Klarman returns cash via Grant’s Interest Rate Observer, see this article for background.
Klarman returns cash
On stage at the Grant’s conference, seated on a bar stool, Seth Klarman corrected a misapprehension. This is not the first time The Baupost Group LLC, over which he presides, has returned cash to its investors. “Actually, it is the second,” he said. ‘(We returned some cash at the end of 2010 as well…. There are two or three reasons we reached the decision to return cash at the end of this year. Number one, around 50% of our assets are in cash, and that’s a very high absolute number, now around $14 billion and rising. So we look at it both as a percent of the portfolio, where 50% is a very sizeable chunk, but also $14 billion is always a lot to put to work. For most people, it is a big-sized fund, and that’s how much we have in cash on top of the other $16 billion that we have invested.
Also, we look hard at our organization. I think one of the things that helped us be successful for 31 years is a very healthy fear of things we don’t understand, of the unknown, of not remaining humble. We literally worry every day: ‘Will we find another good idea and where might that be, because we want to find. it.’ Growing an organization from $27 million in 1982 to $30 billion, which we hit just last month, is really complicated.
A lot of people who have tried will tell you the same thing, that you are at enormous risk all the time and, in some sense, hurting the virtuous circle that got us to where we are. The virtuous circle of good process, good record attracts good clients, attracts good people, and all of that feeds into itself successfully. But if we try to keep going-$35 billion, $40 billion, $50 billion-we would potentially start letting down our guard. We would start looking at other places, like that old joke about where the light is. I don’t want people at the firm saying, IWhere’s something big I can work on?’
“If we were sure and had high conviction that the world was going to collapse in ·the first quarter of 2014,” Klarman went on, “we wouldn’t return the cash. We would keep going because our batting average would go up so high that everything we looked at would be cheap, like it was in 2008. So it’s really not a statement or prediction.
It’s a statement about our own limitations, our own capacity constraints, and our desire to be excellent way into the future, which means not getting bigger than here.
None of us know what the level of stock prices would be, what the level of corporate earnings would be, or of course where interest rates would be were it not for all this,” Klarman said concerning monetary policy. “There will be a day when the world looks very different …So when we rack our brains-how might we protect ourselves-we’re looking for cheap optionality, Of course, rates will be higher at some point, but I admit to being completely wrong that the government could control, or at least have a giant impact on, short-term and long-term interest rates for this long. I don’t know where rates would be if not for all this QR and bond buying and expansion of the Fed balance sheet. So what we come up with over and over is gold, the one place you probably want exposure.
The cool thing about gold is that the whole market cap of it is fairly limited, lifting costs are rising so much that it’s hard to imagine substantial new supply coming from anywhere, although you never know. And because option pricing tends to be based on the assumption of continuity of markets, it’s not crazy to imagine that the solvency of the United States might, at some point, be called into question, whether people were no longer willing to buy our bonds at all for the yields that were anything like today or maybe ever, because; -of course, the higher the yields go, the worse we look; gold is the thing that will react. And if gold got discontinuous, if gold went to $3,000, $5,000, or $10,000 an ounce, we think buying options on gold is the most interesting hedge. They are expensive; they expire worthless all the time, Clients ask how you could be so stupid, So those are hard things to deal with. But I’ll feel stupider not owning them than I’ll feel owning them, so that pushes me over the edge to buy them.
“Gold stocks are in as bad a bear market as you can imagine,” Klarman said. “They barely respond to gold going up. They respond to gold going down in a big way. So I think exposure to gold is interesting, but I’m not sure. r think this is a characteristic of us. We’re not sure about lots of stuff so we don’t create a gold-backed fund. And we don’t bet the ranch on gold, but we have 1.5% of our assets exposed to gold. If gold goes through the roof, that will be worth five, 10, 20 times what we have in it. And if gold doesn’t work, it doesn’t work, and hopefully, our portfolio will be okay without it. I feel like part of our obligation is to protect our clients’ capital, including purchasing power. And so I feel an obligation to do my best to do it. We haven’t thought of anything else that would do a better job than gold, and we have to force out of our heads the problem that in the short run it is trading like crap, hasn’t worked at all in the last couple of years, and might underperform for a long time, But it will always have that optionality that it works in a very short period, and we will all wish we were exposed. And it might be too late to get the exposure by that point.”