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BERKOWITZ: POWERFUL FINANCIALS? TRANSCRIPT

September 26, 2014

This show is a WealthTrack exclusive interview with Bruce Berkowitz of The Fairholme Fund. Launched at the height of the tech bubble in late 1999, The Fairholme Fund has been the top performer in Morningstar’s Large Value category since inception, delivering 13% annualized returns and beating its nearest competitor by a margin of 2.4% points a year. Berkowitz believes in “ignoring the crowd”. He’ll explain why nearly 80% of his portfolio is in four financial stocks shunned by most investors.

This week on WealthTrack, a Great Investor who dives to extreme depths to find value. The Fairholme Fund’s Bruce Berkowitz explains his investments in companies that other investors abandoned at the bottom. A rare interview with Fairholme Fund’s Bruce Berkowtiz is next on Consuelo Mack WealthTrack.

Hello and welcome to this edition of WealthTrack, I’m Consuelo Mack. This week we have a rare interview with a great investor who has generated a fair amount of controversy, admiration, fear and envy among the investment community because of his deep value and concentrated investment approach. He is the Fairholme Fund’s Bruce Berkowitz. At the peak of his flagship fund’s popularity in 2011 it had over 20 billion dollars in assets. By 2012 those assets had plummetted by 70% to $7 billion.

The reason? A 32% drop in the fund’s value in 2011 due to his early and large investments in financial stocks and massive shareholder redemptions because of them.

True to form Berkowitz has stuck to his guns, upped the ante in financial stocks and made a ton of money with two back to back 36% gains in 2012 and 2013.

His largest holding is insurer AIG, which makes up about half of the fund’s portfolio, his second largest is Bank of America at 14.5%. Next are the two so called government sponsored entities, GSE’s known as Fannie Mae and Freddie Mac which he started purchasing over the last year. Combined they add up to 15% of the portfolio.

Today the Fairholme Fund’s assets stand at over $8 billion, mostly due to spectacular gains in AIG, which is still shunned by many on Wall Street.

Now his most controversial holdings are Fannie Mae and Freddie Mac which underwrite nearly 90% of the U.S. residential mortgage market and are 80% owned by the U.S. government since being placed into conservatorship by the government in 2008.

At the time the U.S. Treasury invested nearly $190 billion dollars in them. Since then Fannie and Freddie have returned that and more, a total of almost $219 billion to the government. It’s been a great investment for U.S. taxpayers, but the private shareholders including the Fairholme Fund, activist investors such as Carl Icahn and Bill Ackman haven’t seen a penny of profits. As a result they are suing the government to uphold their rights as shareholders. Even consumer advocate Ralph Nader has joined their side.

I have been interviewing Berkowitz on WealthTrack since 2007. In the past year his family foundation, the Fairholme Foundation, which supports educational and cultural causes has become a supporter of public television and specifically WealthTrack. He has always generated a great deal of interest.

When Morningstar initiated its fund manager of the decade award in 2010, he was the first winner in the Domestic Equity category. He also was the Domestic Stock Fund Manager of the Year winner in 2009. The Fairholme Fund, which he launched at the height of the tech bubble in late 1999 has been the top performer in its large value category since inception, delivering 13% annualized returns & beating its nearest competitor by a margin of 2.4% points a year. It has an excellent market and category beating 10 year track record as well, although it has lagged during the last 5 years. I began the interview by asking him why, with all the battered down sectors available to him after the financial crisis he was once again drawn to financial stocks.

BRUCE BERKOWITZ: It’s investment process. It’s you’re comparing what you pay, what you give to what you get and the price you pay. So you want a cheap price with a big margin of safety, but then of course you have to understand what you’re getting, and the financials, that’s my industry. That’s my company within that industry. It’s my experience, so the financials are within my circle of competence, and because the ones that we bought are so essential to the country, hence, their significant SIFI status that they have and the G-SIFI status. I mean, Bank of America is part of the banking system. AIG is part of the financial system of the country. The country doesn’t work with those institutions. The mortgage business doesn’t work without Fannie and Freddie, so they’re essential businesses that really have no substitutes in terms of if they disappeared tomorrow, there would be real problems, and there’s no one of size or scale that could take over exactly what they do. So once you’ve determined that this is a franchise, a moat, important institutions that help the country and help people, and then once you’ve determined that, the price is very cheap as if you could buy them, and even if they stopped doing business and they just ran off their existing business, you would make a lot of money. You didn’t even have to think about the future. You just had to count the cash. Then all you had to do is say, how can they die? And once you determine that they could not die based upon their capitalization …we went into all these institutions after they were recapitalized and restructured through the TARP program and so on, and they were better capitalized than any time in history, and they were making money again, and they were priced for total failure. It became obviously that these were good investments.

