisitions. Lampert does little trading, and ESL's equity portfolio at the end of the third quarter consisted of just three stocks: Sears Holdings, Auto Zone and AutoNation (AN). With Sears up almost 50% this year and con stituting nearly 75% of ESL's portfolio, Lampert's fund could be up about 40% before fees. The feIDd's pelformance isn't available.
When Carl kahn started Icahn Part ners two years ago, some wondered why, then at age 68, he wanted to .manage other people's money when he already had so much or his own ~ he's worth more than $10 billion. He since has emerged as one of the leading activist investors, and his hedge fund is up about 30% year-to-date.
Icahn doesn't think much of the man agement of many U.S. companies, and through his hedge fund has taken posi tions in some he views as managed partic ularly poorly, where he presses for change. He's done that with KelT-Mc Gee, Time Warner, Blockbuster (BBI) and ImClone Systems (IMCL).
Icahn scored with Kerr-McGee, tak ing a position in the energy producer in 2005. He urged management to break up the company, which it did by spinning off its chemical operations. Earlier this year it was sold to Anadarko Petroleum (APC) for a substantial premium.
Icahn unsuccessfully took on the man agement of Time Warner, which rejected his proposal for a spinoff of its cable divi sion. His largest holding, it's up 16% this year.
Following the investment moves of Icahn and other notable hedge-flmd man agers may not be an original strategy. But it could prove profitable if these in vestors retain their touch.
By Andrew Bary
