Friday, August 6, 2010

Zack Miller's Tradestream Your Way to Profits: Book Review

If you're looking for another book on the same old topic of stockpicking, then this isn't for you. However, if you're searching for a new-age approach to investing that incorporates the use of copious online resources (including social media), then you've found the right book. Readers of Market Folly should find this work of particular interest given its focus on mimicking top hedge fund managers, a topic we cover on a daily basis. Today we're taking a look at Zack Miller's Tradestream Your Way to Profits. Miller is Managing Director at Lighthouse Capital Ltd and received an MBA from the Kellogg School of Management at Northwestern University and a BA in economics from Harvard.

For this book, Miller tapped his expertise in combining finance and the world wide web. His experience in this regard stems from his time as an early stage hire at Seeking Alpha where he helped launch 'Finance 2.0', a mash-up of Twitter and Facebook for the financial world. Simply put, Miller's book aims at teaching you how to build a profitable portfolio utilizing resources such as streaming information, data aggregation, guru tips, blogs, and social media. He applies his prowess in asset management, equity research, and internet technologies to help you craft a portfolio based on eight investment approaches & resources. Among many topics, Tradestream Your Way to Profits encompasses:

- Insight from financial blogs & aggregators: The largest free investment research organization
- Piggybacking the pros: Following top hedge fund managers
- Stock screens: Utilizing formulas the world's best investors use
- Stockpicking communities: Finding the next Warren Buffett

While we can attest to Miller's basic approach, we're a bit biased here because a) is a financial blog, b) our daily focus is on tracking hedge funds, c) we're a part of online financial communities like StockTwits and Twitter, and d) we use copious amounts of resources online for market research on a daily basis.

That said, Miller provides ample insight as to how to best utilize these sites. The tools are there, but many people aren't taking full advantage of them. Tradestream Your Way to Profits outlines a plethora of online resources for use including hedge fund replicators like Alphaclone, something we've highlighted numerous times. He also highlights online communities like StockTwits, buyside networking and professional sites like SumZero, crowdsourcing platforms like Wikinvest, streaming data sites like SkyGrid, platforms for discovering new managers such as kaChing and Covestor, aggregators like Seeking Alpha and many more resources.

Given its focus on piggyback investing and tracking hedge funds, Chapter 2 of Tradestream Your Way to Profits was our favorite. This chapter concludes that hedge funds don't derive their performance from just one stock, but rather the collective sum of their top 20 holdings or so. Portfolio performance can be garnered simply by tracking and mimicking these expert stockpickers. Miller teaches you how to track these funds, something MarketFolly strives to do for you on a daily basis. He also hones in on Alphaclone, the ultimate hedge fund replicator we use to backtest strategies, clone hedge fund portfolios, and discover new managers.

Also of particular interest is Chapter 5 which deals with investment screening. The book simplistically outlines how to screen for stocks that fit Joel Greenblatt's magic formula, Ken Fisher's super stocks, and Peter Lynch's criterion, among other things. Miller's work also teaches you how to track a company's insider moves with ease. Collectively combined, all of these tools provide investors with the necessary information to make pertinent investment decisions. Tradestream showcases the wealth of resources available online, how to use them, and what to do with the information.

Novice investor? This book is a great place for you to start. What better way to learn the ropes than by watching and mimicking the pros. Intermediate or advanced investor? There's guaranteed to be plenty of new resources and tools for you to learn about that will highly complement your regular research regimen. There's hundreds of different books out there that train you how to pick stocks. This book does not do that. Instead, Tradestream Your Way to Profits teaches you how to incorporate new online tools, methods of research, and investment approaches in order to construct a more profitable portfolio.


For more insightful books on markets and investing, be sure to check out our other recent reviews of Christine Richard's Confidence Game, Steven Drobny's The Invisible Hands: Hedge Funds Off the Record, and Scott Patterson's The Quants.

What We're Reading ~ 8/6/10

A great new site for comparing stock brokerages [tradeWISER]

Hedge fund billionaires pledge to give fortune away [FINalternatives]

A Hedge Fund Tale of Reach and Grasp [Barton Biggs]

A great interview with Dan Ariely [Simoleon Sense]

When traders find themselves in 'justification mode' [The Kirk Report]

Phil Falcone's hedge fund targets insurance buy [Clusterstock]

Amazing fibonacci retracement [Fund My Mutual Fund]

An interview with Zeke Ashton of Centaur Capital Partners [Street Capitalist]

Nelson Peltz files a 13D on Family Dollar Stores (FDO) [Greenbackd]

A closer look at hedge fund ETFs [ETFdb]

Ten stock market myths that just won't die [WSJ]

And some myths about stockmarket myths that won't die either [Ultimi Barbarorum]

Harbinger Capital's wireless plan relies on hedge fund assets [Reuters]

Warren Buffett's Mr. Fix-It: David Sokol [Fortune]

How Fairholme's Berkowitz is breaking Wall Street's rules [WSJ]

Big investors fear deflation [WSJ]

Och Ziff's 23% return lures investors [Bloomberg]

Thursday, August 5, 2010

Broyhill's Affinity Hedge Fund: Betting on Deflation (Q2 Letter)

Broyhill started as a family office to manage Paul H. Broyhill's assets and has since evolved into a multifaceted investment firm. Their Affinity hedge fund was up 4.6% for June and was up 6.6% for the year at that time. We've touched on how the majority of hedge funds had a very rough second quarter performance wise. That said, not every hedgie out there as been battered down and Broyhill is evidence of that. So, how did they sidestep the volatility, you ask? They called in an old fashioned contrarian prescription to combat the market's sickness.

