Whitney Tilson in his email discusses his two favorite long ideas: Howard Hughes & Fannie Mae; Why is the Obama Administration trying to keep 11,000 docs dealed?; “Li Lu’s reflections on reaching fifty”; ‘customers first’ to become the law in retirement investing; Zillow’s defense: executive was erasing porn and Of Permanent Value.
Whitney Tilson: 2 favorite long ideas: Howard Hughes & Fannie Mae
1) A friend asked me this past weekend what my favorite long idea is right now and I struggled to answer, which really struck me because I almost always have a few pound-the-table buys at the top of my mind. What a sign of how much the markets have rallied in the past couple of months – I had a ton of favorites amidst the market sell-off earlier this year. In fact, I went back and found an email that I sent to this list on Jan. 18th, in which I wrote:
After a nearly seven-year bull market, a ~10% pullback doesn’t mean stocks in general are cheap. For example, I went to a CJS Securities conference last Wednesday at which 48 mostly small- to mid-cap companies presented and, other than PAH (which I own), I didn’t find any other companies whose stocks looked interesting. This is consistent with the fact that I haven’t added any new positions to my portfolio since Spirit Airlines a few months ago.
Baupost’s Seth Klarman: the Fed has broken the stock market [Q4 Letter]
Baupost founder Seth Klarman told investors that the large amounts of stimulus that have been poured into the world's economies are masking the severity of the problems caused by COVID-19. Q4 2020 hedge fund letters, conferences and more In a letter seen by the
That said, though they could fall further still, I’m happy to add to a few of my favorites: HHC at half of its intrinsic value (even if you value its Houston properties at zero; see Todd Sullivan’s excellent presentation a year ago, posted here), Berkshire at nearly 30% below IV (see my slides here), Spirit Airlines at 9x earnings (with a huge tailwind from low fuel prices), Canadian Pacific at 10x earnings, etc.
Since then, here’s how these five stocks have done relative to the S&P 500:
All but one have outperformed the S&P 500’s ~11% gain, with CP and Spirit up the most (which is why I’ve trimmed both a bit, for risk/portfolio management reasons only). And the only laggard is HHC, which is one reason why it’s my current favorite “normal” stock idea (see below for my “abnormal” stock idea). Here’s what I wrote about it recently in my Q1 letter to investors:
The Howard Hughes Corp.
When General Growth Properties, our most successful investment ever, emerged from bankruptcy in early November 2010, it did so as two companies: General Growth Properties (GGP), which had all of the best malls, and Howard Hughes (HHC), a collection of 34 master planned communities, operating properties, and development opportunities in 18 states. Soon thereafter I sold GGP, but held onto HHC (thank goodness, as the stock has tripled since then) in the belief that while most of its properties are generating few if any cash flows and are thus very hard to value, the company has undervalued, high-quality assets in premier locations and that there are many value-creating opportunities that can be tapped.
In July and August 2012 I visited four of Howard Hughes’s properties that account for two-thirds of the company’s book value: Summerlin (Las Vegas), The Woodlands (Houston), Ward Centers (Honolulu), and South Street Seaport (NYC). In all cases, I was extremely impressed with the properties, the managers running them, and the development plans underway. I also got to know HHC’s CEO, David Weinreb, who’s a brilliant entrepreneur with a long, highly successful track record in real estate development.
At that time, when the stock was in the $65 range, I estimated (see this slide presentation) that HHC’s intrinsic value was ~$125/share and loaded up on the stock. It was a great call, as the stock steadily rose to above $150 in mid-2014, where it stayed for most of the subsequent year. Since then, however, the stock has sold off hard, falling to a low around $80 in mid-February before rallying today’s level of $103.56.
