ATG Portfolio 6 Month Check-up

I suppose it’s my turn to provide a quick take on the current make-up of ATG’s portfolio and thoughts on specific equities.  While I have a few regrets (such as not buying Royal Caribbean at moMANon’s behest in hopes of buying a little cheaper and not picking up a larger entry position of Whitewave Foods), overall I’m happy with the current makeup of our portfolio and the various trades over its first 6 months.

ATG Snapshot 10-30-14

 

  1. OZM- At 16% of invested capital, Och-Ziff is our largest holding in the portfolio, more as a result of picking up more shares on weakness than overt confidence. I am extremely interested to see how their third quarter earnings pan out on November 4- the beauty of this stock is that they distribute most of their earnings as a dividend and it’s priced so cheap that their funds only need to gain a few ticks above 0% to generate adequate profits.  The downside is that that they primarily play in international alternative investments, an area where getting a few ticks above 0% is no easy task in today’s environment.  I’m a HOLD on this one.

 

  1. ESV- Admittedly, I keep getting this stock wrong. It has been the worst performer of the ATG portfolio, with an unrealized loss of 13.5% to date.  Plummeting oil prices coupled with concerns about over supply in the offshore rig industry have outweighed positive earnings results, a stable balance sheet, attractive dividend yields, and continued backlog of revenue for the company.  Perhaps this is my version of the Ackman-Herbalife complex, but I’m convinced that ESV is destined to turn around- today’s earnings announcement of a solid beat and 3.2% gain is a good start.  It’s hard to find a best-in-class company that generates ample profit, cash flow, and trades at a price below net book value of assets, even after excluding intangibles.   I’m a believer in Ensco, but keeping a HOLD rating relative to the ATG portfolio given our large position.

 

  1. GOOGL- I like monopolies, low leverage, strong revenue growth, and cutting edge technology investments at a price equal to the average S&P P/E ratio. STRONG BUY.  We’ll be adding more soon.

 

  1. VNM- Vietnam index, this is a tough one. I like this play a lot in the long run, but I’m annoyed by  the nature of emerging market ETF’s like this where  local players can anticipate the ETF buys for particular stocks in advance and move the market (increasing the ETF basis);  I’m also cautious about emerging markets in general over the next couple of years.  I think we’ll see a lot of volatility here and will need to buy on dips/ maybe sell on big upswings over the next year or so, hence the HOLD/ WATCHING WITH CAUTION rating.

 

  1. HTZ- Hertz is a fascinating story, not too dissimilar to WTW: incredible overall market demand drivers for the industry but company-specific misteps and under-performance.  If you missed my prior post on Hertz, check it out for more detail on why I’m intrigued, including how Carl Icahn bailed my ass out of the initial trade.  We’re back in now that the stock has plummeted from $31/ share to around $20 share and has removed their CEO.  While there may be some short-term turbulence as they eventually re-state their earnings and name a new permanent CEO, I’m extremely bullish on this stock over the next 12 months.  STRONG BUY.

 

  1. DE, PHM, DNOW, CLNY- I’m going to pull a Bill Simmons and group all these stocks together because (i) I’m lazy and (ii) they all share the similar characteristic of being what I consider relatively safer, industry leading stocks at attractive P/E ratios that I don’t lose any sleep over. We’ll buy on dips but they also aren’t likely to sky-rocket any time soon.  The overall theme is increased importance on agricultural equipment/ farming efficiency, eventual millennial movement towards starting families and moving into new homes, continued energy/ oil industry growth in the US via a Warren Buffet supported spin-off, and attractive risk-adjusted real estate returns via a super smart shop that plays in both debt and equity (including rental residential).

 

  1. WTW- In the last 3 months, Weight Watchers notched a staggering 53% gain from $19.25/ share to $29.42/ share before dropping 13% today despite a healthy earnings and revenue beat (but a 12% reported loss in overall membership). We’ve done well on this stock, and any reader of this blog knows that I’ve been cheer-leading it for over a year (admittedly more in bad times than good).

 

After reading the earnings transcript, the clear strategy set by new CEO Jim Chambers,  and witnessing the measureable improvement of Weight Watcher’s technology presence (app integration with fitbit, iphone6, jawbone, etc.) I remain a steadfast  believer in the stock.

 

The only caveat is that I actually did a little “gonzo investment research” and joined a new weight watchers group through my company to see what the program was like from the inside.  I lasted one meeting- out of the total 18 people in attendance, there were literally 17 women staring down the 1 man with total disdain.  I knew that Weight Watchers was overwhelmingly women, but I never fully appreciated the company’s challenge in attracting men to their onsite meetings until being there in person and feeling the awkwardness.  I was very impressed by the initial Simple Start program and could immediately see the benefit of their group weight loss approach, but I think the programs need to be separated by gender if they ever hope to gain critical mass from the dudes.  They also need a dude sponsor that men can actually relate to: Jonah Hill or Seth Rogan need to get fat again!!

 

-Maverick

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What is the Millennial Trade?