Their hedge fund has put on a contrarian bet on long-term treasuries (outlined via their ten reasons to buy bonds). Yet with a lack of inflationary signals as of late, maybe their bet isn't so contrarian after all. While hedge funds in general have had below average net long exposure, it was still evident that many funds were taking on more risk than they realized when May and June came around. The fact that most asset classes seemed to move in lockstep didn't help things either as everything seemed correlated to the downside. Everything but treasuries, that is.

Believe it or not, Broyhill had actually been short treasuries up until about March of this year. They then went long essentially as a hedge against deflation. Broyhill isn't the only one worried about deflation either. We just detailed how David Gerstenhaber's global macro hedge fund Argonaut Capital thinks deflation is the greater risk.

In recent commentary, Broyhill has reminded us that legendary hedge fund manager Michael Steinhardt coined the term 'variant perception' in which he focused on contrarian analysis and wagers by taking positions opposite those of consensus opinion. East Coast Asset Management recently highlighted the consensus versus variant perceptions in today's market as well. Broyhill has done the same as their bet on treasuries represents their highest conviction variant perception.

Christopher Pavese, the fund's Chief Investment Officer writes,

"Quite simply, we believe investors are worrying about the wrong type of 'flation' here and now. In the near term, the ongoing contraction in private sector credit - estimated by the OECD to reach 7% of the developed world's GDP or $3 trillion - combined with the threat of fresh credit strains ahead, should more than offset the long-term inflationary impact of increased government spending. The major point here is that most strategists today remain adamant bond bears, and after missing the call at four percent, it is near impossible for them to recommend buying treasuries yielding three percent!! We welcome Wall Street's hatred of government bonds and expect to hold our position at least until the consensus capitulates .... which looks to be a ways off given today's sentiment."

Here are the Affinity hedge fund's top ten longs:

1. iShares Barclays 20+ Year Treasury (TLT): 11.1% of assets
2. Vodafone (VOD): 3.2%
3. Wal-Mart (WMT): 3.2%
4. Kraft Foods (KFT): 3.1%
5. Humana (HUM): 3.0%
6. Nintendo (NTDOY): 2.9%
7. Market Vector Gold Miners (GDX): 2.8%
8. iShares Silver Trust (SLV): 2.8%
9. PowerShares US Dollar Index (UUP): 2.7%
10. Republic Airways (RJET): 2.7%

Keep in mind that we've previously detailed Broyhill's write-up of the bullish case for St. Joe Company (JOE) as well. So in addition to their hefty treasury position, it's clear that Broyhill has two other portfolio themes in play: high quality large caps, as well as precious metals exposure. For the latter, they've chosen to play silver and a bundle of gold miners. For the former, they've picked Vodafone (VOD), one of David Einhorn and hedge fund Greenlight Capital's largest holdings. Additionally, we've seen many hedgies favor Kraft (KFT), including Bill Ackman's Pershing Square.

Although they do not disclose specific positions, Broyhill's Affinity hedge fund has revealed its top sector short positions, including:

Education (5.2%) of assets
Global Financials (2.9%)
Business Equipment (2.9%)
Euro (2.7%)
Automotive (2.5%)
Appliances (1.9%)
Employment Services (1.8%)
Credit Rating Agencies (1.7%)
Global Resources (1.7%)
Recreational Vehicles (1.2%)

We'll continue to keep an eye on this hedge fund's successful wager on treasuries and embedded below is Broyhill's second quarter letter:

You can download a .pdf copy here.

For more on this deflationary wager, head to Broyhill's ten reasons to buy bonds as well as the thesis behind their bet on long-term treasuries. Additionally, more research from the hedge fund can be found in their bullish case for St. Joe (JOE).

Warren Buffett's Partnership Letters: A Compilation (1957-1970)

Found courtesy of AboveAverageOdds, we wanted to share this excellent resource: A full compilation of the Warren Buffett Partnership letters from 1957 to 1970. All of the individual letters are combined into one cohesive document for your perusal.

If you're new to investing, this is one of the first things successful investors will tell you to read. Before taking over Berkshire Hathaway (BRK.A), Warren Buffett managed his Buffett Partnership as an investment fund and these letters reveal his thought process. Aside from The Intelligent Investor, there is no better resource than these partnership letters to learn the basics of investing like the Oracle of Omaha himself.

Embedded below is the full compilation of The Buffett Partnership Letters:

You can download a .pdf copy here.

To learn how to invest like him, head to Warren Buffett's recommended reading list. And to learn more about the legendary investor himself, head to a multi-decade look at Buffett's career.