The primary reason for the stock’s decline is the collapse in the price of oil, which hits Houston hard, which in turn has caused investors to fear the impact on two of HHC’s major assets, master planned communities The Woodlands and Bridgeland, which are located just outside of the city. This concern has merit: as HHC noted in its Q4 earnings release a couple of weeks ago, “Our Houston MPCs are experiencing lower land sale volumes than in prior years due to the impact that the severe decline in oil prices has had on the Houston economy…land sales decreased (44.4%), or $(60.3) million in our Houston MPCs [in Q4].”
That said, I believe the stock’s selloff is hugely overdone for a number of reasons:
- The Houston economy is no longer as dependent on oil as it once was, so its economy is holding up reasonably well so far;
- The Woodlands and Bridgeland are located in Houston’s thriving suburbs and cater to a higher-income demographic, so they should do better than Houston as a whole;
- HHC carefully controls all development and sales in its MPCs, so there’s low risk of overbuilding and distressed sales;
- The Houston MPCs account for only ~25% of HHC’s total value, so the stock is cheap even if you value them at zero;
- The rest of HHC’s portfolio is doing very well thanks to the company’s superb execution. Development continues apace at Ward Center in Honolulu, Downtown Summerlin in Las Vegas is booming, the new Pier 17 at South Street Seaport is opening in just over a year, and the company just sold one asset there for $390 million.
HHC is very difficult to value with precision, so I hesitate to give a precise number, but I’m highly confident that it’s worth at least $150 and probably more than $200 – and rising at a solid clip – so this is a stock I hope to own for many more years.
Whitney Tilson: Fannie Mae – Why Is the Obama Admin Trying to Keep 11,000 Docs Sealed?
2) Fannie Mae (or Freddie) is my other favorite stock idea, albeit an “abnormal” one because it’s a mispriced option – I think there’s a decent chance it could be a 10-bigger, but the single most likely scenario is still a zero, so size it appropriately. This is what I wrote about it in my last email:
Fannie Mae (in which I have a ~3% position) was up 34% yesterday and is up another 12% today because, at long last, the truth is coming out: the government seized all future profits of the GSEs (via the 2012 “net worth sweep”; note that this was not the original bailout, which nobody is challenging) not because they feared ongoing losses, but precisely the opposite: because they realized Fannie and Freddie were about to become massively profitable.
The testimony by the former CFO of Fannie is so damning to the government’s case:
In a deposition taken last July, for example, Susan McFarland, Fannie’s former chief financial officer, said she told high-level officials at the Treasury on Aug. 9, 2012, that the company was, in fact, “now in a sustainable profitability, that we would be able to deliver sustainable profits over time.”
…In addition to telling Treasury officials in early August 2012 that Fannie would be able to sustain profits, Ms. McFarland said that Fannie could soon reap about $50 billion in income because of the reversal of an accounting entry, known as a deferred tax asset, required under accounting rules when the company began earning profits again.
…In her deposition, Ms. McFarland said that she believed her conversation with the Treasury propelled the government to change the terms of the bailout to seize Fannie’s and Freddie’s profits. “When the amendment went into place,” Ms. McFarland testified, “part of my reaction was they did that in response to my communication of our forecasts and the implication of those forecasts, that it was probably a desire not to allow capital to build up within the enterprises and not to allow the enterprises to recapitalize themselves.”
By acting quickly (and then lying about it to hide their true intent), they would achieve two goals: a) solve a political problem (shareholders, especially big hedge funds, profiting from entities bailed out by the government; though this was no different from AIG); and b) get access to a ton of cash flow that could be allocated for the government’s purposes rather than rebuild the GSE’s depleted capital bases (with some to shareholders).
Mark my words: this is the turning point. Now that the lie has been exposed, the courts will overturn this illegal seizure and the stocks of the GSEs will be multi-baggers from here.
Here’s Matt Taibbi’s take on this situation, from the latest Rolling Stone:
Translation: We’re taking all your money, not just the money you owe.
In court filings later on, the government offered a strange excuse for this sudden and dramatic change in the bailout terms. It explained that at the time, the GSEs “faced enormous credit losses” and “found themselves in a death spiral.”
