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Were Hedge Funds Right About Souring On First American Financial Corp (FAF)?

At the end of February we announced the arrival of the first US recession since 2009 and we predicted that the market will decline by at least 20% in (see why hell is coming). In these volatile markets we scrutinize hedge fund filings to get a reading on which direction each stock might be going. In this article, we will take a closer look at hedge fund sentiment towards First American Financial Corp (NYSE:FAF) at the end of the first quarter and determine whether the smart money was really smart about this stock.

First American Financial Corp (NYSE:FAF) has seen a decrease in hedge fund interest of late. Our calculations also showed that FAF isn’t among the 30 most popular stocks among hedge funds (click for Q1 rankings and see the video for a quick look at the top 5 stocks).

Video: Watch our video about the top 5 most popular hedge fund stocks.

Why do we pay any attention at all to hedge fund sentiment? Our research has shown that a select group of hedge fund holdings outperformed the S&P 500 ETFs by 58 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that’ll significantly underperform the market. We have been tracking and sharing the list of these stocks since February 2017 and they lost 36% through May 18th. That’s why we believe hedge fund sentiment is an extremely useful indicator that investors should pay attention to.

FISHER ASSET MANAGEMENT

Ken Fisher of Fisher Asset Management

At Insider Monkey we scour multiple sources to uncover the next great investment idea. For example, this trader claims to score lucrative profits by utilizing a “weekend trading strategy”, so we look into his strategy’s picks. Federal Reserve has been creating trillions of dollars electronically to keep the interest rates near zero. We believe this will lead to inflation and boost gold prices. So, we are checking out this junior gold mining stock. We read hedge fund investor letters and listen to stock pitches at hedge fund conferences. We recently recommended several stocks partly inspired by legendary Bill Miller’s investor letter. Our best call in 2020 was shorting the market when the S&P 500 was trading at 3150 in February after realizing the coronavirus pandemic’s significance before most investors. Now let’s check out the latest hedge fund action surrounding First American Financial Corp (NYSE:FAF).

How have hedgies been trading First American Financial Corp (NYSE:FAF)?

Heading into the second quarter of 2020, a total of 40 of the hedge funds tracked by Insider Monkey were long this stock, a change of -5% from the fourth quarter of 2019. By comparison, 30 hedge funds held shares or bullish call options in FAF a year ago. With hedge funds’ capital changing hands, there exists a select group of key hedge fund managers who were boosting their holdings meaningfully (or already accumulated large positions).

More specifically, Ariel Investments was the largest shareholder of First American Financial Corp (NYSE:FAF), with a stake worth $136.8 million reported as of the end of September. Trailing Ariel Investments was AQR Capital Management, which amassed a stake valued at $76.1 million. Citadel Investment Group, Fisher Asset Management, and Two Sigma Advisors were also very fond of the stock, becoming one of the largest hedge fund holders of the company. In terms of the portfolio weights assigned to each position Ariel Investments allocated the biggest weight to First American Financial Corp (NYSE:FAF), around 2.4% of its 13F portfolio. MIG Capital is also relatively very bullish on the stock, dishing out 1.17 percent of its 13F equity portfolio to FAF.

Seeing as First American Financial Corp (NYSE:FAF) has experienced bearish sentiment from hedge fund managers, it’s easy to see that there exists a select few money managers who sold off their full holdings heading into Q4. It’s worth mentioning that Clint Carlson’s Carlson Capital said goodbye to the biggest stake of the 750 funds monitored by Insider Monkey, comprising an estimated $77 million in stock. Joe DiMenna’s fund, ZWEIG DIMENNA PARTNERS, also cut its stock, about $15.9 million worth. These transactions are interesting, as total hedge fund interest was cut by 2 funds heading into Q4.

Let’s go over hedge fund activity in other stocks similar to First American Financial Corp (NYSE:FAF). These stocks are PG&E Corporation (NYSE:PCG), Nuance Communications Inc. (NASDAQ:NUAN), AECOM (NYSE:ACM), and Paylocity Holding Corp (NASDAQ:PCTY). This group of stocks’ market caps match FAF’s market cap.

Ticker No of HFs with positions Total Value of HF Positions (x1000) Change in HF Position
PCG 48 1984927 -2
NUAN 42 764864 3
ACM 39 670829 3
PCTY 33 409592 7
Average 40.5 957553 2.75

View table here if you experience formatting issues.

As you can see these stocks had an average of 40.5 hedge funds with bullish positions and the average amount invested in these stocks was $958 million. That figure was $526 million in FAF’s case. PG&E Corporation (NYSE:PCG) is the most popular stock in this table. On the other hand Paylocity Holding Corp (NASDAQ:PCTY) is the least popular one with only 33 bullish hedge fund positions. First American Financial Corp (NYSE:FAF) is not the least popular stock in this group but hedge fund interest is still below average. This is a slightly negative signal and we’d rather spend our time researching stocks that hedge funds are piling on. Our calculations showed that top 10 most popular stocks among hedge funds returned 41.4% in 2019 and outperformed the S&P 500 ETF (SPY) by 10.1 percentage points. These stocks gained 12.3% in 2020 through June 30th and surpassed the market by 15.5 percentage points. Unfortunately FAF wasn’t nearly as popular as these 10 stocks (hedge fund sentiment was quite bearish); FAF investors were disappointed as the stock returned 14.2% during the second quarter and underperformed the market. If you are interested in investing in large cap stocks with huge upside potential, you should check out the top 10 most popular stocks among hedge funds as most of these stocks already outperformed the market in 2020.

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Disclosure: None. This article was originally published at Insider Monkey.