Biglari Holdings Reveals Sonic (SONC) Position

Sardar Biglari's investment firm Biglari Holdings (BH) has disclosed a new position in Sonic Corp (SONC). Per a 13G filed with the SEC, Biglari Holdings now shows a 5.9% stake in the Sonic restaurant chain with 3,623,668 shares due to portfolio activity on July 28th. Biglari has extensive experience in the fast food industry because Biglari Holdings is actually the new holding company name for Steak 'N Shake.

Back on June 28th, 2010 BH also disclosed a 6.0% ownership stake in Red Robin Gourmet Burgers (RRGB) with 941,189 shares. Burgers apparently, are Biglari's specialty. And as a side note, we also highlighted how Patrick McCoarmack's hedge fund Tiger Consumer Management took a stake in Red Robin as well.

Earlier in the year, many pondered whether Steak 'N Shake was the next Berkshire Hathaway. Sardar Biglari has long been an admirer of Warren Buffett's and appears to be trying to follow in his footsteps. In fact, Biglari had taken a similar path as Sears Holdings chairman Eddie Lampert as he gained control of the company and inserted himself at the head of the company. Biglari then essentially merged his hedge fund (The Lion Fund) into Steak 'N Shake and created Biglari Holdings, coincidentally (or not) the same initials as Berkshire Hathaway.

Further evidencing his experience in the fast food business, Steak 'N Shake acquired Western Sizzlin under Biglari's watch. Since then, Biglari has transformed the fast food chain into a Berkshire Hathaway-esque holding company. He has even performed a 1-for-20 reverse stock split in order to garner a higher stock price in an effort to thwart off short-term traders. The comparisons go on and on, but there was one recent maneuver that was distinctly non-Buffettesque. Many notable financial blogs have highlighted Biglari's pay package and have blasted him for it.

While the manager has attempted to buy an insurance company to provide the necessary float to make investments, he has yet to fully succeed. We'll continue to monitor the developments regarding this potential mini-Buffett in the making. He certainly has a long way to go.

For more on the real Warren Buffett, be sure to head to Berkshire Hathaway's portfolio activity, as well as Warren Buffett's recommended reading list.

Wednesday, August 4, 2010

Send Us Your Hedge Fund Letters

Since second quarter hedge fund letters have been sent out, we're putting out a call to our readers to contribute. This site has become largely what it is today due to the generosity of readers willing to share resources. So today we have one simple request: send us hedge fund letters you have access to!

Large or small fund, it does not matter; we welcome all resources. Rest assured that every contribution is treated as anonymous and confidential. We respect your privacy and take it very seriously. Don't worry if the letters have watermarks or unique identifiers either, we can easily remove those. Remember, your confidentiality is our top priority. Thank you for sharing with the Market Folly community! Click here to send us an email.

Here's some examples of the great hedge fund commentary we've been able to share:

- Perry Capital's Q2 letter

- Argonaut Capital's global macro outlook

- Corsair Capital's latest investment ideas

- Oaktree Capital's letter from Howard Marks

- T2 Partners' investment presentation

- Greenlight Capital's Q2 letter

- East Coast Asset Management's latest thoughts

- Grey Owl Capital's Q2 letter

Investors Favor 'Mega' Hedge Funds: Performance & Exposure Level Update

Bank of America Merrill Lynch's second quarter hedge fund report has come up with some interesting conclusions based on recent activity. While hedge funds had a brutal May and June performance wise, July was a little bit more friendly. Year to date, distressed credit is the best performing strategy, gaining 3.56% with convertible arbitrage coming in second, up 2.41%. While hedge fund performance was slightly down in the first quarter, the second quarter was much worse as hedgies finished Q2 down 2.5%.

In terms of asset flows for the second quarter, hedge funds saw $9.5 billion in net inflows, and interestingly enough $7.9 billion of that flowed into relative value strategies. Additionally, the fact that the majority of capital went to 'mega' hedge funds should come as no surprise as investors love the big names. Over 92% of capital inflows went into funds with greater than $5 billion in assets under management. According to HFR Industry Reports, these mega funds now manage around 60% of the capital in the industry.

Turning to recent exposure levels, long/short funds have well below historical exposure as they are now only 21% net long equities. It has been this way practically all of 2010 as they continue to reduce exposure. Two weeks ago, these funds were 30% net long and historically, funds have been net long 35-40%. Earlier this morning we saw that Dan Loeb's hedge fund was only slightly out of this range at almost 32% net long.

Bank of America Merrill Lynch's hedge fund monitor report recently detailed the fact that long/short equity hedge funds reduced market exposure while market neutral funds increased exposure. These two fund strategies have been dancing conversely of one another in equities as market neutral tend to do the exact opposite of l/s funds. This is a theme we've seen play out over the past few months.

Regarding other recent notable asset class moves, BofA highlights that numerous large speculators sold positions in gold and silver. That much was obviously evident given the big moves we saw in those markets over the past few weeks. In crude oil, funds were definitely buying and that has continued into this week. For a closer look at how 'black gold' is trading, head to some technical analysis of crude oil.

