2019: Second Quarter Update

Portfolio Update

- 4th Industrial Revolution:  OM added a small position in the iShares Technology-Software ETF (IGV) at the very end of the quarter, as a way to gain exposure to Enterprise SaaS companies.

Performance and Review

The second quarter saw the portfolio rise +6.80%, which outperformed both the S&P 500 Total Return (+4.30%) and the MSCI World (Total Return, Net Dividends) (+4.01%).   For the year, this leaves the portfolio at +17.93%, which is nestling in between the S&P 500 Total Return (+18.54%) and the MSCI World (Total Return, Net Dividends) (+16.98%).

As the table intimates, performance was driven by the Dislocation positions and in particular those in Greece (+398bps) and Shipping (+216bps). 

Greece rallied strongly in the final weeks of the month after New Democracy, the opposition party, comfortably won the European elections.  This led to Prime Minister Tsipras calling an early election, and investors began to think about Greece’s future under a pro-business New Democracy government.   Subsequent to quarter-end, New Democracy successfully won a majority in the snap Greek election.  New Democracy has been talking to investors for the last two years, and immediately presented a financial bill including tax cuts that it hopes will help spur growth.

Within the context of OM’s approach to dislocations, the election is the catalyst that OM believes will change the narrative around Greece and get other investors to look at it.  What does that mean for OM’s holding? Empirically, the most attractive risk/reward in dislocations is the 12-24months after the catalyst – the honeymoon period, where there’s low hanging fruit and investors want to believe the story.   Thus expect Greece to almost certainly remain in the portfolio for the next 12-24mos, with the caveat that price movement should justify this – seeing May’s lows ($7.80 for GREK) revisited would be concerning and the position would be exited if we returned to December 2018’s low ($6.75).  On the other hand, don’t expect OM to take profits for at least the first 12 months – setups like this are rare, and the compounding impact to performance is worth the residual volatility.

The Shipping (+216bps) dislocation was driven by its exposure to product tankers, which benefited from Clean Tanker rates holding up well.  The sub-sector continues to see favorable supply/demand characteristics and OM believes it is best placed to benefit from IMO 2020.  The Uranium dislocation (-60bps) fell back slightly during the quarter.

The Thematic positions were a wash during the quarter; gains in Argentina (+75bps) and Brazil (+38bps), offset by losses in Vietnam (-33bps), India (-21bps) and Blockchain (-41bps).  The 4th Industrial Revolution positions made no great contribution (+2bps) in the second quarter.

Elsewhere, the portfolio benefited from the positive trend in markets with the Technical positions (+61bps) buoyed by rising markets, which also helped the Funds (+43bps) in the idiosyncratic book.  Finally, Texas Pacific Land Trust (+8bps) was largely flat for the quarter, despite machinations between management and a group of activist shareholders.

Longer-term Chartology

With the portfolio having been run in this form for 3+ years, Our Man thought he’d throw in a rotating cast of “interesting” charts/statistics on the portfolio’s performance, drawdowns, losses, etc.   The chart below is a simple one, showing what would have happened if OM had put his money in a couple of other instruments.  As you can see, he’d have been better off (so far) putting it into US equities, Global Equities or even a simple 60% Equity/40% Bond.  Obviously, OM expects this to change …

Portfolio (as at 6/30/19 - all delta and leverage adjusted, as appropriate)

Dislocations: 42.1%

21.9% - Greece (GREK, ALBKY, and EGFEY)

11.4% - Shipping (STNG, NVGS, DSSI and EURN)

8.7% - Uranium (URA, CCJ and NXE)

Thematic: 30.4%

6.5% - Tech: 4th Industrial Revolution (JD & IGV)

6.3% - India (INDA and SCIF)

6.2% - Vietnam (VNM)

5.0% - Brazil (EWZ)

4.6% - Argentina (DESP, GLOB, GGAL and AGRO)

1.9% - Blockchain (OSTK)

Technical: 20.4%

20.4% - OEW Technical positions (DDM, SSO, and QLD)

Idiosyncratic: 13.2%

9.6% - Funds (CWS, GVAL, and CAPE)

3.6% - Equities (TPL)

Shorts/Hedges: 0.0%

Cash: 4.1%

Disclaimer:  Nothing above represents a recommendation in any way, shape or form so please don’t even think of trying to take the above that way.  For added clarity, while Our Man is invested in all of the securities mentioned that’s a terrible reason for anyone else to do so.  Our Man also holds some cash and a few other securities (of negligible value).  You should not buy any of these securities because Our Man has mentioned them, but should do your own work and decide what’s best for you given your own circumstances/risk tolerance/etc. 