JENKINS & MAGNUSEN: ALTERNATIVE INVESTMENTS TRANSCRIPT

September 19, 2014

Worried about the stock and bond markets? Are alternative investments the solution? Alternatives, such as hedge funds now come in a liquid mutual fund form so they can be bought and sold daily on an exchange. They are regulated and transparent, so you know what they own – and the fees are considerably less than hedge funds. Most are available to average individual investors. These Liquid Alternative funds have taken off – their assets have increased ten fold since 2005. Lipper’s Robert Jenkins and Altegris Advisors’ Lara Magnusen discuss the risks and rewards of alternative investments.

CONSUELO MACK: This week on WealthTrack, once the domain of institutions and the uber- wealthy, alternative investments are now widely available in a new form, and are open to individual investors. Liquid alternatives investments experts, Altegris Advisors’ Lara Magnusen and Lipper’s Robert Jenkins guide us through this hot territory. Next on Consuelo Mack WealthTrack.

Hello and welcome to this edition of WealthTrack, I’m Consuelo Mack. After the financial crisis, which was a huge blow to individual investors psychologically and financially, everyone was asking themselves what is the alternative to traditional stocks and bonds? Where can I go for true portfolio diversification and protection from market volatility and downside risk?

For answers they looked to what institutions and high net worth investors have been doing for years, diversifying into what were known as alternative investments, which traditionally cover a multitude of products. Among them: hedge funds, which could short stocks, bonds and other securities and had unlimited flexibility to invest wherever and however they chose.

Private equity and venture capital funds which make sizable stakes in mostly privately held companies. So called tangible assets such as real estate, timber, farmland and commodities.

But these investments had their own set of problems. They were illiquid, you were either locked into them for a certain period of time and/or there was no market for them if you wanted to get out during the crisis. Many were opaque, meaning you generally didn’t know what was in them and they had very high fees.

Since then Wall Street has come to the rescue with a new class of alternative investments that is supposed to solve many of those problems. They are called liquid alternatives. They come in mutual fund form so they can be bought and sold daily on an exchange. They are regulated. They are transparent, so you know what they own and their fees are considerably less than hedge funds, although they are generally more than typical mutual funds, and most are available to average individual investors.

Liquid alternative funds have taken off. Their assets have increased ten-fold since 2005, from $33 billion, to $73 billion at the height of the financial crisis in 2009, to $123 billion in 2010 to $177 billion in 2012 to $308 billion in 2013.

Liquid Alternative funds also come in all shapes and sizes. At last count mutual fund analysis pioneer Lipper had identified 11 different categories, including the most popular by far, Alternative Credit focus funds, also known as Unconstrained Bond funds, Alternative Long/Short equity funds, the second most popular and Absolute Return funds, coming in at a close third.

What role should liquid alternatives play in a portfolio? Which ones, if any should individuals consider for their portfolios?

Joining us are two pros in this burgeoning field. Both are newcomers to WealthTrack. Robert Jenkins is the Global Head of Research at Lipper and has over 20 years of experience in the financial services and asset management industries including stints at Fidelity and McKinsey & Company.

Lara Magnusen is Director of Investment Products and Member of the Investment Committee at Altegris Advisors, an alternative investment management firm. She was formerly its Director of Research and Investments. She holds the designation of Chartered Alternative Investment Analyst, or CAIA.

I started with the basics. Asking them each to define what constitutes an alternative investment?

