Crescat Capital On The “Bill Gross Widowmaker Trade”


ValueWalk’s Raul Panganiban interviews Crescat Capital’s Kevin Smith And Tavi Costa, discussing their trade of the century idea. In this part, Tavi and Kevin discuss how should people prepare for the upcoming bear market, US versus Germany 10 years spread, Meb Faber podcasts, and their favorite books and hobbies.

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Raul Panganiban: All right. Yeah. So just want to know, how, how should people prepare for the upcoming bear market? And yeah, what should they be doing?

Kevin Smith: Well, we certainly think it's, it's not too late to be looking at you know, not being so heavily long of the US equities in general. We think that there are a lot of opportunities still on the short side of the market. There are a lot of macro opportunities out you know, outside of just trying to buy and hold Value oriented equities. We think there are some niche value areas particularly in the precious metal space, some in the healthcare space and now Now certainly starting to emerge in the energy space. Although we view the energy logs that we have in our hedge funds, we don't have any yet in our, in our long always strategies. You know, we we kind of view those as hedges right now. Because, you know, we think there still could be more pain ahead in the energy sector but but there is definitely some deep value starting to emerge and you know, when there's blood in the streets like there was yesterday, you know, after after a sec. A, you know, the oil and gas EMP and services sector has already been as decimated as it has been, you know, really that those stocks started going down in 2014 in late 2014, when China really first started to first big you know hiccup and and so there's some opportunity even there today if you can find the ones that aren't going to go bankrupt or maybe on the distress credit side of that that sector but there's just a tremendous amount of opportunities precious metals obviously and and on the long side and and and you know eight different sectors that we see opportunities still on the short side there's some insane valuations software stocks trading at 20, 30, 40 times, EV to sales, some of them not even free cash flow positive.

Industrials, you know, technology stocks, you know, I know that the you know, the typical FANG stocks and the Apples of the world are, you know, are great companies and they have great margins of free cash flow, but You know, the Amazons of the world, they're, they're cyclical companies do and they have a lot to lose a lot of a lot of free. You know, a lot of, you know, there's a lot of peak earnings that you can see in those companies as well in this cycle, and there will be downturn ahead for, you know, for those companies too.

Tavi Costa: Also offer an alternative year, which is, you know, one trade that we find interesting is to be long treasuries and short German bones, for instance, the convergence of the interest rates between the two countries not did not just the two actually there are some others like, you know, the Japanese yields, as well as another one, the Italian yields, and so forth. I think that others, you know, usually especially the German bunds, when you look at the chart of 10 year yields differential between the two countries, they tend to converge, especially when you're at the peak of the cycle and starting to turn and I think that's exactly what Racine today, I think there's a lot more to play out in that, in that in that trade. Now in terms of how to how to really protect and how to, I think that will depend on in terms of the risk appetite of each investor. But, you know, cash gold treasuries still look attractive and a and if you're willing to, to, to go to the short side, I think that's the short. The case for for be short stocks is incredibly compelling still and I think it's still has a lot to play out. So and that is just a way of actually growing capital or just protecting I would say when.

Kevin Smith: Yeah, to add a little bit on the Treasury side of things. I mean, certainly yields heartbeat come down quite a bit and in a very short period of time here on on the on the Treasury curve. And you know that that has been a trade of ours in the global macro fund. We've been we've been long, ultra, you know, the ultra long bond and the Treasury long bond versus a short basket of European sovereign debt and Japanese government bonds, that that trade has worked remarkably well this month. And very recently, I think there's there's more to go there. But it's important to have that hedge side of it on the, on the shorting the European and jgb sovereign debt because because yields have already come down so much. So it's really the spread narrowing that we're playing it. It's yet another uncanny macro timing indicator of a business cycle downturn when that when that yield spread starts to converge of us yield versus European yield, for instance, like Toby was saying, and it really has started to, to converge. We kind of call that to Bill Gross Widowmaker trade because because he was very early on that on that bond spread. It didn't work for him, but you look at it now. And it's it's happening either. So I would just caution against, you know, I know a lot of people have been saying buy treasury bonds. That's your hedge for a downturn, and it has been it's worked great. We look at risk parity. It's such as Popular strategy and we at one point, we thought, we're going to be in a risk parity unwind where both both bonds and stocks were going to stop working at the same time, while the bond side of the risk parity actually did did work, even though apparently I've seen the most risk parity funds. Were record long on the equity side here recently, which may make that that trade not look so good here, among most risk parity funds recently, but yeah, they got it right. Again, on the bond side, it's not always going to work out on that bond side, especially now with with how we think the Fed is going to come in and that's why we think having the precious metal long side of it is so important, there is a chance that we could come out of this, you know, with a more inflationary type of cycle and that, you know, and it could be the end of a 40 year, Bond bull market, it may not be the end until bond yields get to zero percent and they very well may get to zero percent in this cycle. But then Um, but then you know, we're gonna have MMT fiscal and monetary you know stimulus at the same time and that ultimately just record global debt to GDP bubble that we're in right now, we think is going to be resolved with with with rising inflationary kind of kind of a scenario but but perhaps not before we can get through this deflationary initial part of of the global downturn.

Tavi Costa: It's why the spread trade becomes so attractive because you know, it's one way to hide yourself as well fields already had a big move on the downside in the US, but then you would expect that German bonds would also move up a little faster than than treasuries and a lot of ways and I think that's why you see throughout this periods of, especially now and looking back in history, other times when these imbalances begin to sort of unfold, but it's time to reduce risk and reduce interview cyclical bats right now. In search for safe havens instead and, and it's not too too late so to look for those.

