April 3, 2018
An Hour With Ben Graham
This interview took place on March 6 1976. At the time, a struggling insurer, Government Employees Insurance Company (GEICO) was making headlines as it teetered on the brink of bankruptcy. Ben Graham understood the opportunity GEICO offered, and that’s where the interview began. Ben Graham and his partners had, at one time, been significant shareholders Read More
The Greenlight Capital funds (the “Partnerships”) returned (13.6)%,1 net of fees and expenses, in the first quarter of 2018. During the quarter, the S&P 500 index returned (0.8)%.
In our history, we’ve had five other quarters with a greater than 5% loss. In four of those, there were clear world or market events that provided a simple explanation, and in one, a few positions in our portfolio went wrong at the same time. This period has not been like any of these. No events or individual positions stand out. Our losses were broad throughout the portfolio, but generally shallow. We had nine positions (six longs and three shorts) that each cost more than 0.5% and only one (Micron Technology) that generated a gain of over 0.5%, despite our portfolio having a decent earnings season.
We looked at our 20 largest longs and 20 largest shorts to see how many had positive and negative earnings reports announced in the quarter. We defined positive and negative on a case by case basis, based on what the market seemed to care about. For example, Tcmpur Sealy International met EI3ITDA and earnings expectations, but missed on revenue. The market cared more about the revenue miss so, for the sake of this exercise, we called that a miss. Similarly, Netfiix (NFLX) missed EPS expectations and guided to much higher than expected future cash burn, but exceeded revenue and subscriber targets. The market loved the release, so we counted NFLX as a beat. All told, of our 20 largest longs, we judged 13 to have beaten expectations, 4 to have met expectations and 3 to have disappointed. Of our 20 largest shorts, 9 beat expectations, I met and 10 missed expectations.
We then looked on a weighted average basis at how the stock prices reacted on the first trading day after earnings were announced. Not surprisingly, the longs that met or exceeded expectations (representing 89% of capital) advanced around 2% and those that missed (17% of capital) fell about 8%. For the shorts, those that met or exceeded expectations (representing 29% of capital) rose 7% and those that disappointed (28% of capital) fell almost 5%. While there is some asymmetry in the longs versus shorts, the reaction to earnings announcements generally made sense. On the one day when investors received actual information about companies, more often than not the market prices followed the reported results.
The problem was… all the other days. For the quarter as a whole, the longs that met or exceeded expectations wound up losing 4%, and those that missed fell 17%. The story on the shorts was even worse. Shorts that exceeded expectations finished the quarter up 19% and stunningly, the shorts that missed expectations also finished up 5%.
. Similarly, Netflix (NFLX) missed EPS expectations and guided to much higher than expected future cash burn, but exceeded revenue and subscriber targets. The market loved the release, so we counted NFLX as a beat. All told, of our 20 largest longs, we judged 13 to have beaten expectations, 4 to have met expectations and 3 to have disappointed. Of our 20 largest shorts, 9 beat expectations, 1 met and 10 missed expectations.
We acquired our long investment in Chemours (CC) at an average price of $6.97 in the fourth quarter of 2015 after concerns regarding legacy environmental litigation exposure, elevated leverage, and a cyclical decline in titanium dioxide pricing caused the shares to decline following the spin-off from DuPont. Ultimately, the litigation was settled at a manageable cost, the TiO2 cycle turned, and CC’s next generation refrigerants gained share. We exited at $31.62 with a large profit.
Fortunately, we only “rented” a small number of shares, and exited at $149.89 with a medium loss.