Portfolio Update: New Position - 4th Ind. Revolution Theme: Enterprise SaaS (Part I)

Our Man has talked a lot about software over the last 12mos+, yet the theme is not in the portfolio.  This was due to professional considerations; he was researching and allocating to a Software-as-a-Service (“SaaS”) focused fund for a client portfolio as well as writing an insight piece into Unicorns and software.  With both complete, Software can be added to the portfolio and the rationale is below.   Much of OM’s early drafts of this piece were subsumed into the second half of the aforementioned Unicorn paper (let OM know if you want a copy!), so what follows is a shortened version. 

The rise of software is not new, it was foreshadowed in Marc Andreesen’s seminal Wall Street Journal article - “Software is Eating the World " - in August 2011.  Software, and its key role in the 4th Technological Revolution, is also one of the drivers of Our Man’s bullish long-term view (more on that another time!).

The Rise of Software

Over the last dozen years, the world has transitioned online driven by increased computing power, cloud storage and mobile usage. This has increased accessibility and vastly reduced delivery costs (i.e. an internet download, or app).  This transition provides a secular tailwind for software companies, allowing them to scale and quickly generate substantial revenues, and to become entrenched in consumer’s lives and companies’ business.  These same technological transitions have also enabled many software-driven companies to change their business models from a traditional product sales/licensing (i.e. remember those floppy disks/CDs) to a cloud-based subscription model that generates recurring revenues.  Though the subscription model sees a smaller monthly fee, it leads to both higher recurring revenues and higher retention rates for the company.  Finally, the smaller regular subscription cost increases the size of the potential market and helps margins, as the marginal cost of providing a new cloud-based software product approaches 0% as the customer base grows (e.g. imagine the marginal cost of the 10,000th stream of TV show, or the millionth download of a song, etc.). 

Enterprise or Consumer?

Our Man has a strong preference for enterprise (i.e. business) focused companies rather than those that focus on the consumer.  It is only natural that the consumer market developed first, given the speed of the different decision-making process - you making a decision vs. your firm making one – and that in consumer-world the limiting factor was marketing and distribution.   Before the Internet almost all consumer business was either (i) local or (ii) space-constrained (shelf-space, channels on your TV, etc.).  The Internet resolved this - websites are accessible across the country/world, Amazon has unlimited shelf-space and cloud-based product is infinitely divisible (Netflix can let you watch everything and anything on its menu at any time, irrespective of how many others are watching it). 

The approaches to data in the consumer and enterprise environments are necessarily different, which impacts the business models.   For a company, its internal client data is a key part of its business (and often covered by regulations) which means it cannot have its software partners collect and share that information.  This contrasts with the consumer-side, where collating personal data is often key to the business model whether the data is used to help target advertising or to try and create network effects.   This difference in approach to data has further driven enterprise software towards a paid subscription model, whereas the consumer side remains a mixture of different models, including advertising driven (Google, Facebook, Pinterest, etc.), subscription (Spotify, Netflix, etc.) or models focused on the delivery of a physical good/service (Uber, Lyft, Amazon, etc.).

The value proposition to the client of the subscription model is centered on the greater flexibility that it provides. This flexibility comes in many forms;

• Easier Administration: The client can better control and match the number of licenses that are used. Since the subscription model is a pay-as-you-go system, subscriptions can be increased/decreased as required.
• Greater Compatibility & Security: As the software is hosted in the cloud, all users are using the same version of the software, ensuring compatibility across a firm. Furthermore, the software provider is responsible for updating, patching, and security, and these are done automatically rather than on a user-by-user basis.
• Cost affordability: The steady price and recurrent nature of subscriptions means that they can be budgeted for more easily.
• Global Accessibility: Users can access their software from any device as it is hosted in the cloud. This has increased in importance as the prevalence of mobile has expanded.
• Integration & Scalability: Most SaaS applications are designed to support some level of customization, and vendors allow connections to both internal applications, but also other external SaaS applications. This means that information is available in a more accurate and timelier fashion than before, which has notable impacts on productivity. For example, sales people in the field can immediately check real-time data (via an application on a mobile device) on inventories before committing to a sale, rather than going through a longer and more manual process of speaking to head office directly to get the information.