The government claimed that the poor financial condition of the GSEs would force the Treasury to throw more money at the operations, increasing the total commitment of taxpayers and leading quickly to insolvency. It absolutely denied any foreknowledge that the firms were on the verge of massive profitability.
It got weirder. Despite the fact that the GSEs went on to pay the government $228 billion over the next three years, or $40 billion more than they owed, none of that money went to paying off Fannie and Freddie’s debt. When Sen. Chuck Grassley asked aloud how it was that the company and its shareholders were not yet square with the government, the Treasury Department testily answered, in essence, that the bailout had not been a loan, but an investment.
This was not a debt that could be paid back. Like a restaurant owner who borrows money from a mobster, the GSEs found themselves in an unseverable relationship.
Remember, the other bailout recipients after 2008 were mostly all allowed to pay off their debts as quickly as possible, to get out from under restrictions imposed upon them by the government. Firms that took bailout money were allowed to pay far earlier than expected, in less than a year in some cases, allowing companies like JP Morgan Chase, Goldman Sachs and Morgan Stanley to get out from under executive compensation restrictions and other temporary reforms.
Not Fannie and Freddie. The much-loathed mortgage giants were kept in a perpetual coma, neither fully alive nor dead, and forcibly converted into a highly lucrative, and highly irregular, revenue source for the federal government.
All of this behavior prompted a series of lawsuits. Shareholders in Fannie and Freddie were naturally more than a little pissed at having the government permanently forestall any chance they might have at ever having their investments in the company pay off.
In the discovery battle in these suits, the government’s pleas for secrecy were so extreme that it asked for, and received, “attorneys’ eyes only” status for the documents in question. This meant that not even the plaintiffs were entitled to see the raw papers. This designation is usually reserved for cases involving national security or proprietary business secrets.
But there were no nuclear codes or plans for next-generation cell phone technology here. Instead, it was just a very strange history of government officials expropriating a monster pile of cash from a pair of political-albatross mortgage companies.
Why the extreme secrecy? The seven documents unsealed by Judge Sweeney last week offer only a hint of a reason. The materials are definitely embarrassing. Among other things, they demonstrate that not only did the government know the GSEs weren’t in a “death spiral,” it was actually quite confident in their future profitability well before it changed the bailout terms. Then and now, government officials lied about what they were doing, and why.
Whitney Tilson: Li Lu’s Reflections On Reaching Fifty
3) My friend and fellow value investor, Li Lu, who works with Charlie Munger in Pasadena, just turned 50 (a milestone I will reach, kicking and screaming, on 11/1) and posted this on his Facebook page (shared with permission):
Reflections On Reaching Fifty
Li Lu April, 2016
I was born in April of 1966, on the eve of the Cultural Revolution. Soon after, my parents and grandparents all lost personal freedom simply for being intellectuals. So I spent most of my childhood rotating between adopted families of peasants and coalminers. From that “promising” start, looking back, I’m amazed as to the long journey that I have taken to bring me here today in America.
I could never image that life would turn out this way. It takes countless bridges, roads, means of transportation, and years of effort to travel this far. The countless people in my life — kind-hearted strangers, well-wishers, mentors, partners, friends — are my bridges, roads, transportations for getting here. Without your help, friendship, and constant encouragement, I simply couldn’t travel this far. So on my fiftieth birthday, my heart is filled with gratitude to all of you, all of my friends, here and elsewhere. From the bottom of my heart — thank you thank you and thank you!!!
If I have anything to do with that journey, it is simply that I took it. Woody Allen is right, 90% of success is to show up. At various stages in my life, I could have stopped, or took the long rest. For some reason, my heart told me otherwise. I just kept going. Half of the time, I wasn’t sure where I was heading. The other half I was probably taking the wrong turns. No matter.
