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Teton Capital, Stung By Short Exposure, Puts It On A “Leash”

When Austin, Texas-based Teton Capital Partners looks back at 2017 they bemoan short exposure. After delivering investors 52% returns in 2009, 2017 was “disappointing.” The $1.2 billion long / short fund only returned 9.3%, less than half that of the S&P 500, for instance. But when looking at this performance also consider the long / short ratio, which is currently tilted to the positive and would benefit from strong economic tailwinds, according to a letter to investors reviewed by ValueWalk.

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Get ready for Trump to hit the economic gas pedal

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The current stock market rally, flying higher in the face of near panic among some political analysts, could get even hotter.

With wage inflation not appearing in official government statistics, the stock market could remain hot, particularly if infrastructure spending is added to the economic mix, a topic being monitored by CLSA’s Christopher Wood.

If this were to occur, Teton Capital Investors might see the benefit accrue from two performance drivers. First, there is the overall beta market environment of price persistence which could lift all boats higher.

The strong economic tailwinds could drive stock price trends higher, Teton likely hopes, and their idiosyncratic stock picking differentiates itself from the pack.

Consider their investment in Interactive Brokers, a stock that delivered $74.2 million in profits to Teton investors. If the economic engine is driven hot – some analysts are upping their GDP forecast to 3% while Treasury Secretary Mnuchin’s 4% number might not be so far-fetched in contrast to his dollar thoughts at Davos.

Former Treasury Secretary Larry Summers, in a rare rebuff of a sitting Treasury Secretary, indicated Mnuchin was failing on both style and substance as he said a lower dollar would help US manufacturers. Mnuchin was correct in pointing out that a lower dollar helps one constituency – US-based manufacturing firms – but talking about keeping the dollar low doesn’t benefit the multi-national corporations.

Teton might have strong 2018 performance depending on the short exposure, which is a double-edged sword

If Mnuchin’s optimistic economic forecast is even close to accurate, both Interactive Brokers, in particular, could benefit from a high flying stock market, as well as the fund’s long exposure.

Watching Teton’s long exposure is not just a US adventure.

US stocks represent $224.6 million of exposure but international companies are tallying a notable $130.6 million.

If you can’t find value in overpriced pastures in the US, why not look at E-Mart, a South Korean grocer that delivered a 67% return last year, making this, at $76.4 million in profit, Teton’s best long performer.

Teton bought and owned the stock into several obvious headwinds, not the least of which was threatened war with North Korea. They noticed the stock trading at nearly a 50% discount at the start of 2017 and then pounced.

The play was not only on fear – the Korean Won price appreciation was a critical performance driver, fund management acknowledges – but the market position and opportunity was appetizing as well.

The problem with Teton’s 2017 was not picking the winners – they searched all over the globe and their longs were up 39.7%. The problem was finding the losers.

The fund has meaningful “battle wounds” resulting from its short stock selection, a topic the fund had been warning about in their March, June and September quarterly letters. While short exposure has been hurting, it wasn’t long ago in 2008 when “the short portfolio saved the fund from an otherwise disastrous year.”

Short exposure – predicting a stock’s demise -- has typically been the most difficult component of long / short ratio management. Going forward, Teton plans on “keeping a tight leash on existing and potential new short positions.”

Teton notes that there were lessons learned, stating:

There are lessons to be learned with every failure. In the case of our 2017 horrid performance on the short side the big ones are:
- If there is a forecasted fundamental speed bump in one’s short thesis that will last greater than one quarter, there is no reason to hold the position through that speed bump. Cover and re-evaluate later. Not following this maxim cost us at least 300bps of gross performance during 2017.
- The combination of an excessively promotional CEO, a large theoretical TAM (total addressable market), and an underlying bullish equity backdrop can prove disastrous to the short seller regardless of the starting valuation point. These positions if held at all should be constrained regarding position size until it becomes clear market enthusiasm has turned.

Operational

Jia Zhu formerly of Seafarer Capital joined the fund

The letter states that "the Fund will most likely remain closed throughout 2018"