In currencies, hedgies covered their shorts in the euro and held their long position in the US dollar. Turning to interest rates, many hedge funds added to their shorts of the 30 year treasuries and 10 year treasuries. Embedded below is Bank of America Merrill Lynch's hedge fund monitor report:

You can download a .pdf copy here.

To follow specific investment manager activity, we point you toward our hedge fund portfolio tracking series. Additionally, we've covered numerous hedge fund letters worth reading as well.

Hedge Fund Tiger Global Buys LinkedIn Stake, Adds to Portfolio of Web Companies

Late last week, Chase Coleman's hedge fund Tiger Global took a 1% stake in LinkedIn, a professional networking site for $20 million. This is a private investment and was made with existing shareholders. Last week we also highlighted how Tiger Global bought a stake in Russian travel portal Given this recent wave of private investment activity, we wanted to closely examine the themes at play here.

As we mentioned last week, part of Coleman's portfolio allocation allows him to invest in private companies given his roots as a technology analyst and his focus on the space. Tiger Global was seeded by legendary fund manager Julian Robertson. Prior to being seeded, Coleman was a technology analyst at Robertson's Tiger Management. It seems Coleman and his team have identified a few secular themes in the online space judging by their investments. Loosely speaking, it appears as though he is targeting two themes: 1. Online search/portals for travel and 2. Social media/networking.

Firstly, he is focused on portals and online travel, by no means a new business. Companies such as Priceline (PCLN), Expedia (EXPE), and Orbitz (OWW) are all publicly traded and numerous hedge funds have held positions in these stocks off and on. The fact that these companies are all publicly traded also could provide a hint as to part of Coleman's motivation here. The intriguing aspect of all this is that the private companies he's investing in more than likely will be strong candidates for IPO's. He's essentially getting in on the ground floor (or as close as he can).

Tiger has taken this investment one step further by focusing on emerging markets. While Coleman has stakes in some US based companies, he has also purchased stakes in the following: (a Russian travel portal), Yandex (a Russian search/portal company), (an Indian travel site which recently filed to go public, as well as Maktoob (an Arabic portal site that was acquired by Yahoo). You can already see evidence of the 'going public cycle' with filing for an IPO.

The second theme Tiger Global is playing here is social media/networking and who can blame them. Social networking is currently the adrenaline in the online world and Web 2.0 is the adrenal gland pumping it out. The hedge fund's investment in LinkedIn is just the latest example. Consider that they also bought a stake in Zynga Game Network in December, a social gaming site. Additionally, we've highlighted Tiger's position in Yonja, a Turkish social media site. And speaking of social media, we'd be remiss if we didn't mention you can follow @marketfolly on Twitter and find us on Facebook.

It's very clear that Coleman's hedge fund sees upside in these private companies. They are positioning themselves as best possible to ride the impending social media 'going public' wave. While the majority of hedge funds trade solely in public markets, the fact that Tiger Global has allocated some of their portfolio to private investments ala a venture capital firm gives them a leg up if this secular trend continues to gain steam.

For the rest of their investments, you can view Tiger Global's portfolio here.

Dan Loeb Discloses Anadarko Petroleum (APC) Position: Third Point Portfolio Update

Dan Loeb's hedge fund firm Third Point LLC is out with its July Offshore fund portfolio disclosure. For the month of July, the fund was up 3.2%. Year to date for 2010, the fund is up 13.7%. Third Point currently has an impressive 17.9% annualized return with a Sharpe Ratio of 1.25 and a correlation to the S&P 500 of 0.40. To learn to become a successful investor like this hedge fund manager, we'd obviously point you to Dan Loeb's recommended reading list.

In their latest portfolio breakdown, we see some changes worth highlighting. Here's a look at Third Point's top five positions:

1. Chrysler (multiple securities)
2. Delphi Corp (multiple securities)
3. CIT Group (multiple securities)
4. Dana Holding Corp (multiple securities)

5. Anadarko Petroleum (APC)

Keep in mind that 'multiple securities' simply means that they own numerous positions across the capital structure in that specific company and this list takes into account their collective position. Right away there are two major portfolio changes to notify you about. Firstly, Dan Loeb has started a brand new position in Anadarko Petroleum (APC) because it did not appear when we examined Third Point's Q1 portfolio. They've started this position presumably as shares have tumbled due to APC's partial operating stake in the deepwater rig responsible for the oil spill in the Gulf of Mexico. While BP (BP) has taken the majority of the blame for the spill, Anadarko owned a 25% interest and thus bears some liability.

This means that Loeb has joined the ranks of other prominent investors who have identified opportunity as a result of the Gulf oil spill. Just yesterday we highlighted Grey Owl Capital's purchase of Transocean (RIG). Prior to that, Whitney Tilson's T2 Partners bought BP (BP) as they feel the company will have no problem surviving. And although this next company was not directly involved in the spill, David Einhorn's Greenlight Capital purchased Ensco (ESV) as a result of the sector trading down.