The biggest benefit of this increased flexibility for clients is that using a cloud based SaaS solution leads to increased productivity, as the clients can focus on their core businesses.

Companies’ transition to subscription models has also led to significant benefits for investors;

• Higher Recurring Revenues: The subscription model means that the firm’s revenue stream is more predictable due to the steady income from subscriptions, which helps management in planning and investors to value the business.
• Higher Retention Rate: The model changes the nature of the sales process from one where the firm is looking to complete a solitary transaction (e.g. sell X number of licenses) to one where it’s selling a long-term relationship with the client. The model also changes the nature of the client’s behavior; clients must make the decision to leave a provider rather than make a new purchase. The behavioral nature of this change has been important for software providers as it has led to increased client retention.
• Increases Total Addressable Market: As the recurring subscription cost is small (relative to the prior cost of purchase under the licensing model), the SaaS model helps increase the market size through greater accessibility for small businesses and non-core usage within large firms.
• Uniformity of Updates: As the implementation of updates is driven by the provider, not the client, and is done in the cloud, this helps ensure that updates tend to be done more frequently and that all users are utilizing the same version of the software.

For investors, the first three of these benefits - higher recurring revenues, higher client retention, and a larger market - has changed the long-term profitability of software companies, making them a more attractive long-term business. In addition to improving profitability, it has also meant that SaaS companies are less prone to changes in the economic cycle. This is a function of the productivity benefits that the SaaS model offers customers, which results in higher client retention. Given these productivity benefits and the substantial switching costs of changing software providers – including retraining employees and linking the new software into existing systems – SaaS companies often enjoy a “sticky” customer base. Typical retention rates for successful SaaS companies have been around 90% of annual revenues. This strong retention rate reflects the benefits of the SaaS business model; software subscriptions are now targeted (rather than company-wide) and at an affordable recurring cost (rather than substantial one-off license fees), which means that customers are more willing to retain subscriptions during any softening in the market.

While software is indeed eating the world, OM thinks we’re still in the earlier innings on the enterprise side.  In part II, we’ll talk a little about valuation and how to invest….

Things from my Newsblur; 2019 Part 3

Time for the latest edition of “Things from my Newsblur”, which is a little tech heavy.  As usual, the most investment-related stuff is at the end.

The Battle of Winterfell: A Tactical Analysis

With GoT’s final season having ended a couple of weeks ago, Our Man thinks he’s probably safe to post this without spoiling anyone's enjoyment.  OM watched the Battle of Winterfell and had questions, so many questions, about Team Living’s plan.  Questions like…wait, you’re going to just charge your cavalry into the darkness without scouting?  Or your fire trenches are behind your army - how are you going to retreat?   Or you might want to use those dragons rather than chilling out on a hill?   Or does Brann want to do anything – you know, like use his ravens to check out the Dead’s army or be helpful, in any way?  Well, here’s an army officer’s tactical analysis of the Battle, which confirms that Team Living were borderline inept.  (Angry Staff Officer, Wired)

Florence Nightingale: The Pioneering Statistician

The Crimean War was the first major conflict of the industrial age that utilized railways, armored ships, telegraph wires and was fought with high explosive shells.  It’s also the first war that saw its after-effects recorded through photography.  Amidst it all, Florence Nightingale (and her team) ran hospitals for the wounded soldiers, and through this work she became known as the founder of modern nursing and became an icon of British culture, especially in the persona of “The Lady with the Lamp”.   Part of her success came from the rigorous collection of data and its subsequent statistical analysis, through which she uncovered that more soldiers were killed by preventable diseases caused by unsanitary healthcare than as a result of battlefield wounds.  Through portraying this visually – and bringing the pie chart and its cousin the polar area diagram to the fore – she helped lead to reform health care in the Army and through the Public Health Acts of 1874 and 1875 in the entire UK.  This short article goes through some of the background on Nightingale’s approach, and how it was so revolutionary for the time.  (The Science Museum)

Artificial General Intelligence Has Been Delayed

For all the talk of autonomous driving and the driverless car, which underpins the valuation of many of the ‘mobility’ companies (be it Tesla, Uber or Lyft), Professor Rodney Brooks discusses how artificial general intelligence, and with it autonomous driving, is going to take a lot longer than people realize.  He’s not alone, with folks like Chris Umson (former head of Google’s self-driving project) suggesting that driverless cars will be slowly integrated onto our roads “over the next 30 to 50 years.”  (Professor Rodney Brooks, his blog)