ROBERT JENKINS: Well, when we think about alternatives, and one of the important caveats here of course is that it’s still very much evolving, and for years I know a lot of asset management firms, a lot of advisors, they looked at anything that was alternative that wasn’t stocks, bonds, cash. That included commodities and pass-throughs like REITs, et cetera, and I would view those more as alternative asset classes because they kind of have a distinct value proposition to them. Nowadays what everyone’s really talking about are Liquid Alternatives, and we view these as alternative strategies. Often times they have hedge fund-like strategies kind of embedded underneath whether they’re using shorting or derivatives or leverage or what have you. Also often times they have multiple asset classes embedded within them as well, and the really nice thing about them, the reason why they’re so popular now is they contribute a benefit in terms of correlation and diversification to a portfolio.

DARST & KAPLAN: PORTFOLIO CHANGES TRANSCRIPT

September 12, 2014

With the stock market trading near record highs should investors adjust their portfolios? David Darst and Jay Kaplan say yes! Darst is an independent investment consultant and Senior Advisor and member of the Global Investment Committee at Morgan Stanley. He is also the author of 11 books, including two on mastering the art of asset allocation. Kaplan is portfolio manager of several funds run by small cap pioneer, The Royce Funds, which is known for its value orientation and high quality company focus. We’ll get their personal perspectives on market valuations.

This week on WealthTrack, what do high altitude markets mean for portfolio selection? Asset allocation master David Darst and small cap fund champion Jay Kaplan discuss the routes they are taking to stay at peak performance in pricey markets. They are next on Consuelo Mack WealthTrack. Hello and welcome to this edition of WealthTrack, I’m Consuelo Mack.

We don’t pay too much attention to daily, weekly or even monthly moves in the markets on WealthTrack. As JP Morgan once quipped “the market will fluctuate!” And so it does and will. We do however look at longer term data to determine how expensive or cheap stock prices are and one of the best guages that we have seen is the creation of Nobel Prize winning economist Robert Shiller and a colleague, John Campbell. As WealthTrack viewers know, Shiller, a frequent WealthTrack guest is a professor of economics at Yale, while Campbell teaches at Harvard. More than 25 years ago they collaborated and created what they called the “Cyclically Adjusted Price- Earnings Ratio, or CAPE Ratio. What the CAPE Ratio does is divide the current price of the market by inflation adjusted corporate earnings averaged over the prior 10 years instead of the traditional P/E where the denominator is current earnings. According to Shiller the ten year history helps “minimize effects of business-cycle fluctuations” and is “helpful in comparing valuations over long horizons. “ Over a year ago Shiller warned that the CAPE Ratio stood at around 23, far above its 20th century average of 15.21.

In a column in The New York Times last month Shiller noted that the cape was above 25, “a level that has been surpassed since 1881 in only three previous periods: the years clustered around 1929, 1999 and 2007. Major market drops followed those peaks.”

As Shiller was quick to point out the CAPE was never intended to indicate exactly when to buy and sell. It’s been a very imprecise timing indicator and in fact has been relatively high, above 20 for almost all of the last 20 years. But here’s the Shiller kicker, over the last century the CAPE has consistently reverted to its historical mean of around 15.

It fell as low as 13.2 in the midst of the financial crisis.

This week’s guests are more than aware of how expensive the markets have been and are adjusting accordingly.

David Darst is an independent investment consultant and senior advisor and member of the global investment committee at Morgan Stanley. For 17 years he was the Chief Investment Strategist of Morgan Stanley Wealth Management. He is also the author of 11 books including two on mastering the art of asset allocation. Jay Kaplan is a Portfolio Manager at small cap pioneer, The Royce Funds which is known for its value orientation and high quality company focus.

Kaplan manages several Royce funds including Royce Value, and he is a Portfolio Manager for Royce Total Return and Royce Dividend Value funds with small cap legend Chuck Royce as Lead Portfolio Manager.

I began the interview by asking Darst about his personal perspective on market valuations.

