Maglan Capital increased in value by 1.93% (net of all fees) during the month of May.
For 2015, Maglan Capital has increased 22.29% (net).
In the most recent 3 years, Maglan Capital has averaged an annual gain of 51.92% (net).
The US market is currently in a mature phase of the economic cycle (arguably, we have been there for some time, and we may be there for another year or two). Over the past 5 years, the size of investment targets that satisfy Maglan Capital's “core investment” return criteria1 has come down, from well over $1B to closer to $250mm. That is representative of other data points, which indicate that we are nearing the end of deep-undervalue in equity investments. Therefore, although our current core investments continue to have sizable room for growth, we are vigilant about the circumstances that will frame the next downturn. And, therein we are seeking solid investment opportunities (short and long) for our portfolio.
Maglan Capital - Investment priorities since the Financial Crisis
In the wake of 2008, there have been a number of priorities that have shaped the ensuing regulatory and legal reforms and recalibrated investor sentiment, including, transparency, liquidity and systemic risk. These priorities are especially true as they relate to securities’ investments (directly or indirectly).
The foregoing priorities have led to changes in investment banks’ trading and investing activities and their required capital cushion. These same factors have led to more transparency and regulation of investment managers. On the whole, investment banks and traditional investment managers involved in securities, form the middle of the liquidity and transparency spectrums. They have received the brunt of the scrutiny since the crisis.
In contrast, since the crisis, investors have flocked en-masse to the ends of those spectrums, chasing “liquid” products to no end and encouraging unregulated asset managers in unregulated illiquid and opaque assets (e.g. real estate, peer-to-peer lending, venture capital). Furthermore, they have induced some investments to be morphed into “liquid” instruments and they have fueled frenzied valuations in illiquid assets.
In every financial product cycle, if technical drivers are strong enough or the herd mentality is pervasive enough, or both, there will be a point of indiscriminate demand. In response, financial product designers and marketers are always happy to oblige.
Maglan Capital - "Liquid" Products
One fear that gripped the investing public in 2008 was illiquidity. Instantly, the ability to quickly convert assets to cash (which isn’t always to an investor’s benefit) became a top priority, which hasn’t worn off. Moreover, as long as a product is packaged and sold as "liquid", many complacent investors have come to rely on packaging and solely thereby achieve the necessary level of comfort.
Charged with the demand for liquid products, financial product designers and marketers have sought to provide investors with more "liquid" investment products. Now, 6 years into a rising market and an economic recovery, desire for "liquid" products hasn't abated and financial product designers and marketers have taken almost every conceivable product- liquid and illiquid- and have attempted to package it as liquid, in the form of ETFs (exchange-traded fund), UCITS funds2 or a "liquid alternative" (an alternative '40 Act fund; “LiquidAlt”).
Maglan Capital - Liquid offerings with Illiquid underlying assets
One of the cardinal rules of investing is that an investing vehicle can never be sold on more liquid terms than the underlying asset. When the getting is good, only a smart investor discriminates. When the proverbial s--t hits the fan, and the herd demands to cash out, only then do the masses realize their folly.
Many ETFs, UCITs funds and LiquidAlts have truly liquid underlying assets and are properly structured. However, as the recovery has worn on, there are more of each that are being constructed that do not have underlying assets that are as liquid as the derivative product or are not as liquid as advertised. Currently, there are thousands of ETFs, over 500 LiquidAlts and the total UCITS funds’ AUM is greater than €200B, representing one-third of the total AUM of the Alternative category in Europe. Although by definition LiquidAlts and UCITS funds are alternatives and are supposed to mimic alternatives, like hedge funds, all three products have current offerings which include many less liquid and illiquid underlying assets. Moreover, there is now an ETF for every asset class flavor, some that are way off the path of liquidity, and some ETFs are thinly capitalized and traded.
Some of these offerings will seize-up even upon the mere feeling of a chill in the market, let alone what will happen in the event of an all-out freeze. Moreover, as long as the heat runs high, product developers and marketers will venture further afield to satisfy investors' appetite.
Maglan Capital - The Search for Fixed-Income in a No-Income debt environment
As a result of the Financial Crisis many fixed-income products offered by banks and others as more liquid than their underlying assets came under fire and scrutiny, such as, CLOs, CDOs, hard-money/direct lending funds, and auction-rate securities. The Financial Crisis proved to be the ultimate in illiquid environments. And, as a result, many of these products became illiquid and subsequently were either outlawed for banks, obsolete or reformed.
Since that time, these products have risen again. Some are being offered with better controls (CLOs and CDOs), but some are now offered and controlled by unregulated, unconstrained non-banks or “shadow” banks and are packaged in a more dangerous way than before. The investing public's desire for liquid products and the exclusion (by choice or by regulatory force) of regulated participants from the businesses has driven the resurgence. However, the most important factor for growth in these “yielding” products is the Fed's rescue package for the economy, which has included an extended low-rate policy that has fueled an unending quest for a fixed-return of decent size (which isn't a high bar these days; but it will be getting higher).
As evidence of the power and size of non-banks, in April, 53% of the Government-backed securities originated in the residential home-loan market, came from non-bank mortgage originators, such as Quicken Loans and LoanDepot.com. That is the highest percentage ever. These entities have less regulation because they are funded by investors, rather than by capital from bank depositors. In the commercial loan market, direct-lending funds, which also don't use depositors' capital, surged to $30B in 2014. And, BDCs (business development corporations), many of which have credit-lines with banks (which could cut back on lending at any time), jumped to $55B in 2014, from $17B in 2010.5 All of these "shadow bank" activities are not constrained by federal lending guidelines, like the Fed's leverage-lending guidelines issued with the Office of the Comptroller of the Currency and the FDIC, and many smaller participants are not even regulated by the SEC.
The most extreme form of the lending frenzy in our view is peer-to-peer lending. Peer-to-peer lending (P2P) has grown like wildfire due to the desire for yield and the ease of transacting through the use of technology. P2P is expected to reach $77B this year, a 15x increase from 2012. In our view, peer-to-peer lending is hard-money lending for the masses, and portions of the hard-money lending business were rocked very hard in the Crisis. The growth