Matrix Capital, the hedge fund started by “Tiger Cub” David Goel, returned 8.3% net in the second quarter of 2016, outperforming the S&P 500 index which returned 2.5% over the same period. To the end of June Matrix returned -2.3% net, according to the fund’s second quarter letter to investors, a copy of which has been reviewed by ValueWalk.
Matrix’s underperformance this year is a blemish on the firm’s highly impressive record.
Since inception (October 1999) Matrix has produced a return of 446% net to investors, outperforming the S&P 500 which returned a lackluster 125% over the same period. Last year, Matrix produced a net return of 16% for investors with a net exposure of 67%. The fund’s average net exposure since inception is 47%.
For the quarter Martix’s public securities portfolio had an average adjusted net exposure of 69%, average adjusted gross exposure of 118% and 17.7% volatility. The S&P 500 index had 13.7% volatility for the quarter. At the end of June 2016, Matrix’s public securities’ portfolio had long exposure of 98%, a short exposure of -27.9% gross exposure of 125.9% and net exposure of 70.1%.
Matrix Capital outperforms thanks to four key themes
During the second quarter, Matrix outperformed due to four key positions. Pandora Media contributed 3.9 percentage points of return for the fund as the share price gain 39%. Second, the fund’s enterprise software portfolio of Workday, Tableau, New Relic, Xero and LinkedIn contributed an aggregate 3.6 percentage points of return. The third positive driver of returns was a 2.5 percentage point contribution from the fund’s ‘capital allocator and consumer brand positions’. This portfolio includes holdings in TransDigm, American Tower, Constellation Brands, DaVita, and LKQ. The fourth and final driver of returns for the quarter is Matrix’s short book, which contributed 1.7 percentage points of return during the period.
In regards to short positions the company does not mention any but hints at a short in First Solar, Inc. (NASDAQ:FSLR) and Mobileye NV (NYSE:MBLY) if one takes quick look at the math – both companies are popular shorts among hedge funds. One position is closed FSLR so it is likely that MBLY is still an open short. Matrix Capital states likely regarding MBLY:
The largest negative contributor was our largest short position, whose share price appreciation in the quarter cost the Fund 2.0 percentage points of return. This share price increase was caused by favorable investor response to some headlines about partnerships and future products. Our ongoing diligence, which includes attendance at industry conferences and harnessing the insights of a network of industry veterans and specialized consultants, informs us that the company’s press announcements overstate reality, and that competitors are gaining traction with comparable products at lower prices.
Regarding the probable MBLY short – Matrix Capital states further:
• Our automotive semiconductor short was a negative contributor in the quarter, as the stock gained 24%. In May the company reported in-line earnings and reiterated its annual guidance, an unimpressive result in our view in light of the stock’s high valuation. The share price held flat after the earnings report, but appreciated rapidly in June as the company aggressively marketed itself to investors, first highlighting several impending future development partnerships with auto OEMs, and second announcing a roadmap to co-develop technology by 2021 with two well-known partners. In our view, investor enthusiasm is misplaced, as neither announcement alters the company’s trajectory or valuation. Management had already mentioned its OEM partnerships in prior earnings calls, and its new technologies already exist. Our ongoing primary research with customers, competitors, and partners in the quarter suggested that competitive pressure continues to increase at both the point solution and system levels. We maintain high conviction in our short.
Interestingly, another prominent Tiger Cub, Lone Pine Capital is or was LONG MBLY – despite the fact that Tiger cubs many times have overlapping positions.
On the other hand Citron Research tends to agree with Matrix Capital and stated in a recent report:
“There is NOTHING in the past or present financials, business performance or realistic future technology prospects of Mobileye that would get it within miles of justifying its current $12 billion market cap.
Mobileye’s management is riding the hype cycle of the “self-driving car” story, a decades-long high-stakes technology bet which the operators of this small fabless chip manufacturer know they can never be a serious player in.
Investing in this company is a losing bet on a blue-sky future that just does not exist. This is not merely the opinion of Citron– it is the actions of management who have spoken with their dollars – loud and clear — selling stock more aggressively than Citron has ever witnessed — as documented in this report.”
On the probable FSLR short, Matrix Capital states:
Our short of a solar equipment manufacturer and developer was profitable in the quarter, as the share price dropped 21% from its price at the beginning of the quarter to our average exit price. Our short thesis was threefold. First, our research suggested that the company was over-earning on a number of projects in which costs came down much more quickly than expected, yielding unsustainably high margins. Second, our diligence also suggested that competitive intensity was increasing, driving pricing down and yielding much lower margins prospectively. Third, we believed that the expected expiry of a U.S. renewable tax credit pulled forward several years’ worth of projects into 2016, yielding a weak new project pipeline. The net result of these elements was that we believed consensus earnings expectations for 2017 were materially too high. As it turns out, the company’s April investor day confirmed our view and, more importantly, served as the negative catalyst for significant downward earnings revisions and the stock price’s decline. We covered our short position once it reached our price target.
Matrix: Making the most of volatility
Reading through Matrix’s second quarter less to investors, it becomes apparent that the fund is not overly preoccupied with an impending market collapse as many of its peers appear to be. Instead, David Goel writes in the letter that he and the rest of the team at Matrix are using market volatility to add to high conviction positions. During the second quarter, Matrix added over $800 million to its best ideas at attractive prices. Specifically, David Goel writes:
“Our 17 years of investment experience managing the Matrix Capital Management Fund have taught us that stock market volatility creates significant opportunities to drive investment returns. As we wrote in our Q1 2016 letter, we have learned not to conflate volatility with risk, but rather to generate our company specific valuations and return targets from our deep proprietary diligence…”
“In the first half of 2016, we took advantage of the stock price volatility to invest or reinvest in companies we understand and have researched for many years by purchasing over $800 million of our best ideas are prices we emphatically believed would generate attractive returns.”
This gives the critical insight into the way Matrix operates and to some extent explains the fund’s outsized returns