The Aldi Effect: How One Discount Supermarket Changed the Way Britain Shops

This excellent article charts the rise of German supermarket Aldi in the UK; while it was initially looked down upon, it has taken share consistently since the Financial Crisis and grown from 2% to 8% of the market.  Like many disruptors, the tale is a mix of providing a customer with something they didn’t yet know they wanted, a completely different culture and cost structure from the lazy incumbents, and a willingness to make decisions with a longer-term horizon in mind.   For my fellow Brooklyn-ites, who don’t think Aldi has yet encroached on their shopping habits, you might want to think about who own Trader Joe’s the next time you’re purchasing your Mandarin Orange Chicken or Everything But the Bagel Seasoning! (Xan Rice, the Guardian)

Breaking Smart: Season 1 – How Software is Eating the World

Our Man’s very interested in software, especially enterprise software as a multi-year investment theme.   It hasn’t yet made it to the portfolio as Our Man spent the tail-end of Q4 researching the broader software/unicorn landscape for a recent thought piece and potential investment ideas for clients.  However, expect something on it soon as colleagues prefer to focus on the private market options.  One of the benefits of the project was that OM re-read Breaking Smart, which was the result of author Venkatesh Rao being invited to spend the year 2014 in the offices of Andreessen Horowitz (leading VC firm).    This is a long read – 30,000 words – but it’s broken down into 20 bite size essays that touch upon the impact of the technological changes on our lives and societies.  It holds up well, so make the time to slowly work your way through it!  (Venkatesh Rao, Breaking Smart)

Tsipras faces fight to stay in power after EU elections mauling

As regular readers know, OM’s highest conviction position is Greece and it is out sized at 20% of the portfolio.  A key part of the thesis is that a change in government at the next elections, will change the narrative and draw investors back to Greece.  Well, the opposition New Democracy party have been meeting those investors who’ve been to Greece for much of the last two years in the hope that investors will know them and their plan, and be ready to invest if/when they come to power.  That judgment day was brought forwards to early July, after Greek PM Tsipras called a snap election following his party’s defeat in last week’s European elections.  Now, we’ll see if the thesis holds.  (Guardian)

Portfolio Update: Greece is the Word!!

With OM’s position in Greece having been sized up to 20% of the portfolio (start of Q2), it deserves a post of its own!    While OM  has provided updates on his Greek thesis before, which can be found here and here, the entirety of the thesis is not available in a single place.  This post, will rectify that. 

Our Man’s Greek exposure is primarily held through the Greece ETF (GREK) as well as smaller positions in two Greek Banks – Alpha Bank (ALBKY) and Eurobank Ergasias (EFGEY).

OM believes that the public markets reward contrarianism, especially when it’s tied to common sense, and his playbook for a dislocation is:

1. An investment that has had abysmal performance.  Ideally, investors will have been burned badly and/or are fatigued by the situation, which means it is likely overlooked.
2. Valuations are cheap and the fundamentals are turning, yet very few people care, and the stocks should at least suggest that they have found a bottom.
3. A change in narrative that provides an excuse or all-clear sign for investors to consider the area investable once more.

From OM’s research, the most attractive part of the investment is the ~24 months after the narrative has changed.  While the situation may continue to be attractive, potentially for many years, once it gets beyond a couple of years it will fall into OM’s Thematic portion of the portfolio and be evaluated and sized on that basis.

1) It All Goes Wrong for Greece

For Greece, the Global Financial Crisis was followed by a starring role in the European sovereign debt crisis.  While most people are largely aware of the Greek debt problems and the associated economic problems, the severity isn’t fully appreciated.  The crisis saw a 45% decline in GDP and unemployment top 27% in Greece – similar to what the US saw during Great Depression!

Greek GDP

Unsurprisingly, this saw Greek equity markets get decimated; down over 90% from their 2007 peak, over 80% from their post-08 highs, and over 70% from their 2014-highs.  The fall from 2014 is particularly important as ‘sophisticated’ investors helped recapitalize the Greek banks in 2013 and 2015, with the expectation that the crisis was largely over.  It was not!!

(click to enlarge)

Well for Greece, the opportunity is pretty clear; economic disaster and collapsing equity prices, over a prolonged period means that even ‘sophisticated’ money has been scared off.  