Family in Front of House

I don’t understand millennials.  But I realize that needs to change if I’m going to continue investing in the stock market.  As the largest demographic since the baby boomers enters adulthood, their behaviors and preferences will obviously play a dominant factor in determining which companies succeed and which companies bomb out over the next several years.

We’ve all heard the sweeping generalizations about the 80 million or so millennials out there:  urban dwellers, renters, entitled career climbers, more health conscious, more burdened with debt, more attention seeking, more comfortable challenging authority, more liberal, more diverse, negative patience, and more talented than any generation before it.  

This post could go in a lot of different directions, but I want to focus on one trend that is being driven in part by millennials, which is the significant increase in both new supply for apartments and rental rates, particularly in urban infill locations and cities with strong job growth trends like Denver, where I live.  To give you an idea of how hot the rental market has become in Denver, average apartment rents have increased 9.5% in the last 12 months alone despite delivery of almost 10,000 new units, which is more than what was delivered in the last 10 years combined.  Up to this point developers can’t build new projects fast enough to meet the demand of young professionals who (i) want to live in an urban environment, (ii) can’t afford a down payment on a house, and (iii) are willing to pay whatever it takes to have the newest space in the heart of the action.  This trend is certainly not unique to Denver- it comes as no surprise that multifamily REIT’s are up over 30% in the past year amidst the perfect storm of rising rents and record low interest rates.

I get that the urban density trend is not going away any time soon and that millennials think about housing differently than prior generations, but I recently came across a few data points relative to Denver that have led me to believe that the rental market is officially jumping the shark.

According to a recent study by Zillow, typical renters in Denver are spending 31.8% of their income on rent compared to 21.6% historically.  Additionally, average rents in Denver have risen to $1,712 per month, compared with a median mortgage payment of $1,375.

When I see the data above, all I can think to myself is (i) there is no way that spending over 31% of your income on rent is sustainable or desirable under any circumstance, and (ii) I suspect this is driven more by the circumstances of millennials (single with debt) than their true long-term preferences.  We won’t know how deeply entrenched millennials’ views on urban living are until they start having families and are faced with more difficult consequences and trade-offs of the urban vs. suburban environment.

I’m fairly confident I know the answer to both questions above, but the tricky part is the timing.  (It’s like shorting treasuries- eventually everyone knows that rates are going up, but anyone who has shorted them so far has likely been crushed due to poor timing.)

All this rambling leads me to the conclusion that I’m interested playing the overheated rental market by looking at the home builder stocks, particularly KB Homes (KBH), Pulte (PHM), or maybe Taylor Morrison (TMHC).  Despite rising home prices and low interest rates, the home builder stocks haven’t seen the same kind of appreciation that apartment players have experienced.  In fact, many home builder stocks are actually down over the past 12 months (KBH, for example, is down 1% over the last 12 months and Taylor Morrison is down 14%).

I find this particularly strange because in a place like Denver, the existing home sale market is also on fire- there is virtually no inventory available and multiple buyers are showing up the day most homes are listed.  My personal observation has been that most people with children and funds available for a down payment are seeking a very similar style of living that was preferred by prior generations.  There may be little nuances about proximity to public transportation or willingness to forego big lawns, but I think that the home builders are poised very well to benefit from millennials in the manner that apartment developers have seen to date- especially since they seem to be willing to pay up for quality new construction.   In fact, I would think that the apartment REIT performance and Home Builder stock performance should eventually converge given how close the cost of renting has come to the cost of home ownership over the past year.  That could mean a huge drop in multifamily REIT values to meet up with home builder stocks, a “meeting in the middle” of both asset classes, or a big rise in home builder values to catch up with the multifamily players.  2 out of the 3 scenarios result in home builder stock appreciation.

From a valuation and financial stability standpoint I feel OK about buying some home builder stocks today:  PHM, KBH, and TMHC all have attractive forward P/E’s between 9 and 12, ample land inventory, strong revenue growth over the past year and great reputations for being quality home builders.  When looking at debt levels and Price/ Book, however, one group stands out from the pack:  Pulte Homes (PHM)- they have shockingly less debt than their competitors (0.4 debt/ equity ratio vs. upwards of 3.5 for TMHC and KBH), ample cash,  and an attractive Price/ Book ratio of 1.5, which his below the industry average of 1.8.  As a result is doesn’t come as a surprise that PHM is the one stock in the group that has seen some decent price appreciation in the last year at 11%.

I have surveyed several smart people about their views on the home builder market, including two seasoned professionals in the industry.  While they generally agreed with the long-term demographic factors favoring home builders, there were some valid short-term concerns raised such as timing on millennial taste-shifting, overhang from the huge run homebuilders have already experienced in the past 5 years, rising construction costs, and rising rates.

Before investing I need to do some more research and dig deeper into their filings to confirm that the business is poised for growth and well positioned against its peers, but I think the time is ripe to add a home builder to the ATG portfolio.  This is just the first of many “Millennial Trades” we’ll ponder in building a portfolio that can withstand, and prosper from the onslaught of these strange beings.