But I was on high alert to correct mistakes along the way. I was careful not to be influenced by emotions that I know are poisonous and counter-productive to the journey I want to take; things like envy, resentment, hatred, jealousy, greed and self-pity. I certainly wasn’t born with immunity to this side of human nature. In fact, my early life experiences may require me to work even harder than others to guard against these human vulnerabilities. And when I did fall for their prey, or when I took a wrong turn, I was fortunate to be able to correct them quickly. Socrates was right, unexamined life is not worth living, certainly not living well. Every once in a while, I would sit down alone to figure out where I might be wrong. Sometimes, what is wrong today is what was right in the past. As circumstances change, so should we. In my experience, every five to ten years or so, I had to change so much of myself that at times it felt like almost a reinvention. I’ve been blessed with the faculties of rationality that help me to form the habit of self-examination. And when I fail in self-examination, I’m even more blessed to have some strong friends who can point out my blind spots. I would have been lost in life’s various mazes if I had not gotten that help.
So through the tumbling and zig-zags, I kept going while at all time insisting on sitting in the driver’s seat. It is my life and my journey after all.
And now that I have made it through the first half, it is time to examine again for the second half.
According to Confucius, at fifty, one should know his purpose in life mandated by Heaven above. In other words, what your life was meant to be. Having been very close to fatality a few times in my life, forgive me if I say I actually believe in Confucius’s dictate. Having done relatively well in additions in life, I’m slowly learning the art of subtraction and focus.
I will fail in a lot of professions. For example, I won’t be good at ballet or basketball for that matter. My temperament and experiences prepared me well for a career in investment. I was extremely lucky to be introduced into the field by the greatest investor who ever lived when I accidentally stepped into a lecture by Warren Buffett at Columbia nearly 25 years ago. And it was even more magical 13 years ago when Charlie Munger became my investment partner, mentor and life-long friend. To this day, I don’t know to what I would attribute this extreme fortune. It is something even the wildest imagination or the best fiction could not conjure.
Now that I have compiled a record of my own for over twenty years, still enjoy the game even better than when I started, I think I will simply continue. I’m curious to see how long I can follow the great record set by my teachers, Warren and Charlie, that is by now well over fifty years. Not for the size of asset under management, not for the fees, just keep a score card the way a golfer would after each round and after a life-long career. So value investing is likely a life-long pursuit for me.
Having lived my life so far nearly evenly divided between the US and China, I’ve come to learn something unique about the two countries, cultures and myself. For years, I struggled to fit my own identity into both, often with poor results. It is as if the two cultures ran in different parts of my body — constantly fighting each other for supremacy. But I have learned tremendously in the process. In my 40’s, the two cultures finally came to peace with one other inside me, and I have come to identify myself as both 100% Chinese and 100% American simultaneously. And better still 1+1 is greater than 2. Through the culture lenses of both, I now see a few things neither Chinese nor Americans can see easily. That gives me a unique perspective of looking at both countries, and therefore able to tell one’s story better to the other, and then some more. Indeed, I think 1+1=11 in this case. Therefore, I feel it is both a duty and a pleasure to do so for the country and people that I love most. So this will be another thing I will focus on the second half of my life.
I have three lovely children. They are beautiful, talented and kind-hearted. I’m most proud of them. I love them so much that I will never want to burden them with a large amount of inherited wealth. Instead, I’d love to have my girls join Eva and me in giving responsibly to make the world a better place. In particularly, we want to focus on things I have some knowledge of and care deeply about — to make US and China understand each other better and to make quality education more available to deserved young people.
Lastly, reaching 50 probably makes me closer to the end than to the beginning. Regarding age, my favorite quote comes from Norman Lear. At 94 he is still active in so many different things, collecting fans who are in their 80’s, 60’s and all the way down to the 20’s. I once ask him how old does he think of himself. Without missing a beat, he said, “I’m always the same age as the people I talk to.” Now, that is a cool answer! Ever since, I’ve been paying close attention to who I am talking to ;-) Now that I’ve officially crossed the half time line, I really need to make more young friends as my new teachers so that I can stay fresh.