The second portfolio change to highlight is in Third Point's PHH Corp (PHH) position. In previous portfolio disclosures, Loeb's hedge fund has listed PHH as one of their top 5 holdings (they owned multiple PHH securities). This time around, however, PHH is not listed in their top 5 positions. This leaves a few scenarios in play: Third Point could have sold part or all of their stake in PHH, or they could have raised their stake in other positions ahead of PHH (for instance their new stake in Anadarko). There's no way to know which scenario is the case and this could only be a minor change, but we'll have to wait to verify. PHH shares traded up 11% yesterday as the company reiterated its full year earnings outlook. In terms of other recent portfolio activity, we've highlighted Third Point's stake in Emmis Communications (EMMSP).

Let's next move to the top winners in their portfolio for July. These included their longs of Delphi (multiple securities), Atlas Pipeline (APL), Chrysler (multiple securities), Lyondell (LALLF), and an undisclosed short position. Of these stakes, you'll recall that Jamie Dinan of York Capital is bullish on Lyondell as well. Third Point's top losing positions for the month consisted of Gala Casino (multiple securities), SemCrude LP (multiple securities), Peregrine Metals (multiple securities) and two undisclosed short positions.

Next, let's focus on their latest exposure levels. In equities, Third Point is long 43.8%, short -12.1%, leaving them net long to the tune of 31.7%. Their largest sector net longs are in Consumer at 8%, Financials at 8%, and Basic Materials at 6%. In credit, Third Point is 50.6% net long with their largest exposure coming from MBS at 19.1%. Their distressed exposure comes in at 16.4% and their Performing exposure at 15.1%. Third Point has significantly reduced their distressed exposure as they were previously 25.1% net long and now are only 16.4% net long. Lastly, in terms of geographic exposure, Dan Loeb's hedge fund is net long the Americas at 84%, net long Europe at 13% and net short Asia at -1%.

Be sure to check out hedge fund manager Dan Loeb's recommended reading list, as well as Third Point's recent portfolio activity.

Hedge Fund Axial Capital Buys More QLT Inc (QLTI)

Eliav Assouline and Marc Andersen's hedge fund Axial Capital Management just filed a Form 4 with the SEC regarding shares of QLT Inc (QLTI). Per the filing, Axial purchased 37,226 shares of QLTI at $5.72 per share. This brings their cumulative position in the name to 6,341,812 shares. As we've detailed a few times prior, Axial has been accumulating QLTI shares with purchases in early June and early July as well.

Axial was seeded by legendary hedgie Julian Robertson back in 2005 and the hedge fund resides in the same offices as Tiger Management at 101 Park Avenue. You can view the proverbial 'Tiger Family Tree' of managers that Robertson has seeded/spawned there. Axial was recently mentioned as one of Institutional Investor's 'Hedge Fund Rising Stars.'

Taken from Google Finance, QLT Inc is "engaged in the development and commercialization of therapies for the eye. The Company focuses on its commercial product, Visudyne, for the treatment of wet age-related macular degeneration (wet AMD), and developing its ophthalmic product candidates."

To see what other prominent managers are buying, head to our hedge fund portfolio tracking series and scroll through the latest developments.

Tuesday, August 3, 2010

Uncertainty Provides Opportunity in Transocean & Apollo Group: Grey Owl Capital's Q2 Letter

Grey Owl Capital Management is out with its second quarter letter and the focus of the commentary is devoted to opportunity in the markets. While as a whole they feel markets are overvalued, they highlight that near-term uncertainties have yielded potential opportunities in Transocean (RIG) and Apollo Group (APOL).

Firstly with Transocean (RIG), the thesis largely lies in a long-term play on rising oil demand (and prices). Grey Owl had previously owned shares of RIG but sold them back when oil prices neared sky-high prices of $120 per barrel. Late this February, they re-initiated a small position partially as an inflation hedge. Then, opportunity came-a-knocking: an oil spill emerged in the Gulf of Mexico under BP's watch and Transocean was the owner of the rig. The unfortunate environmental incident caused both stocks to tumble.

Yet from an investing standpoint, many investors are able to look beyond the near-term and focus on the long-term picture. Whitney Tilson's hedge fund T2 Partners has presented the bullish case for BP. Additionally, while not directly related to the oil spill, David Einhorn's Greenlight Capital has bought Ensco (ESV) as a result of the depressed stock prices in the oil drilling sector. And today we're presenting Grey Owl Capital's bullish case for RIG. The main concern for Transocean is the liability associated with the oil spill. Grey Owl quickly points out that it is a standard industry practice for the operator (BP) to indemnify the owner (RIG) from risks associated with blowouts, with the exception of gross negligence. As such, unless Transocean is proven grossly negligent, they are in much better shape than BP from a liability standpoint.

Overall, Grey Owl points to Transocean's huge contract backlog of almost $30 billion (a free cashflow backlog estimated just under $15 billion) as a means to weather this storm. Additionally, they highlight that any concerns over the Gulf of Mexico drilling moratorium should only have a modest impact as 75% of RIG's contract backlog resides in non-Gulf of Mexico waters. Grey Owl feels that this single event will not have a lasting effect on Transocean's business and that at $50 per share, RIG is trading just under 6.5x 2010 consensus EPS estimates. They fully expect the stock to be under pressure in the near term, but they're focused on the long-term and expect the stock to trade back to pre-spill levels in a year's time.