2). Valuations Become Attractive, and Things Turn Around

However, take another look at that chart of economic growth – things have turned around, and stabilized over the last couple of years.  Those aren’t the only signs though; the country passed over 450 reforms under the conditions of its IMF/European Central Bank/European Commission (the “Troika”) bailout deals and under those deals it is financed through 2033, when its debt amortizations start.  In exchange for this financing to help build a cash buffer, Greece had to agree to remain in a post-program surveillance program.  This helps guarantee the Greek government continues to deliver on its already enacted reforms.  Finally, for a country where people don’t pay their taxes and has historically spent recklessly, times are changing!  Greece has had one of the largest turnaround in public finances in history; it posted a budget surplus for the last couple of years and is committed to running one for years to come! 

Greek Government Budget Deficit

The same is true in equity markets, which bottomed back in 2016.  As a sense of the broad value in stocks, the CAPE ratio – an inflation adjusted 10-year price-earnings ratio – is negative!   With regards to the banks; Alpha Bank and Eurobank Ergasias ended 2018 trading at ~0.25x their estimated 2019 book value compared to European peers that traded at just under 1.0x.  Now, OM gets it…investors are rightly skeptical – after all there have been three bank recapitalizations this decade (2010, 2013 and 2015) that have seen investors lose almost all of their money.  However, OM would note that at this point regulators have been insiders on Greek banks for a decade (so book value really should be book value), vetted capital levels in continent-wide stress tests last year, and that Alpha and Eurobank both have 15%+ Tier 1 capital and are profitable!

Fundamentally, the banks continue to improve their non-performing exposures (NPEs) which have fallen 20% from the 2016 peak, with the ECB monitoring and acting as ‘big brother’ to help ensure this.  Last November, saw reasonable new NPE targets set by the ECB, working in conjunction with the Greek banks.  The ECB, the Bank and the Greek government all know that the banks must continue to reduce NPEs in order to be able to lend again, and help the economy grow.  This is why you’re seeing NPE sales by individual banks and various government plans being floated by the Central Bank  and Ministry of Finance to help speed up the process.  These combined with the recent Katseli law that makes it harder for people to strategically default, and the banks’ self-help (cost-cutting, etc.) are all  positive signs, and give the banks substantial operating leverage to improved conditions.

3) What will draw others back in

Which brings us to the change in narrative! Last year saw some steps in this direction, with Greece exiting its official bail-out program and raising money from the bond markets. Those bond markets, seem pretty sanguine on Greek risk.

The Greek government further took advantage of these low yields, to raise money and prepay $4bn+ of higher-interest IMF loans.  Further steps like this, and the banks continuing to fix themselves, will help but they won’t draw most investors back in.  That will require political change, and Greece is having elections in 2019! 

SYRIZA and their leader Alex Tsipras, who came to power in 2015, are broadly viewed as crazy leftists.   Yes, it’s in their name…SYRIZA being the syllabic abbreviation for The Coalition of the Radical Left.  Despite this, SYRIZA agreed to the Troika’s demands, passed bankruptcy laws, generated budget surpluses and helped the economy start to climb out of the abyss.  Irrespective, they are not a government that investors (especially US-ones) feel comfortable investing alongside.  However, 2019 is an election year in Greece and what if the country elected a leader that comes out of Western investors’ central casting?   You know, the kind that went to Stanford and Harvard, had spent time working for well-known US banks and consultancy firms before becoming a PE/VC investor, was pro-markets and business and came across as more efficient technocrat than ideologue.   Well, that’s the resume of Kyriakos Mitsotakis, the leader of the New Democracy party that’s currently comfortably ahead in the polls.   Should they seem likely to win as the election approaches, and eventually do so, I think it will remove a key obstacle for investors – Greece will no longer be scary, nobody will be fired for looking at it again, and it might even become the latest ‘unique idea’ for hedge funds.   This isn't to underplay all the good that Mr. Mitzotakis and a new government could do, just a reflection on what investors respond to.

Some Risks

While the above all suggest how Greece is setting up to be very attractive, under no circumstances should anyone think that it is even close to a risk-free investment.  As such, here are some of the key risks for OM.

• An important risk to the thesis is if global, and especially European, growth materially slowed down or became recessionary.  The most immediate impacts to the thesis would be to weaken the economic fundamentals in Greece and to increase the stress on the banks.  Additionally, stock markets and risk appetite would likely be weak in such a recessionary environment.  That wouldn’t spur anyone to invest in Greece.  In such a situation Our Man’s position should be vastly smaller.

