Taking the long view
Looking past the headlines, manager Bill Fries sees value in Pfizer, Freddie Mac, and Goldman.
by Jon Birger, FORTUNE Magazine

(FORTUNE Magazine) - Bill Fries loves unloved stocks, and more often than not they love him back. Fries' $2.4 billion Thornburg Value (Research) fund boasts a three-year annualized return of 18.3%, three percentage points better than that of the fund's Morningstar peer group.

Fries, who lives and works in New Mexico, recently spoke with FORTUNE senior writer Jon Birger about his current crop of out-of-favor stocks.

You have a big position in Pfizer, which has fared surprisingly well this year. Did the market overreact to Pfizer's problems--particularly the competitive threat to Lipitor?

The surprising thing for Lipitor is, it does continue to grow. But that is still the big risk. Because of reimbursement pressures and competition from alternative products that essentially accomplish the same thing at a lower price, there is some vulnerability there. But remember, that's one product. Not everything is perfect, but the valuation [12 times the past 12 months' earnings] is compelling, and you're getting a good dividend yield [3.9%] too. Plus, Pfizer (Research) is spending $7 billion to $8 billion on R&D, and usually when you spend that kind of money, you get something in time.

For a value manager, your portfolio has a pretty healthy dose of tech stocks, including Apple (Research), Juniper (Research), and Level 3 (Research). Is technology now a value play?

It's an area that's been out of favor for about five years; it's still growing, and there's still lots of room for innovation. The earnings have caught up with some of the overvaluation that we had.

You recently sold Bank of America. Are you concerned about banking in general or BofA (Research) in particular?

Our expectations were that they were going to be able to manage the [changing interest-rate environment] pretty well. I don't think they've managed it quite as well as we expected, and I think it's going to continue to be challenging. Short rates are increasing, and we don't know where they're going to top out. Certainly an inverted yield curve, if it persists for an extended period, is not good for financial institutions that make an important part of their revenue from spread banking [borrowing short term and lending long].

You still own Freddie Mac, so you don't think it's in the same boat as the banks.

They're pretty much in a matched portfolio [in terms of the duration of their borrowings vs. their mortgage holdings], although with the regulatory scrutiny they've had, they haven't had the same opportunity to expand as the banks have had. But I think the worst is over from a political standpoint, and maybe even in terms of the perception of what the housing market is going to do.

You've got a big position in Goldman Sachs, which is getting a lot of its profit from trading. Do you wish the firm would reveal more about how it's making this money?

I think maybe if I knew everything about how they make money on the trading side, it might not make me more comfortable. But they do a very good job of hiring very smart people, and they're in a good environment too. You've got more and more interest in commodities, as well as the creation of a lot of new derivative products. And Goldman seems to be the best at facilitating these transactions.

The last time we spoke, you were considering a contrarian bet on homebuilders. Bought any yet?

Not yet--the closest we've come is Freddie Mac. But we're continuing to consider it, primarily based on valuation. On a price/earnings basis, these stocks are selling at half the market multiple. If you believe that the housing cycle will be extended, that the correction we're going through right now will be fairly shallow, and that interest rates will peak in the next year or two, then today's valuations indicate to me that you don't have a lot of risk. Top of page