Secondly, Grey Owl outlines an opportunity derived from uncertainty in Apollo Group (APOL). This has been the definition of a battleground stock and Grey Owl have staked their claim. As we've detailed before, Steve Eisman of FrontPoint Partners laid out the short thesis on APOL in a presentation he called 'Subprime Goes to College.' This then caused the President of the Career College Association to pen a response to Eisman's thesis. Grey Owl points out that the for-profit education sector is subject to extreme headline risk. However, the biggest risk is the potential new regulations designed to limited student debt burdens. Grey Owl feels that even if these are implemented, Apollo Group trades around fair value. They write,

"APOL trades at a free cash flow yield of 11% and a P/E of 12.5 on a trailing twelve-month (TTM) earnings. This is for a business that has 28% operating margins, has grown revenue an average of 17% over the last three years with very little marginal capital required, and has zero debt. In this case, the extreme uncertainty around the regulatory changes has caused the market to over-discount."

In fact, APOL has appeared numerous times on valuation screens found in the Value Edge newsletter (15% discount here). So, the stock is obviously cheap. But the question then becomes, is it rightly so? Other investors believe that there will be long-term ramifications in the industry. After all, why else would hedge fund Conatus Capital sell out of APOL and then Andreas Halvorsen's Viking Global sell APOL as well after holding it as one of their larger positions.

We've detailed the progression as many prominent hedge funds took bullish positions in the for-profit education space last year. Yet somewhere along the line, something changed and that 'something' was increased uncertainty. Grey Owl viewed this uncertainty as an opportunity and dove right in. This dichotomy of viewpoint is what makes a market.

Embedded below is Grey Owl Capital Management's second quarter letter:

You can download a .pdf copy here.

One year from now we'll have to look back and see whether or not uncertainty yielded opportunity. We've posted a ton of hedge fund market commentary and recommend also checking out the latest thoughts from Perry Capital, David Gerstenhaber's macro outlook at Argonaut Capital, Corsair Capital's latest investment ideas, as well as David Einhorn's latest Greenlight Capital letter.

Bruce Berkowitz Buys Morgan Stanley (MS): Fairholme Portfolio Update

Bruce Berkowitz's Fairholme Capital has quite the appetite for financial companies and this partially (mainly?) stems from his confidence in a United States recovery. While he acknowledges that a double-dip recession is possible, his bets say otherwise. His Fairholme Fund (FAIRX) recently revealed its latest portfolio and here is the portfolio breakdown as of May 31st, 2010:

1. Sears Holdings (SHLD): 7.7% of the portfolio
2. AIG (AIG): 6.8%

3. Citigroup (C): 5.4%

4. Goldman Sachs (GS): 5.4%

5. Berkshire Hathaway (BRK.A): 4.7%

6. Bank of America (BAC): 4.4%

7. St. Joe (JOE): 4.3%

8. Humana (HUM): 4.0%

9. AmeriCredit (ACF): 3.6%

10. Regions Financial (RF): 3.5%

11. Spirit AeroSystems (SPR): 2.7%

12. Hertz Global (HTZ): 2.6%

13. MBIA (MBIA): 1.0%

14. Morgan Stanley (MS): < 1.0%

Keep in mind that the latest portfolio update above only reflects equity positions. As we've highlighted before, he has a large debt position in General Growth Properties as well as other corporate and convertible bond stakes. And of recent news regarding the positions above, he surely has to be happy that AmeriCredit is set to be purchased by General Motors.

We've previously detailed Berkowitz's new MBIA stake as well as the fact that he has been adding to his AIG position. What's interesting here is that Berkowitz is now one of the largest shareholders in MBIA and yet it is only a 1% position for his mutual fund. Specifically regarding his MBIA stake, Berkowitz believes that the firm will survive as it honors its guarantees and has a confident CEO in the form of Joseph Brown. Berkowitz also is fond of the move that separated the municipal bond insurance arm into a new unit. Circling back to his economic recovery theme, he thinks that policies MBIA writes now and in the near future will be lucrative.

Regarding his position in AIG, Berkowitz feels that at the end of 2011 the company will be free and clear of the government's stake and you can read his full AIG thesis here. Also, we pointed out his new position in Goldman Sachs back when he revealed it at the Value Investing Congress. Back then, it was unclear as to how large of a stake he had purchased but now we can see it's quite a sizable one at 5.4% of his fund's capital. Lastly, it's worth noting that the Fairholme Fund still has just under a 15% cash position. If opportunities arise, we'll assume that Berkowitz won't be shy. As you can see, it's quite clear: Fairholme fancies financials.

Monday, August 2, 2010

Jeff Saut: Buying on Weakness

Jeff Saut, Chief Investment Strategist over at Raymond James, is out with his latest commentary entitled 'Don't Worry, Be Happy.' In it, he opines that while money does not equate to happiness, the stock market was certainly happy last month as it increased 7.0% after being down 8.2% in May and losing an additional 5.4% in June. Last time around, Saut argued that it might be time to re-balance portfolios and laid out a theoretical businessman's risk portfolio.

