Earlier today, we posted Dan Loeb’s September Stat sheet, which discussed his new stakes in Greek Government debt and Murphy Oil Corporation (NYSE:MUR). We have just obtained a copy of his Q3 letter.
Dan Loeb starts off with a talk about the difference between Q2 and Q3. He notes
After a poor Second Quarter in which fears about macroeconomic contagion caused a capital flight from risk assets, the Third Quarter rewarded stock picking and event-driven situations. Mirroring the First Quarter of this year, our portfolio benefitted from strength across strategies, geographies, and sectors. We matched the market’s 6.4% gain with significantly less exposure. Remarkably, our best performer was a special situation investigative short which imploded, declining over 50% and contributing nearly 1% to results. Core positions like Delphi (DLPH), Ally Financial and Gold (GLD), which suffered in the Second Quarter, rebounded along with the markets.
Loeb could not help take a swipe at President Barack Obama and Ben Bernanke, stating; Keeping in mind the present climate of cross-currents of dovish global monetary policy propping up markets (and incumbent politicians’ popularity despite policies effectively transferring wealth from savers to speculators, something lost on most followers of the populist leaders.
He revealed that the fund was up 10.9% for the year, as we reported earlier.
Loeb discusses his stake in Greek debt, and confirms that it is a long position, as we correctly hypothesized. Loeb notes:
I give a holler to my sisters on welfare
Tupac cares, if don’t nobody else care
And uhh, I know they like to beat ya down a lot
When you come around the block brothas clown a lot
But please don’t cry, dry your eyes, never let up
Forgive but don’t forget, girl keep your head up
And when he tells you you ain’t nuttin don’t believe him
And if he can’t learn to love you, you should leave him
Cause sista you don’t need him
And I ain’t tryin to gas ya up, I just call em how I see em…
I’m tryin’ to make a dolla outta fifteen cents”
-Shakur, Tupac. “Keep Ya Heads Up.”
Loeb states, ‘based on our analysis, we anticipated a strong reaction from the ECB and steadily increased our European credit exposures through July and August, including purchases of Greek Government Bonds (“GGBs”).’
Greece has remained the most stubborn and opaque piece of the European puzzle. The country’s grim economic prospects and history of political shenanigans have rendered its assets untouchable to all but a handful of small emerging market distressed investors. In March, Greece’s Troika (the European Commission, the International Monetary Fund, and the European Central Bank) of official sector creditors agreed to release the first installment of a €175 billion funding package in exchange for private creditors being haircut to ~25% (this haircut is commonly referred to as the Greek “PSI”). After the money was released, multiple elections caused delays in implementing PSI-mandated budget cuts and left Greece limping into September short on cash and friends while desperately in need of both. The “Strip” of newly-issued Greek Government Bonds given to PSI creditors (20 individual bonds that mostly trade bundled together with an average maturity of ~20 years) traded from ~25 to ~14 cents on the dollar, reflecting harsh recovery expectations for a predicted default. We believed this Strip price implied that a Greek exit from the Euro was a near certainty, which seemed unlikely to us based on our differentiated views of the European situation.
We initiated a position in the GGB Strip at ~17 cents in the Third Quarter based on the view that incremental funding in isolation would likely be enough to drive Strip pricing into the low 20’s (where it is today). For the Strip to have substantially more upside, however, Greece must display more resolute program compliance, show some economic recovery, and eventually address its debt sustainability.
In order to fully evaluate the potential remaining upside in the GGB Strip, we sent our well-traveled European credit analyst to Athens. Our meetings convinced us that Greek officials strongly believe that the painful Troika program implementation is a far superior option to leaving the Euro. On that trip we also discovered several “green shoots” emerging in the Greek fiscal position which also appear to be widely ignored by the broader market. Greece has demonstrated impressive spending controls, with its 2012 budget largely on track despite a significant shortfall in receipts due to worse than anticipated economic conditions. While Greece is still grossly overleveraged at 170% debt to GDP and the Strip price appears to anticipate another restructuring which will subordinate private creditors, we believe another PSI is highly unlikely given the Strip’s air tight documentation, governed by UK law, which explicitly ranks it pari passu with the debt held by the Troika. Even in the event there was a large scale restructuring where both private and official creditors took haircuts of 15% to 25%, it is likely the Strip would still appreciate significantly from 20 as exit yields of 10% to 12% would be reasonable given the country’s reduced leverage as a result of any restructuring.
A clear commitment to keeping Greece inside the EU, combined with resolute program compliance, some amount of Official Sector Involvement (“OSI”) and a bottoming out in the Greek economy should move the Strip from trading at assumed recovery levels to bonds priced on a yield basis. If in a year from now the Strip’s average yield reached 15%, it would be priced at ~30, representing ~50% upside. If in a year from now the Strip were to yield 12.5%, it would be priced at ~40, or ~100% upside. While these scenarios may appear unlikely today, we take comfort in remembering how fast perceptions can change; Portugal’s longest dated bond, whose 2037 maturity is 4 years longer than the weighted average maturity of the Strip, had a peak yield of ~11.7% in February 2012 and reached inside of 8% in September. We expect Greece to keep its head up and undergo a similar metamorphosis over the next few quarters. And while we may not achieve the over six-fold return that Mr. Shakur (Tupac) earned plying his trade, we believe the potential risk-adjusted return on GGBs is more favorable,
For the new position in Murphy Oil Corporation (NYSE:MUR), Loeb notes:
Third Point owns a significant stake in Murphy Oil Corporation (NYSE:MUR) and recently filed for Hart-Scott-Rodino approval to increase our position should we so desire. If Murphy Oil Corporation (NYSE:MUR) pursues the steps outlined below, we believe its shares could be worth in excess of $90, an increase of about 60% from current levels.
Equity: American International Group, Inc. (NYSE:AIG)
We originally purchased American International Group, Inc. (NYSE:AIG) shares in March after identifying the US Treasury’s impending sales of its American International Group, Inc. (NYSE:AIG) holdings as an instance of one of our favorite types of investments: “forced” (or non-economically-motivated) selling. We determined Treasury was both anchored to its $29 cost basis and intent on exiting its position as soon as possible, allowing us to purchase American International Group, Inc. (NYSE:AIG)at a discount to intrinsic value.
Full letter embedded below: