market folly

Warren Buffett just announced that Todd Combs of hedge fund Castle Point Capital will be joining Berkshire Hathaway (BRK.A) as an investment manager at the end of the year. Buffett and Charlie Munger have been tracking Combs for three years and Combs has been running his hedge fund for the past five years.

We'd hypothesize that in the intermediate term, Combs has been brought on as a replacement for Lou Simpson since Combs is said to take control of part of Berkshire's investment portfolio. Simpson, who manages the investments for Berkshire's subsidiary, GEICO, is set to retire at the end of 2010 (the same time when Combs is set to start). On the notion that Combs could manage all of Berkshire's investments, Buffett said, "He’s got the best chance of being the successor, but if we find the right guy or gal, we’d take that person, too."

In the past, many have questioned Berkshire Hathaway's succession plans and this year there has been much talk of Li Lu joining as an investment manager. However, Buffett has just revealed that Lu will be staying with his own fund. Buffett also emphasized that Berkshire's succession will include one person handling the CEO role, and then multiple individuals could still act as investment managers in a multi-pronged approach.

Why Todd Combs?

This is the question many people are asking as he doesn't seem to be particularly well-known. Here are some potential reasons for the hire:

First, his focus on financials. Given the recent financial crisis, Combs' familiarity with these companies and niche focus on the sector gives him an advantage. In an increasingly complex financial world (derivatives, etc), Combs' expertise will come in handy considering Berkshire owns very large stakes in financials including: Wells Fargo (WFC), American Express (AXP), US Bancorp (USB), Moody's (MCO), and M&T Bank (MTB).

Second, his risk management skills. Buffett apparently described Combs' performance during the crisis as, "pretty good." According to Bloomberg, Castle Point returned +6.2% in 2009, -5.7% in 2008, +19% in 2007, and +13.6% in 2006. In Berkshire's 2007 shareholder letter, Buffett discussed the topic of hiring investment managers. In it, he said that this person needs to be, "genetically programmed to recognize and avoid risk, including those never before encountered." Given this stringent requirement, it's obvious that Buffett and company feel Combs possesses a risk management skill-set that is beyond satisfactory. (And speaking of risk, Buffett recently talked about his worst trade).

Third, his personality blends with Berkshire's culture. According to the New York Times, Buffett said that, "He’s always been enamored with Berkshire. I know he’ll be good, but he’s the right type of guy. We don’t want someone who’s trying to figure out if they can make $100 million with us, or $200 million with the next guy." And, this ties somewhat into the next reason.

Fourth, his age. Given the fact that Berkshire's leading men Warren Buffett, Charlie Munger, and Lou Simpson are getting older, Berkshire wants to bring in younger talent that can add longevity to the company. At the young age of 39, Combs can slide into Berkshire's organization and stay there for many decades, just as Buffett has. And, based on his personality, it appears that Combs is in it for the long haul. Combs received his degree in finance and multinational business operations from Florida State University. He has experience working for Florida's comptroller as well as Progressive Insurance.

Castle Point Capital's Portfolio

Given Berkshire's stamp of approval, it's only appropriate to look under the hood at Todd Combs' hedge fund to see what he's invested in. The following were Castle Point's long equity holdings as of June 30th, 2010 according to their most recent 13F filing with the SEC. The new disclosures reflecting their Q3 portfolio will be released in the middle of November.

Keep in mind that you can see what Berkshire Hathaway and prominent hedge funds are investing in via our newsletter, Hedge Fund Wisdom. But for the time being, here's Castle Point's $279 million in reported assets:

New Positions
CIT Group (CIT)
Broadridge Financial (BR)
Leucadia (LUK)
Hartford Financial (HIG)
PNC Financial (PNC)
Wells Fargo (WFC)
Chatham Lodging (CLDT)

Increased Positions
Blackrock (BLK): Increased by 78.5%
Aercap (AER): Increased by 78%
Mastercard (MA): Increased by 70%
State Street (STT): Increased by 60%
Genworth Financial (GNW): Increased by 53%
Charles Schwab (SCHW): Increased by 43%
Annaly Capital (NLY): Increased by 43%
Western Union (WU): Increased by 36%
US Bancorp (USB): Increased by 27.5%
Chubb (CB): Increased by 27.5%

Reduced Positions
JPMorgan Chase (JPM): Reduced by 39%
MB Financial (MBFI): Reduced by 21.5%
Goldman Sachs (GS): Reduced by 18.4%

Sold Out of Completely
Assurant (AIZ)
Signature Bank (SBNY)
Reinsurance Group America (RGA)
TD Ameritrade (AMTD)
First Citizens Bancshares (FCNCA)
Two Harbors Investment (TWO)

Top 25 Positions

1. US Bancorp (USB): 8.2% of reported assets
2. Mastercard (MA): 7.3%
3. State Street (STT): 6.8%
4. Western Union (WU): 6.5%
5. CME Group (CME): 5.1%
6. Renaissance Re (RNR): 5.1%
7. Pennymac Mortgage (PMAC): 4.6%
8. Chubb (CB): 4.6%
9. Starwood Property Trust (STWD): 4.5%
10. Annaly Capital Management (NLY): 4.4%
11. CIT Group (CIT): 4.3%
12. Progressive (PGR): 4.1%
13. JPMorgan Chase (JPM): 4.0%
14. Goldman Sachs (GS): 3.8%
15. Charles Schwab (SCHW): 3.6%
16. Broadridge Financial (BR): 3.5%
17. Aercap Holdings (AER): 3.4%
18. MB Financial (MBFI): 3.4%
19. Genworth Financial (GNW): 2.9%
20. United America Indemnity: 1.9%
21. Blackrock (BLK): 1.8%
22. Leucadia National (LUK): 1.8%
23. Hartford Financial (HIG): 1.6%
24. PNC Financial (PNC): 0.8%
25. First Financial (FFBC): 0.8%

As you can see, Castle Point's portfolio is very financial-laden. And, they share the same large position in US Bancorp (USB) as Berkshire Hathaway. We'd also point out Combs' preference for payment processors & money transfer services such as Mastercard (MA) and Western Union (WU). These types of companies have been long favored by hedge funds we track. The last takeaway here is that he runs a somewhat concentrated portfolio as well.

So, at least one of Berkshire's future investment managers seems to be in place. Li Lu appears to be out of the running. The question that remains is, will there be more managers added? Only time will tell. You can view Buffett's past comments on succession plans here as well as a video that examines potential Berkshire successors here.

For more on Berkshire's new hire, Carol Loomis at Fortune penned an article here.