Saut pats himself on the back for 'calling the rally' that he expected due to oversold conditions at the beginning of July. Recently, a Dow Theory Buy Signal was registered according to the market strategist as both the Dow Jones Industrial Average and Dow Jones Transportation Average closed above their previous June highs. However, this signal comes after an already powerful rally has taken place and numerous other theorists do not think a signal has been registered in the true sense of the definition. This would require a close above 11,204 on the Dow Jones and above 4,806 on the transports.

That said, Saut is now a buyer on weakness. He issues a caveat with that statement saying he will use fairly close stop loss triggers to manage the risk. As we've detailed recently, Saut has outlined his risk management principles and has also argued that risk adjusted stock selection is the key to success.

So, what stocks to buy on weakness? The Chief Investment Strategist feels that the following stocks are solid choices:

Value Picks:
Microsoft (MSFT)
Intel (INTC)
Wal-Mart (WMT)
Allstate (ALL)
Johnson & Johnson (JNJ)

Growth Plays:
McAfee (MFE)
Iridium (IRDM)
NII Holdings (NIHD)
Nuance (NUAN)
Parexel (PRXL)

As you can see, Saut favors many high quality blue chip names on the value side. This is exactly what we saw this morning as Jeremy Grantham favors high quality US stocks. Additionally, we've detailed hedge fund T2 Partners' bullish presentation on 3 large cap stocks.

Overall, Jeff Saut thinks that the 200-day moving average (overhead resistance) will be taken out. And as of this second, that's exactly what's happening. We'll have to see if the market can hold and close above that level. He ends by quoting Lowry's who writes,

"In summary, as the major price indexes have moved sideways since the May 25th low, market conditions have showed clear signs of strengthening, not weakening. While overbought readings on short-term indicators suggest the potential for a near-term pullback, any decline should act only as a temporary setback in the rally from the July 2nd low and is unlikely to represent the next leg of a more prolonged move lower."

Embedded below is Jeff Saut's latest investment strategy from Raymond James:

You can download a .pdf copy here.

Here's the rest of our 'market-strategist-Monday' pieces if you missed any of them:

- Oaktree Capital's Howard Marks on the greek tragedy
- PIMCO's Bill Gross: latest investment outlook
- GMO's Jeremy Grantham favors high quality US stocks

Oaktree Capital's Howard Marks on the Greek Tragedy

Oaktree Capital's Howard Marks is out with his latest Chairman's Letter and as always, it's a must read. When we last checked in with the prominent manager, we saw that Howard Marks was cautious. And he's certainly not alone in his concern as legendary investor Seth Klarman is worried about the markets as well. Needless to say, Marks is still concerned about many issues. His July missive, entitled 'It's Greek to Me' obviously outlines the recent problems in Greece.

Given that the country has been responsible for so many headlines in the Eurozone (and appropriately so), Marks outlines the ingredients that have contributed to the contagion across the ocean, notably:

- Slow-growing, unproductive & uncompetitive economies
- Low birthrates & aging populations
- Generous benefits & social services
- Extensive vacations & limits on work weeks
- Early retirement
- Artificially high debt ratings & resultant low interest rates

However, the Oaktree Capital Chairman also argues that debt is not the problem (or even the cause of the problem), but rather the facilitator. He writes, "without credit - I think back to my pre-credit card college days of 45 years ago, for example - you couldn't spend money you didn't have. Thus you couldn't buy things you couldn't afford. Then the miracle of credit came along and it became easy to get in over your head." He relates that analogy to government spending and wonders what would come to be if governments couldn't finance deficits by issuing debt.

Marks then compares the United States' situation to that of Greece. While he does not think the US will face the crisis Greece has, he acknowledges the basic problem is the same: both countries have a bigger government than they're paying for. To avoid such folly, he argues "the bottom line appears to be that the U.S. must anticipate austerity, higher taxes, and the sluggish growth that combination is likely to produce. Failing that, we may face devaluation, default and other unthinkable developments. We are not exempt from the problems besetting Greece."

Turning to Marks' thoughts on the current markets, he actually began his letter by touching on the tenets of successful investing. He writes, "risk control and consistency hold the keys to long-term investment success." He comes full circle and ends his commentary by lamenting that, "bottom line: anyone who invests today in a pro-risk fashion out of belief in the recovery must be confident he'll be agile enough to take profits before the long-term realities set in."

Embedded below is the latest market commentary from Oaktree Capital's Howard Marks:

You can download a .pdf copy here.

For more market commentary from Oaktree, head to our piece on Marks' cautionary stance. And for the rest of our 'market-strategist-Monday' pieces, you can head to the latest investment outlook from PIMCO's Bill Gross, as well as Jeremy Grantham's latest commentary from GMO.