• An obvious risk is that SYRIZA returns to power, hamstringing the change in narrative and remaining an impediment to investor interest rekindling.  A SYRIZA victory would also remove the optionality that a more business-friendly government could increase economic growth.  As such, Our Man’s position would be smaller, though it should be noted with the Troika continuing to monitor Greece’s compliance to its economic agreements, the fundamentals likely wouldn’t change substantially. 

• A final important risk is that the position, especially in the Banks, is dependent on regulatory forbearance.  The ECB has worked with the banks as a ‘big brother’ to set NPE reduction targets, and those most recently agreed for the period 2018 to 2021 were firm but fair.  Should the ECB change its approach it would likely mean further write downs and recapitalization for the banks that would negatively impact both investor and economic confidence.  While the ECB’s current plan is working well and the ECB is an independent central bank, the President is appointed by the leaders of the countries that have adopted the euro.  ECB President Draghi’s term ends in late 2019, and a new President (and team) may choose to take a different approach to Greek banks for their own political reasons.  This is something to continue to monitor, and much like investors the ECB decisions may be tied to the election result.

Disclaimer:  Nothing above represents a recommendation in any way, shape or form so please don’t even think of trying to take the above that way.  For added clarity, while Our Man is invested in all of the securities mentioned – Alpha Bank (ALBKY), Eurobank Egrasias (EFGEY) and the Greece ETF (GREK) - that’s a terrible reason for anyone else to do so.  Our Man also holds some cash and a many other securities (of negligible value).  You should not buy any of these securities because Our Man has mentioned them, but should do your own work and decide what’s best for you given your own circumstances/risk tolerance/etc. 

2019: First Quarter Review

Portfolio Update

The theme for the major portfolio changes in Q1 could easily be “Trying to save a draw from the jaws of victory”, especially in the Technical and Short books!

- Technical Book:  OM re-entered the Technical Book at the start of February, when the analysis confirmed that the market’s rise since Christmas Eve was the start of a new prolonged up-trend and not just a bounce.  While OM managed to enter lower than he’d exited back in October, the sharp January rally meant the ‘gains’ were relatively small (2-5%). 

- Shorts:  OM closed the Short Biotech position in the first half of the quarter. While the position was broadly flat, it should have been a substantial gain.  OM managed the position poorly!  The sharp gains in the middle of December coupled with the Technical model signaling a likely bounce should have been the sign for OM to exit stage left with a 30%+ profit in a few months.  He didn’t and in the aftermath of Bristol-Myers Squibb’s massive bid for Celegene in January,  it became a battle to limit Q1’s losses and break-even overall.

- Dislocation – Shipping:  OM entered the Shipping theme during Q1, with a focus on the transportation of crude oil, oil products and LNG.  While IMO 2020 will have a major impact on Shipping, OM believes that the impact on the oil production/refining markets will be just as profound, and the largest impact will be on shipping miles related to these products.   The position is meaningful today, but if the data continues to look attractive it has the potential to be an outsized position in Q3/Q4 and the run-up to IMO 2020 being enacted at year-end.

- Idiosyncratic:  OM bought back most of the Texas Pacific Land Trust (TPL) he sold in Q4, though this at least was at a much better price!  He also exited the position in Fannie Mae (FNMA), which was up well over 100% in the quarter following the Trump Administration making a number of moves, which culminated in the President announcing his intent to end the conservatorship of Fannie Mae & Freddie Mac.  Smarter folks than OM, who have spent vastly more time on the complexities of the situation, believe this could be the start of real reform and that it will have a material impact on the valuation.   However, this seems one for the experts to fight over; it is a low conviction position for OM and with a surfeit of ideas and little knowledge/insight of the political process required to achieve reform, he’s leaving it to others.

Finally, at quarter-end OM changed the account that houses the portfolio for boring technical reasons (ability to use non-taxable $, etc.); OM took advantage of this, to make a number of changes to the portfolio at quarter-end rather than in the weeks beforehand.  The largest change was that the position in Greece was again materially increased but expect a separate article on this, and the current portfolio, in the near future.

Performance and Review

The first quarter saw the portfolio rise +10.4%, though this lagged both the S&P 500 Total Return (+13.7%) and the MSCI World (Net Dividends) (+12.5%).

Dislocations

- Greece was by far the largest contributor in the portfolio, adding 339bps to performance, as it responded to the market’s reduced fears.  There will be an election in Greece this year, possibly as soon as May, and OM believes that like Argentina’s 2014 election it will change the narrative around Greece. 