So my friends, may we all grow wiser with age and younger at heart always.
Whitney Tilson: ‘Customers First’ to Become the Law in Retirement Investing
4) It’s about time this became the law:
The Labor Department, after years of battling Wall Street and the insurance industry, issued new regulations on Wednesday that will require financial advisers and brokers handling individual retirement and 401(k) accounts to act in the best interests of their clients.
The government move is expected to encourage a shift of retirement funds into lower-cost investments — potentially saving billions of dollars for many ordinary investors — while setting off one of the biggest upheavals in the financial services industry in decades.
“The marketing material that I see from many firms is, ‘We put our customers first,’” Thomas E. Perez, the secretary of labor, said in an interview. “This is no longer a marketing slogan. It’s the law.”
The new regulations, which may be challenged in court, were proposed a year ago by the department — which oversees pensions and retirement accounts — and were modified after hearings and industry criticism. They are not expected to take effect until next spring at the earliest.
Many consumers assume the individuals and firms investing their money are operating under the same sort of ethical and legal standards as a family doctor — someone who is obliged to provide the very best advice.
But brokers are generally required only to recommend “suitable” investments, which means, for example, that they can push a more expensive mutual fund that pays a higher commission when an otherwise identical, cheaper fund would have been an equal or better alternative.
The Obama administration, relying on extensive academic research, estimated that conflicts of interest embedded in the way many investment professionals do business cost Americans about $17 billion a year, leading to annual returns that are about 1 percentage point lower.
“It has the potential to really change the way advice is delivered to retail investors,” said Barbara Roper, director of investor protection at the Consumer Federation of America. “It is a really big deal. Revolutionary, even.”
Whitney Tilson: Zillow’s defense: Exec was erasing porn
5) Now this is a novel (and hilarious) defense!
A Zillow executive at the center of a $2 billion lawsuit alleging the theft of trade secrets is claiming he wasn’t trying to destroy evidence when he tried to erase all the data on his home and work computers.
Instead, Curt Beardsley’s destructive urge erupted in an effort to cover up his hard-core porn habit, Zillow claims in court papers.
…Zillow, led by Chief Executive Spencer Rascoff, contends their actions, which extended to the use of “burner” phones for calls between the company and the two execs soon to join it, were not designed to hide or eliminate evidence. They were, rather, to protect Beardsley’s “deeply religious” reputation.
“Beardsley launched the deletion or ‘cleanup’ programs to hide what he regards as a shameful history of regular visits to hard-core pornography websites,” Zillow claims in court papers.
“He struggled with his pornography usage, and did not want his new Zillow colleagues, family, or those in the industry in which he worked to know about it.”
Beardsley’s smut-removal efforts erased most of his work-related data from both laptops, including any trade secrets they may have contained. But they didn’t erase all traces of porn.
The laptop returned to Move still had evidence of visits to a couple dozen explicit sex sites, such as “naughtyirishgirl,” according to testimony from a digital forensic expert.
Whitney Tilson: Of Permanent Value
This revised book begins with 25 fresh photos of all the people who work at Berkshire Hathaway headquarters. The first chapter takes an expanded look at Precision Castparts, the aerospace firm that is Berkshire’s largest acquisition to date. Precision supplies parts to almost every plane in the sky. This 1304-page edition has 2100 photos, most of which are in color. The book recounts Berkshire’s rise from a struggling textile mill. Although the textile business eventually died out, Warren Buffett and Charles Munger diverted money from that business into stocks, bonds and insurance and other companies and nursed it until became one of the largest companies in the world, one with a stock market value today of about $350 billion. All these years the famous annual meeting in Omaha was closed to outsiders. But now the meeting will be shown by webcast to all the world as interest in the company reaches a new high.