News Analysis date published New: 
Tuesday, February 21, 2012 - 08:30
New Date created: 
Tuesday, February 21, 2012 - 08:44
New Date last updated: 
Tuesday, February 21, 2012 - 08:30

The Man Who Made $15 Billion from the Housing Bubble Just Bought These 5 Stocks

Tuesday, February 21, 2012 8:30 AM

Prior to the 2007 meltdown of the subprime lending market, hedge-fund manager John Paulson was a name with a solid reputation for performance, but not necessarily put on the same pedestal with the likes of George Soros or Warren Buffett. The primary fund he manages, the Advantage Fund, has averaged a 15.4% annual return since its inception in 1994. That's solid, but not earth-shattering.

After going against the grain and betting against the housing market in 2007, though -- and generating a $15 billion profit (a nearly 600% return) for his fund's investors as a result -- the 56-year-old Harvard MBA grad established himself as one of the elites among Wall Street's stock-pickers.

The money soon followed, as investors warmed up to the idea of not following the rest of the trading crowd. Paulson now manages $29 billion in assets, making him the head of the world's third-largest family of hedge funds.

Though steering such a vast amount of money makes it tough to step into off-the-radar opportunities and acquisition targets (his favorite), Paulson still has a penchant for owning stocks the rest of the market's key players aren't really considering.

The additions he made to the portfolio in the fourth quarter of 2011 are no different. While they may be surprising, his track record still makes these names worth considering yourself. Here's a look at some of Mr. Paulson's fourth-quarter purchases that you may also want to consider.

1. United Rentals (NYSE: URI)
An equipment rental business may not be the most riveting idea out there, but United Rentals may well have the makings of a buyout target.

Revenue for the $2.6 billion company is improving following the 2010 lull, and the company swung back to a profit in the middle of last year. United Rentals also has $500 million worth of cash and near-term receivables on the balance sheet. It's no wonder Paulson took on a new position with the stock -- to the tune of $20.8 million -- during the fourth-quarter.

No, United Rentals hasn't exactly been making rounds on the rumor mill as an acquisition target. Those shares are now worth 62% more than what Paulson paid for them, though, so he's obviously honing in on something.

2. Delphi Automotive (NYSE: DLPH)
This $10 billion auto parts manufacturer was Paulson's biggest pick-up last quarter. He added 51 million shares to his holdings, or $1.1 billion worth, making it his single-biggest holding (Delphi now comprises 8% of the entire portfolio). Though only a few months old in its current form, Delphi's forward-looking price-to-earnings (P/E) ratio of 7.3 is appetizing.

3. Medco Health Solutions (NYSE: MHS)
The tripling of the number of shares of Medco Health the fund owns still only got the position up to $126 million, which is a mere 0.5% of the entire portfolio. Yet, some say Medco Health was also one of the best decisions he made last quarter.

The health care management outfit is a reliable revenue producer and profit generator, even if earnings growth has slowed in the past 12 months. That's largely why Express Scripts (Nasdaq: ESRX) wanted to buy it, per the announcement in the middle of last quarter.

Did Paulson, who tends to play M&A and special situations, have a gut feeling the acquisition was coming? Or, maybe he sensed it when rumors of other mergers and buyouts in the space (like the Omnicare (NYSE: OCR) purchase of PharMerica) started to surface. Actually, it's not clear when he actually scooped up his Medco shares, but with an average entry of $53.41 compared with the current price of $63.74, it is clear his timing was spot-on.

4. El Paso Corp. (NYSE: EP)
The 4 million shares Paulson picked up at around $24 per share only translates into $96 million worth of the $21 billion natural gas utility. Yet, his entire purchase was new.

What's interesting is that, though off the beaten path, Paulson wasn't the only hedge fund to step into El Paso. Farallon Capital Management, with Thomas Steyer at the helm, also took on a big stake. Though Paulson has not indicated what his thought process is with El Paso Corp., we can presume his interest is the same as Steyer's -- it's a bet on an acquisition.

5. Goodrich Corp. (NYSE: GR)
Though it's a distant second compared to Delphi, aeronautical contractor Goodrich is a favorite for Paulson's fund. It still only makes up 1.3% of the entire portfolio, although it should be noted the bulk of that allocation was mustered in the fourth quarter, when 927,650 shares were added to the 502,000 shares already held.

Risks to Consider: Even the most prolific of fund managers have bad years, and Paulson's 2011 was pretty bad. His flagship Advantage Plus Fund lost roughly half its value last year. Is the worst over for the legend? You never really know until after the fact, but...

Action to take -->
Sometimes the path less traveled is also the most fruitful path. Despite a lousy 2011, John Paulson has the historic numbers to prove he's worth following. In fact, his weak 2011 may mean 2012 is the time to really start embracing his stock ideas, as the law of averages says he's due for strong performance. Just don't fall into the same trap he may have fallen into last year and make a trade predominantly on the expectation of a buyout with little regard for the fact you'll actually own the company if it isn't acquired.

To that end, El Paso and Goodrich have already priced in buyouts and may not have much left to give in terms of upside. United Rentals, Delphi and Medco, however, are attractive even if they aren't acquired, and are definitely worth further research.

James Brumley does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.