- Uranium posted a small gain (+53bps), with increased sentiment following Kazatomprom’s listing during the fourth quarter and both spot and long-term contract prices holding up well.  However, long-term contracting is largely on hold at the moment while the Trump Administration makes a determination under Section 232 on the amount of imported uranium into the country.  Shipping (-1bps) was flat on the quarter.

Thematic

- Despite being a small position, the 4th Industrial Revolution theme (+202bps) was a large contributor due to its Chinese names; it wasn’t just Chinese A-Shares that went crazy!

- Brazil (+51bps), Vietnam (+73bps), and India (+46bps) benefited from the increased market sentiment and rallied strongly.  The Blockchain (+46bps) theme also did well, though Overstock (OSTK) has yet to execute on either the sale of its retail business or the completion of its private deal with GSR.  Both were delayed in February, though the company’s tZero security trading platform did go live.

Idiosyncratic

The Idiosyncratic book’s gains (+298bps) were evenly split between the Funds book (+142bps) and the Equities (+156bps).  The Funds book rose with the market during the quarter, with the US-centric funds outpacing US markets though the Global Value fund lagged a little.  The two single name positions, Texas Pacific Land Trust (TPL) and Fannie Mae (FNMA) both rallied very strongly.  In TPL’s case, it was buoyed by the rise in the oil price and the market’s realization that its success is as (if not more) tied to the quantity of oil drilled/etc. on its lands than the price.  As noted above, the Trump Administration made a number of moves suggesting their seriousness at ending the conservatorship of Fannie Mae and Freddie Mac, which saw FNMA more than double during the quarter.

Finally, Our Man re-entered the Technical (+105bps) and exited the Short Book (-140bps) during the first half of the quarter.  The Short book suffered as biotech rallied strongly in January, with the benefit of supportive M&A, while the Technical book participated in the market rally during the second half the month.

Portfolio (as at 4/4/19 - all delta and leverage adjusted, as appropriate)

Dislocations: 37.8%

20.2% - Greece (GREK, ALBKY, and EGFEY)

10.4% - Shipping (STNG, NVGS, DSSI and EURN)

7.2% - Uranium (URA, CCJ and NXE)

Thematic: 29.1%

7.2% - Vietnam (VNM)

7.1% - India (INDA and SCIF)

5.2% - Brazil (EWZ)

4.1% - Argentina (DESP, GLOB, GGAL and AGRO)

3.0% - Tech: 4th Industrial Revolution (JD)

2.5% - Blockchain

Technical: 21.6%

21.6% - OEW Technical positions (DDM, SSO, and QLD)

Idiosyncratic: 13.2%

10.1% - Funds (CWS, GVAL, and CAPE)

3.9% - Equities (TPL)

Shorts/Hedges: 0.0%

Cash: 8.3%

Disclaimer:  Nothing above represents a recommendation in any way, shape or form so please don’t even think of trying to take the above that way.  For added clarity, while Our Man is invested in all of the securities mentioned that’s a terrible reason for anyone else to do so.  Our Man also holds some cash and a few other securities (of negligible value).  You should not buy any of these securities because Our Man has mentioned them, but should do your own work and decide what’s best for you given your own circumstances/risk tolerance/etc. 

Things from my Newsblur; 2019 Part 2

No major updates  from Our Man, though he's (still) working on a software (Enterprise, not Consumer) thesis.  Instead, another edition of “Things from my Newsblur” - this time some recent(ish) articles that have caught OM's eye, but didn't get enough attention generally.

Live Long – What Really Extends Lifespan
This isn’t actually an article, but a graphic of the way various traits affect lifespan.  The strength of the science is clearly shown, and ranges from suggestive to strong.  The traits range from the subtle (drinking a little alcohol vs. abstinence) to the more obvious (avoid cancer).  Well worth a look!  (Dave McCandless, Information is Beautiful)

This 8-Year Old Chess Champion Will Make you Smile
While last week saw a college admissions scandal in the US, this heartwarming article is another little reminder that talent is universal but opportunity is not. (Nicolas Kristof, New York Times)

Into the Dark
The Thai cave rescue seemed crazy at the time.  After reading Shannon Gormley’s article, based on months of in-person interviews with the key protagonists, it seems even crazier.  The confluence of skill, meticulous planning and luck required not just by the dive-team but also by the support staff (and Thai government) is astouding.  It’s the kind of story that if you read it in a book (or saw in a film) you wouldn’t believe.  (Shannon Gormley, Macleans)

