David Einhorn And Greenlight Capital's Fall From Grace
It's whale watching season. That means that famous, successful hedge fund managers must report their holdings to the SEC and send out their quarterly letters to investors. I have found a number of successful investment ideas by looking at moves made by the big boys of the hedge fund industry over the years. I do not blindly follow fund managers into new positions, but fund managers often share compelling write-ups on stocks in their letters to investors that persuades me to initiate a new position.
ValueWalk had the most complete look at David Einhorn's most recent letter to investors. I need to preface my thoughts on Greenlight Capital's most recent letter to investors by saying that I have the utmost respect for Mr. Einhorn. In fact, for many years he was one of my favorite hedge fund investors to follow. His 2010 book Fooling Some of the People All of the Time remains one of my favorite books of all time.
Having said that, Einhorn really seems to have lost his way. I do not have the exact performance statistics for Greelight Capital, but I'd be willing to bet decent money that it has significantly underperformed over the past several years. Einhorn seems to have gotten away from the special situation-esque type of investments that made him and his fun so successful for so many years. The style-drift at Greenlight Capital is painfully obvious. Quarter after quarter a massive position in gold has been one of Greenlight's largest holdings. Hedge fund managers who invest in gold have succumbed to the conspiracy theorist gold bug disease that year after year tricks investors into believing that fiat currencies are a joke and that hyper-inflation is right around the corner. I've been a public bear on gold for a number of years now.
I have the same opinion of gold as a massive holding in hedge funds as I have of funds that have 50% cash positions. If you're a fund manager who has a massive percentage of their portfolio in gold or cash, you had better either be right that a massive stock market crash is coming OR you had better absolutely crush the S&P 500 with the money that you actually do have invested. Anyone can purchase gold or hold cash on their own, investors don't need to pay hedge fund managers 2 and 20 to buy gold or hold cash for them.
As an individual investor who is a big fan of reading other investors' thoughts on investing and the market I found Greenlight Capital's recent quarterly letter to be extremely disappointing. It starts off by bashing the stock of Netflix $NFLX. The valuations of stocks often get completely out of whack, leading investors to believe that they can make a lot of money by shorting the stock of overvalued companies. In the long run, the purchase of overvalued stocks typically end poorly for investors and shorting might be profitable. The problem with shorting them is as the old adage goes..."The market can remain irrational for a lot longer than you can remain solvent." I would never, ever buy Netflix stock...it does not tie in with my value investing principles, but I would never short it either. I certainly hope that Einhorn isn't short Netflix.
Probably the worst part of the recent Greenlight quarterly letter is when Einhorn shares his personal opinion about the most recent season of the Netflix original series House of Cards.
Specifically Einhorn said “Further, we had just finished watching season three of NFLX’s leading original content show, House of Cards, which appeared to be scripted to compete with Ambien.” One's personal opinion on a television show has to be one of the weakest arguments for shorting a stock that I've ever heard.
The Greenlight letter goes on to whine about the current political situation in Greece. Anyone who couldn't see that the Greek financial situation was a ticking time bomb waiting to explode doesn't deserve to be investing others' money. My most read article that I have written since I switched my blog over to this new Special Situation Investing Community was titled "Greece is doomed. Avoid investing there" When the national past time of a country is avoiding paying taxes, a huge percentage of the population works for the public sector and retires on pension at a very early age it doesn't take a rocket scientist to figure out that there is going to eventually be a big problem.
The recent Geenlight letter contains very little color on new investments that the fund has made, going as far as to state "It was a challenging quarter to find new long ideas." Granted, I follow special situation investing more closely today than I ever have in my life, but there has been more spinoffs and other special situation investing opportunities recently than I have ever seen in my life. Yes, the multi-year market rally that we have experienced coming out of the Great Recession (TM) may be getting a little long in he tooth, but I believe that there remains a huge number of investment opportunities out there today that will outperform the major market indices over the next several years.
I would be remiss without talking about the most newsworthy of Greenlight's holdings Micron Technology $MU. Micron's stock is up nearly 10% today after word broke yesterday that Tsinghua Unigroup is considering making a takeover bid for it. China's Tsinghua prepares $23 billion bid for U.S. chip maker Micron.
For the merger arb fans out here, of which I certainly am not one, let me say that I personally would be absolutely shocked is the current buyout offer of Micron was accepted. Even if it is, I would be even more shocked if regulators allowed a state-backed Chinese company to buy Micron. If one has owned Micron stock for the past year and they are bullish on its prospects, why on Earth would they sell out at the rumored offer of $21/share? $MU was trading at nearly $35/share a few short months ago.
The Greenlight quarterly letter also goes briefly into the fund's investment in CONSOL Energy $CNX and its newly spun off MLP CNX Coal Resources $CNXC. A lot of money can be made by investors who time the bottom of the commodity market properly, however it is very, very difficult to do so and many a fortune has been lost in the process or trying to. Again to me an investment in coal represents at the very least slight style-drift for Greenlight. It's not as if we're trying to time the bottom of a viable commodity here either. It's no secret that coal as a source of energy is slowly being phased out. Bloomberg published an outstanding article on this very subject yesterday, the subtitle of which is one of the best that I have read in a long time: Coal is a sick dragon, and the bond market wields a heavy sword.
The bottom line is that coal is in big trouble and I personally do not want any part of trying to figure out when or if it will hit bottom.
The one investment in the Greenlight letter that I do find interesting isn't even one that was elaborated on other than to say that the fund increased the size of its position by 130% to 6.8 million shares is its position in Chicago Bridge and Iron $CBI. Trading at less than 10 times current and likely forward earnings, $CBI is indeed super cheap at this level. I owned a decent position in it for a while that I added to after the selloff in oil caused what I believed is an overreaction in the stock. I have since liquidated that position to purchase stakes in several other companies that I believe have more immediate catalysts that will cause their shares to rise sooner than $CBI will. Chicago Bridge and Iron has the added problem of major cost overruns at a nuclear plant that it is building that have the potential to hurt it going forward.
Regardless of how its bets turned out, it's easy to criticize any investment that didn't work out after the fact, you can see a pattern developing in Greenlight's portfolio...gold, commodities, Greece...Greenlight's portfolio contains a number of macroeconomic bets that do not jibe with what made Greenlight successful in the past. I think that part of the problem is that Einhorn is a victim of his own success to a certain degree. The larger funds get, the more difficult time they have making the kinds of bets that made them successful in the past. For every fund manager who has been able to remain super-successful after their funds ballooned in size, like Warren Buffett is one or even recently even Bill Ackman, there's multiple ones who have been unable to maintain their successful records.
The purpose of this letter was not to attempt to lift myself up by tearing someone else down. I have been a huge fan of David Einhorn for many years. It pains me to see what I believe is style-drift having such a hugely negative impact upon the returns of his fund. I'm not cocky enough to believe that Mr. Einhorn will ever actually read this article, but if he does I would urge him to get back to the type of investments that made him and Greenlight Capital successful when he first created it and to ease off the macro bets on things like gold, commodities and Greece.
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