DAVID DARST: I think we’re relatively late in this party, this bull market phase. You’ve got several indicators of valuation which would tell me that this is not the … If a party goes from six o’clock until midnight, this is not seven or eight o’clock. This is more 10 o’clock-ish or even after that. You’ve got four big, long-term valuation indicators. One is you’ve talked about many times the Cyclically Adjusted Price Earnings Ratio which is the Professor Shiller ratio, it’s 50 percent higher than the normal, than the long-term average. Secondly, you have the market capitalization to GDP ratio. It is double the GDP of the United States right now. It has never been this high except three times before 1929, before 2000, the big crash then and in 2007 before the crash then. Price to sales is 1.67 times sales. The long-term average is half that. It is double the long-term average, price to sales. You can’t mess around with sales like you can with earnings and, finally, what’s it called? The Tobin ratio, the Q ratio which is price to replacement cost. It too is very elevated. So on a long- term basis, people talk about price the next 12 months, earnings. That’s fine. It’s in the zone, 15, 16 times earnings, but on a long-term basis, Consuelo, but the drivers of asset prices for thousands of years are fundamentals, valuation and psychology, and the time to really leave the party is when the psychology gets too ebullient and too optimistic. We’re not there yet. This valuation abnormality, this valuation anomaly can continue until people all get pulled into the party. Then it’s time to leave the party.

GARDNER: ENTERTAINING INVESTING TRANSCRIPT

September 5, 2014

Can investing be a lucrative game? Brothers David and Tom Gardner founded the online investment advisory service, The Motley Fool, in 1993 to help people become better investors while having fun doing it. 20 years later their Stock Advisor growth and value portfolios have beaten the market by a wide margin. We’ll talk with “Head Fool”, Co-Founder and CEO, Tom Gardner, about their unusual approach and impressive track record.

CONSUELO MACK: This week on WealthTrack, what explains the ageless appeal of the Motley Fool? Like its Shakesperean namesake, The Motley Fool’s co-founder Tom Gardner believes the wisest investment advice both instructs and entertains. Why it has also beaten the market is next on Consuelo Mack WealthTrack.

Hello and welcome to this edition of WealthTrack, I’m Consuelo Mack.

Since our founding ten years ago WealthTrack’s mission has been to help you and us build financial security through long-term diversified investing.

We have carefully chosen our guests to make sure they are among the best in the business, based on their philosophy, process, performance, appraisal by independent sources, peer recognition and reputation for integrity. We also have to like them. There is a no jerks rule here at WealthTrack. We know that technology has radically changed investing. We have access to more news and financial information than ever before…

For better or worse we can respond to it instantly and much more cheaply. But has it made us better investors?

20 plus years ago, two brothers David and Tom Gardner took advantage of new technology, the internet and started an online investment service called The Motley Fool. According to them, it’s now the largest online investment advisory service in the world. Their goal: to make their audience better investors. Now, I have known about The Motley Fool for years, friends and family members were subscribers. But The Fool was not on my radar screen because I don’t pay a lot of attention to stock advisory services. I mostly talk to mutual fund managers whose portfolios and performance I can track over periods of years.

So why am I making an exception with The Motley Fool?

One reason is, I really like what The Motley Fool has done: create an online community of investors and provide them with first rate research and recommendations.

How do I know its first rate? I looked at their track record, which is readily available on their website. Since 2002 their Stock Advisor service shows both David and Tom have outdistanced the S&P 500’s 50% plus gains by considerable margins. David Gardner’s swing for the fences growth approach has buried the market with its 200 plus percent advance. Tom Gardner’s more cautious value approach has handily beaten it with 80% gains.

Mark Hulbert’s Financial Digest which tracks more than 200 investment-advisory newsletter services has given Stock Advisor and several other Motley Fool newsletters top marks over the years. And The Motley Fool now has three mutual funds. The oldest, Motley Fool Independence is rated four-star by Morningstar and its 5-year track record puts it in the top fifth of its world stock category. It has handily beaten the market and its peers.

Motley fool Great America fund, rated five-star is near the top ten percent of its mid-cap growth category. I recently started reading their flagship Motley Fool Stock Advisor newsletter co-written by the founding brothers. Well it’s fun, easily understood and similar to WealthTrack takes a long term approach to investing.

So I reached out to the company and younger brother Tom accepted the invitation. I started by asking him for his 20 year perspective on what makes us better investors.