Humanity + AI = Better Together
Robots are coming for your jobs!  Skynet is after your children!  Really?  Well, the flip side of the popular narrative is that in conjunction with AI - we will become more creative, improve our productivity and powers, make better decisions, be safer as dangerous tasks can be automated and understand each other better.  Too good to be true?  Well, Frank Chen takes us through those positive arguments.  (Frank Chen, a16z)

Here’s why we’re entering the Golden Age of Podcasts
Our Man has been an avid podcast listener for many a year, and it seems that 2018 is the year they finally broke into the mainstream.   Perhaps, the hit podcast Serial was the gateway drug for folks.  This article shows the state of podcasts in 10 charts, with some thoughts on what’s next!  (Dave Zohrob, Chartable Blog)

The Hunt for Planet Nine
Mike Brown is the “Pluto Killer”; a man with dozens of astronomical discoveries to his name, including the dwarf planets Sedna and Eris.  Konstantin Batygin is a renowned theoretical astrophysicist, who at age 22 mathematically proved our universe is unstable (don’t worry, we’ve got a few thousand years before Mercury crashes into the sun, or Venus!).  After analyzing historical data, they proposed in January 2016 that there was a giant planet orbiting far away from everything.  The hunt is on to find “Planet Nine”, and this is their tale.  (Shannon Stirone, Longreads)

Amazon’s Anti-trust Paradox
The history of anti-trust in the US is a surprisingly interesting topic, from its use to break-up Standard Oil in 1911 to its subsequent over-reach in the 1960’s and 1970’s, which saw Robert Bork redefine the term “competition” and paved the way for today’s University of Chicago inspired laissez faire approach.  Lina Khan’s article, combined with the discussion around ‘Big Tech’, has perhaps paved the way for a new interpretation of anti-trust law.  (Lina M. Khan, Yale Law Journal)

Half-Baked Idea: Chinese A-Shares

[Quick thing: OM changed the provider that sends these emails out, so hopefully you’re all receiving this.  I’d say holler if you’re not, but err…hopefully, the new ‘advanced’ software will let me know you’re not (or at least didn’t open this email) else this bit is all a bit moot!]

This is something OM has been pondering for a couple of months; though, he thought (and still thinks, even with the big move in A-Shares) that it would be a late 2019/early 2020 trade.  

This idea is all about pattern recognition, backed up by a collection of circumstantial evidence so it will always be a more speculative idea.  That doesn’t mean OM won’t take a position in it at some point, though it would likely be a 6-18mos trade and thus not a huge position.

The above is a long-term OEW technical chart of China.  If you look at the lows (05/06, 08/09, 13/14, and now 18/19….even back to 94/95) – all down 50%+ from prior peak.  All were followed by sharp rises in the following years.  If history is a guide, or at least could rhyme a little, this C-wave should last ~2years and if the last few bull markets are anything to go by, the IRR could be spectacular.  For comparison, post-06 the market was up 500% in ~2yrs, post-08/09 it more doubled in about a year, and after the 13/14 low it almost tripled by mid-2015.  In the case of both post-06 and after the 13/14 lows, the rally started off slowly before going exponential towards the end.

So the technical perspective is that we potentially saw a new major low at the end of 2018.  In the short term, MSCI’s recent announcement of mid-2019’s large increase in China’s weighting in the MSCI Emerging Market Index has helped the new bull market establish itself.

Given this good news, why does OM like the ~2 year time frame?  Well, he rather suspects it fits well with the Communist Party’s incentives.  Consider the following timeline:
- 2021 is the Centenary of the Communist Party of China's founding, marking the start of the “two centenary goals”*.  The goals were put down in writing at the 18th National Congress (in 2012) when Xi Jinping became leader.  Xi has subsequently linked them to the “Chinese dream”.
- 2022 sees the next National Congress where Xi likely to be the first leader to run for a 3rd term.

The Party has a strong incentive for China to go into those two events with a strong economy.  That means using 2019 to sort out some of China’s imbalances - and the trade dispute with the US provides great cover/excuse for this, whether there a deal or no deal!  This will prevent overheating when China stimulates and allows them to stimulate aggressively in 2020 to ensure a strong 2021-2022. 

So now you know the half-baked idea, expect an update if OM is putting it into the book.




*The other centenary is that of the founding of the People’s Republic of China in 2049.