PIMCO's Bill Gross: August Investment Outlook 2010

We're continuing our 'market-strategist-Monday' here on Market Folly and next up is PIMCO's Bill Gross. It's been a few months since we last covered his thoughts so we thought we'd check-in on the bond king. Last time we noted how he favored quality credit over duration extension. This time around, Gross is talking less about particular markets and more about the macro big picture and how it associates to PIMCO's 'new normal' thesis. Earlier in our morning market strategy coverage, we highlighted the commentary from GMO's Jeremy Grantham where we found he favored high quality US stocks.

Gross begins his missive on the topic of toilets but bear with him as he has an actual message behind that. And, it has to do with PIMCO's thesis of 'new normal.' Gross argues that not only growth, but capitalism as well, are dependent on a growing population (at least in part). He then writes that, "the danger today, as opposed to prior deleveraging cycles, is that the deleveraging is being attempted into the headwinds of a structural demographic downwave as opposed to a decade of substantial population growth." He then cites Japan as a modern-day example of this.

Gross also writes, "PIMCO's continuing New Normal thesis of deleveraging, reregulation, and deglobalization produces structural headwinds that lead to lower economic growth as well as half-sized asset returns when compared to historical averages. The New Normal will not be aided nor abetted by a slower-growing populatio nor by cyclical policy errors that thrust Keynesian consumption remedies on a declining consumer base."

In short, the PIMCO bond vigilante feels that current deficit spending is not the way to go and is akin to flushing money down the toilet (now you get the toilet reference he made earlier). Instead, Gross favors industrial policies aimed at strengthening infrastructure, clean energy, education, and healthcare. Gross is not alone in his stance as Oaktree Capital's Howard Marks has also voiced frustration with the government as well.

Embedded below is the August 2010 investment outlook from PIMCO's Bill Gross:

You can download a .pdf copy here.

Continuing our 'market-strategist-Monday', make sure to also check out Jeremy Grantham's latest commentary from GMO. And for some of Bill Gross' past commentary, you can view his thoughts on how he favors quality credit over duration extension.

Jeremy Grantham Favors High Quality US Stocks: Market Commentary

Today we're doing a bit of 'market-strategy-Monday' here on Market Folly and will kick things off with the often-read missive of GMO's Jeremy Grantham. He is now a deflationista as he thinks it has trumped inflation as the biggest concern in the near-term. While Grantham doesn't seem too anxious to be a buyer of many asset classes, there are three areas he has deemed compelling. GMO's asset allocation portfolios are built on a seven-year forecast and here are his thoughts:

Firstly, Grantham sees value in high quality large cap US companies. The main argument? Valuation. Just last week, we highlighted hedge fund T2 Partners' bullish presentation on 3 large cap stocks. The 'buy high quality large cap' theme has been long underway in hedge fund land as a plethora of managers have now sung the praises of this opportunity. Pershing Square's Bill Ackman went long Kraft (KFT) on this notion (among other reasons) and East Coast Asset Management likes quality names as well. Grantham's GMO colleague Edward Chancellor echoes these thoughts. He says,

"When we look through the various classes of equities, we find in the U.S. that companies that are so-called quality have high expected returns relative to the market; in other words, companies that tend not to go bust, and tend to maintain their positions—the sorts of businesses that Warren Buffett made his fortune investing in and are trading at a P/E of about 14. Johnson & Johnson (JNJ) and Pfizer (PFE) are key companies—the sort that your grandmother had in her portfolio or are typically owned by trust companies. Normally they trade at premiums to market, but right now they’re not."

Chancellor also sees opportunities in the European high quality equivalent. In particular, he mentions Nestle (NSRGY), Novartis (NVS), and Unilever (UN). Last week we also pointed out how hedge fund Viking Global has a large stake in Unilever as well.

Secondly, Grantham believes that emerging market equities are the next best play. This is mainly attributable to the fact that the fundamentals in these countries are so much better than our own markets. While EAGE equities are slightly expensive, they are a much better option than say, fixed income.

Lastly, Grantham remains staunch on his view of forestry (i.e. timber). He has long advocated a place in portfolios for timber as it serves as a good diversification tool during the good times. And, during periods of uncertainty, it is a "brilliant store of value should inflation unexpectedly run away, and a historically excellent defensive investment should the economy unravel."

Embedded below is Jeremy Grantham's latest market commentary from GMO:

You can download a .pdf copy here.

For more excellent commentary be sure to head to the latest hedge fund letters where prominent managers share their thoughts on the markets.

Howard Marks (Oaktree Capital) ~ Quote of the Week

The Market Folly quote of the week this time around comes from the July 2010 commentary of Oaktree Capital's Howard Marks:

"Markets are safer when fear balances greed, and when worry about losing money balances worry about missing opportunity. We don't like it when fear rears its head and stocks drop, but certainly that creates a healthier environment in which to be a holder, and one which should offer better buying opportunities. Over the first part of this year (2010) it was easy to say prices had gotten ahead of fundamentals; all things being equal, that now seems less true."

~ Howard Marks

Previous quotes of the week have encompassed thoughts from Warren Buffett, Seth Klarman, Gordon Gekko, and Mark Cuban. Stay tuned for more nuggets of weekly wisdom.