Fourth Quarter 2015 Review

Portfolio Update  
- Equity: Our Man added to the position in VIPS, after the company disappointed the market with its earnings and guidance early in Q4.
- International: Our Man exited the position in Greece during December; while the Greek market looks cheap on a long-term basis (CAPE), there remain questions about how useful the Greek data is.  The data-set starts in ’95, and hence predominantly covers the period when Greece was trying to get into and then a member of the Euro.  As such, how truly representative is this period? Does it just reflect a time of unusual ‘good’ behavior by the actors – government, companies, etc – in Greece?  Given the continued austerity as a condition of remaining with the Euro and the uncertainty (while it’s not at the forefront of people’s minds, currently) of whether it will remain so, Our Man decided it best to (finally) just cut his losses and move on.  Those of you, who’re pondering “what’s changed” are largely right…it’s a decision Our Man should have come to some time ago.
- Currencies: The position S Japanese Yen (YCS) was closed out during the fourth quarter, having been profitably held (at various sizes) for over 2 years.  While there may be more actions to come from the Japanese Central Bank, Our Man isn’t convinced they’ll have as much of an impact as those we’ve seen over the last 3 years.

Performance and Review  
The portfolio gained 4.3% during Q4, though this meant it still ended the year in negative territory at -4.6%.  Despite the profitable quarter, Q4-2015 is likely to go down as one of Our Man’s most disappointing.  During the quarter, and especially in December, there were many signs of both macro changes (including weakening US data) and in market tone – in particular with regards to China (further RMB weakness and concerns over its banking system) and credit markets (Third Avenue’s redemption suspension from their credit fund).  These factors impacted the portfolio negatively in December (and subsequently January), and Our Man failed to respond to them proactively.  Thus, rather than the normal round-up of a quarter, the below represents both a round-up coupled with Our Man’s current thinking and plans on the various books.

China Thesis: While the moves in the Australian Dollar cost the portfolio 64bps, the Long USD/S AUD position contributed 2x this during the course of the year.   OM retains the position, expecting a substantially lower AUD (i.e. more like the 2001 lows than the 2008/9 lows) as the unwinding of the China-driven secular bull market in commodities continues.  Unfortunately, while OM expects the AUD position to continue to be a good contributor it’s an inefficient way to play the thesis, but the other options (S the RMB or Shorting 2nd derivative stocks from the mining/commodity fall-out – I’m looking at you CAT) aren’t available to him.

International/Country:  Was a great contributor, +335bps, during the 4^th quarter.  The performance was driven by the Argentina exposure; Macri (the most market friendly candidate) did better than expected, initially forcing a run-off which he subsequently won.  Since he took office in December, he has been better than anyone could hope for; removing capital controls, making changes to the tax system, replacing the Central Bank Governor and the Head of the Statistics office, and even starting to negotiate with the holdouts which would bring Argentina back to the global capital markets.  Stocks have responded to these moves, but OM trimmed the position during January – while Argentina is a great alpha story, it’s a terrible beta one as a Latin American emerging market (look at Brazil, for what could go wrong) in what’s become a less patient and forgiving environment.

The European positions were mild detractors in the case of Spain and Italy, and a continued disappointment with regards to Greece.  Our Man’s never been a huge Europhile, so he’ll spare you the Europe is a “political construct not a popular one” comments, and just say that in times of stress (be it caused by Euro, or now the refugee crisis in Syria that’s impact European countries) he has little faith in “Europe” making sound long-term decisions.  As such, after exiting Greece in December, Our Man exited both Spain and Italy in January – they’re still ‘cheap’ and he hopes to be back, though it may be a while!

Equities:  The equity book was a mess in Q4, despite the rising markets, costing the portfolio 125bps.
- JD/VIPS were hit by China concerns and VIPS, in particular, produced disappointing numbers which it also handled ineptly (deciding to pre-announce on a Friday, a couple of days before their Earnings announcement).  While growth is decelerating, unlike most Internet companies VIPS generates profits and thus can be valued off earnings (rather than revenue, or clicks, or whatever).  The stock trades at a reasonable PE (14x 2016) while still seeing 40-50% top and bottom line growth!  Despite this, OM reduced the position in January while also exiting JD (which doesn’t generate any profits)
- The two Indian positions were also disappointments.  Tata Motors (TTM) continues to roll-out new models (especially Land Rover and Jaguar) and they’ve been doing well, but was hit by concerns that the auto cycle has peaked (especially in China, and important market).  While it may outperform other automakers, it’s another good alpha/bad beta story, and OM would rather keep his Argentinean exposure, hence he sold out of the position in January.  Dr Reddy’s problems were largely of its own making, which at least gives it the opportunity for self-help going forwards.

Technical: The Technical book contributed 261bps during the 4^th Quarter from the OEW-driven positions.  Unfortunately, there were some signs in December that the market’s bull run had peaked, after the S&P failed repeatedly to break to new highs (which were expected), though no sell signal was seen.  Unfortunately, the sharp descent early in January produced the sell signals, and OM exited the positions (at around the current levels).  Given the OEW-driven model has signaled the end of the 2009-2015 bull market, OM doesn’t expect to have any positions in the Technical book (without substantial market changes) until we’re into 2017.  He is however, working on another (very simple) model to add to the book – as with the OEW-driven model, the new one will seek to help OM get over his skepticism and systematically add market exposure for prolonged periods.

Currencies:  The currency books continued to be productive, adding 56bps in Q4.  As noted, OM has closed out the Short Japanese Yen position, but he retains the Short Euro position (EUO).  With the Federal Reserve raising rates in December and Europe continuing to try and ease (or at least Draghi trying to convince investors that’s the intent) there is a nice dichotomy in policy.  Hopefully, it will last.

Precious Metals:  Our Man wasted almost 300bps in 2015, by entering these positions both too early and sizing them too big.  Unfortunately, OM continued to pay for his inaction after recognizing this relatively early-on.  Despite costing the portfolio 28bps in Q4/December, there were finally signs that the time may finally be here for them…though a large part of any move, is merely recouping losses.

Portfolio (as at 12/31 - all delta and leverage adjusted, as appropriate)
35.0% - Technical Book (DDM, QLD and SSO)
31.4% - International/Country (EWI/EWP in Europe, GVAL, and Argentinian names)
23.5% - Equities (JD, RDY, TTM, & VIPS) 
9.1% - Precious Metals (GDX, GLD and SLV)

-11.3% - China-Related Thesis (CROC – Short Australian Dollar) 
-15.6% - Currencies (EUO – Short Euro)

5.1% - Cash 

Disclaimer:  For added clarity, Our Man is invested in all of the securities mentioned.  He 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.