TOM GARDNER: I think the first thing is our time horizon. So if every investor out there just doubled their time horizon right now, their returns would be better. They would be more tax efficient. They would learn to focus on finding things that have staying power, great businesses or great investment products that are proven over time to do well. They would chase fads less and, therefore, they would do far less selling at the bottom and buying at the top. They wouldn’t worry about where the market was and what trend was happening now. So time horizon would be the number one. I’d say number two, a diversified portfolio. Obviously there are truly great investors, and Warren Buffett has said put your eggs in one basket and watch that basket, and there are some great investors that invest that way, but I would say for the majority of the population, making sure that you have a portfolio that’s not going to bring heart-wrenching moments for you when there are down periods, and you can look down periods by industry or even your entire portfolio. If you have 40 stocks in your portfolio, when the market’s down, you realize, gosh, the whole market’s down. It’s just the way it is. If you have only four stocks in your portfolio or six, you may really overreact emotionally in a bad time.

KATHLEEN GAFFNEY – BOND RISKS TRANSCRIPTS

August 29, 2014

Great bond investor Kathleen Gaffney says it’s been the quietest summer bond market in her 20 plus years of managing fixed income funds. Is this the proverbial calm before the storm? Have years of low interest rates lulled investors into another false sense of security? Gaffney, Portfolio Manager of the Eaton Vance Bond Fund, is concerned about risks in the bond world and has adjusted her portfolios accordingly. She’ll explain why she thinks bonds are fraught with risk and why stocks and cash are now a big part of her portfolios.

CONSUELO MACK: This week on WealthTrack, an investment world turned upside down – Eaton Vance’s great bond investor Kathleen Gaffney explains why bonds have become the riskier investment and stocks the safer one for income. Her unusual strategy for generating capital gains and income is next on Consuelo Mack WealthTrack.

Hello and welcome to this edition of WealthTrack, I’m Consuelo Mack.

For those of us living in the Northeastern United States the summer of 2014 will be remembered as one of the most beautiful in recent memory. The days have been mostly sunny and clear with little or no humidity and many nights have been cool enough to forgo air conditioning.

This nearly perfect climate has been reflected in the financial markets as well. Stock prices have gone up and the bond markets have been remarkably calm. Some would say eerily so.

This week’s guest, Great Bond Investor Kathleen Gaffney says it’s been the quietest summer bond market in her 20 plus years of experience managing bond fund.

Is this the proverbial calm before the storm? Have years of low interest rates lulled investors into another false sense of security?

There are risks out there.

The Federal Reserve has said it is winding down its unprecedented monetary easing policies of the last five years. Its massive Treasury bond buying program is ending. Expectations are that it will raise short term interest rates from their current record lows sometime next year as the economy and employment continue to improve. One key indication of how complacent bond investors are about potential market risks is illustrated by this graph which shows how the difference or spreads between yields on risky junk bonds and those on top quality U.S. Treasury bonds have fallen to the lowest levels since before the 2008 financial crisis.

In layman’s terms investors seem to be willing to pay high prices for small rewards on risky debt, providing very little cushion if the market weakens. This week’s guest is worried about risks in the bond market and has adjusted her portfolios accordingly.

She is Kathleen Gaffney, Co-Director of Investment-Grade Fixed Income at Eaton Vance and the lead Portfolio Manager of the Eaton Vance Bond Fund, which she launched in January of 2013. The fund has beaten its Morningstar multi-sector bond category and market benchmark by wide margins over the last year, putting it in the top one percent of its competitors.

Until 2012 Gaffney was Co-Portfolio Manager of the Loomis Sayles Bond Fund with legendary bond investor Dan Fuss where their team was awarded Morningstar’s Fixed Income Fund Manager of the Year.

I began the interview by asking Gaffney to explain the biggest puzzle facing bond investors today – why interest rates have remained stubbornly low.

KATHLEEN GAFFNEY: When you look around the US in particular, I see a pretty strong economy. That’s good news. Rates should be higher. But there are some technicals going on and there are weaker fundamentals around the globe that are impacting US Treasuries.

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