Bruce Berkowitz’s Big Bet On AIG

This is part 2 of HypeZero’s 10 best investment ideas from the best hedge fund managers. These 10 ideas are generated by the HypeZero proprietary algorithm. The algorithm has been back tested since 2004 and has returned over 170% cumulatively. Here is the third investment idea:

American International Group, Inc. (AIG: Nasdaq) ($33.30, September 10, 2012)

After what happened to the AIG during the financial crisis, a lot of investors are afraid to touch AIG. However, that can’t be said for Bruce Berkowitz of Fairholme Capital Management. Over 40% of Fairholme’s portfolio consists of AIG and AIG warrants.

Bruce Berkowitz and Whitney Tilson (T2 Partners) believe that AIG trades at a significant discount to its intrinsic value. They believe that investors are undervaluing the fact that:

  • Its main core insurance businesses (Chartis and SunAmerica) are global, well managed leaders.
  • Their balance sheet is no longer risky like in the past.
  • Its stock is trading at almost half its tangible book value. Both believe that it should be worth at least 1x the book value.
  • As the government exits out of its ownership of AIG and as AIG sells its non core assets and buys back shares, the true value will shine through.
Looking into the details, AIG has sold off a lot of their non core assets recently and bought back shares with the proceeds. As of today, AIG has to following non core assets that it would like to get rid of:

  • Holds over a $5 billion stake in AIA Group. It has sold over $8 billion worth of AIA shares already this year.
  • International Lease Finance Corporation (ILFC), which it was trying to IPO for $6 to $8 billion.
  • United Guaranty Corporation (UGC), a mortgage guaranty business, which is valued around $1 to $2 billion.
AIG has bought back $8 billion worth of shares using proceeds from the sale of its non core assets. And in September, they just committed another $5 billion to purchase shares from the government as they are reducing their stake in AIG from 53% to just 20%. It will not be a surprise if, by the end of the year, they spend close to $20 billion in share purchases. This will not only increase earnings per share, but also increase book value per share. In addition to these non core assets, AIG has over $16 billion in deferred tax assets, which means they will not pay taxes for many years to come.

After all the non core assets are sold, AIG will be left with their main core insurance business selling for less than half book value. Once this happens and the government sells its partial stake, Berkowitz and Tilon believe that investors will truly understand the true value of AIG.

Disclosure: I do not own shares of AIG, but I may initiate a position within the next week.

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