Raul Panganiban: Definitely, you know, I encourage everyone to check out the article that you put out the tide is going out and seeing that chart the US versus Germany 10 years spread. It's very interesting and I'm glad you guys are putting out your research for everyone to read.

Kevin Smith: Thank you. You bet is as you know, as a global as a hedge fund. One thing that makes us different is that we do have an open website and we're able to and we were happy to share our research. It's how we bring headsail we let people know about who we are and hopefully we can attract like minded investors, investors who really buy into our process and our research because that's what we're what we're looking for. And you know, most hedge funds out there, you know, are kind of old school and to have a lockdown website, but we are under this JOBS Act. You know, we went on Under the 506 c regulation where we we validate all of the investors that come into our hedge funds to make sure that they are accredited. And that's the key there. We can only take accredited investors into our hedge funds but we have the other two strategies for for non accredited investors and that's our to SME strategies. Think the precious metals strategy that we launched last year was up 61% in its first year, had a big pullback here recently. And we think that that creates an incredible opportunity today to for for, for accredited as well as non accredited investors. And so we encourage you to check out our website and read our letters and follow us on on social media. We're on Twitter and LinkedIn and Tavi's also on Instagram.

Tavi Costa: I've been trying it all.

Raul Panganiban: Nice. Yeah. And I see you guys had a YouTube channel as well. Get videos on there as well.

Kevin Smith: Yeah, we're trying to get more active with that we have our the webinar that we that we did three weeks ago which is on that channel. We encourage you to take a look at that.

Raul Panganiban: Yeah, definitely. And I know a lot of this conversation has probably seen kind of negative. But the one I think was on the Meb Faber podcasts that you guys were on reinvention genomics, that theme so yeah, if we can end with that. What do you see is the future for genomics and how was or what are you observing the industry as a whole?

Kevin Smith: Well, I personally get excited about the a lot of the the science and the technology in terms of the ability to help cure diseases and, and, you know, come up with vaccines and whatnot. So I think there's a lot of exciting things going on there on there. You know, it's one of the health healthcare industry and the drugs. The drug industry and healthcare sector are one of the areas of the market that does off have some value. Currently. You know, there's there's also a lot of, you know, frothy companies there too. And it's really it's hard to determine who are going to be the winners and the losers. You know, we, you know, there. There are a few companies there that we own that are just your big biotech companies with diverse pipelines. We own Amgen and Bristol Myers Squibb, for instance, or two I would point to, as well as Gilead Sciences we don't own Gilad because of the of the vaccine for Ebola that might also be used for Coronavirus. We don't go ahead because they have a deep pipeline of securities. And and I think it's something like a 12% free cash flow yield. You know, they have drug secure aids and cancer and I mean aids aids and Hep C. They're leaders in their, in their, in their industry. Where's Bristol Myers has got a huge cancer franchise and they cure cancer so you know those those are two places that one can look today on that side of things. There's certainly some more exciting things on the on the genomic revolution side of things that that we're going to be more interested in getting back into more in the depths of the recession that we don't own them today.

Raul Panganiban: And then switching over to some personal questions. What are your favourite books?

Tavi Costa: I have a few. A few that I read recently. 'The Art of Speculation' was the book. I think Sam Zell wrote a book, 'It Might Be Too Subtle' is another good story of a successful investor overall, and almost like a, you know, like him as a macro thinker as well, very smart guy. And more recently, I've been reading a book called 'The Chinese Invasion Threat', it says sort of a history of Taiwan and China, you know, issues that they had in the past. And anyway, so that those are the ones that I've done. And obviously 'Market Wizards' are, you know, always always great books to look at for investment ideas in terms of processes and different ways of thinking about the markets.

Kevin Smith: So from for me, I'll just mention one and that's 'The Big Short'. And what I you know, what I like about The Big Short is really, it's not about the ultimate and yes, it's about the ultimate success, but it's not ultimate success. That's the lesson to take away from that, that book, it's the, you know, it's the endurance and the short term pain that that, that those those managers really had to go through. And that any value in you know, really true value investor I think we'll have to go through to see their positions to fruition and, you know, it's about having conviction and doing your analysis doing your homework and being able to have the fortitude and strength of your conviction to ride you know, ride the volatility of the markets food to till the end and, and that's, you know, that's what we're about here here at crest scat. And, you know, it's not just about being short, you know, I'll say it again, we are not perma bears. I've had you know, you know, many great stock ideas and money that I've made on the long side, and I'm determined to do even better than I've done that in past business cycles. In this next you know, business cycle. It's Expansion but right now the opportunity we think is, is, you know, certainly on the down on the short side of a lot of things.

Raul Panganiban: Yeah and now I can only assume one of your hobbies would be tennis. But do you have any hobbies you'd like to talk about?

Tavi Costa : Yeah tennis definitely up the playing call it so it was still played occasionally. But I think that a long distance running has been sort of a recent passion a new hobby for me and I enjoy doing the things like marathons and I enjoy the training process is a great way to practice. You know, patience and discipline, but also a good time for for sort of organise your thoughts and listen to audiobooks and good interviews while you run and I think that has been really great to keep myself healthy at the same time. Get some clarity outside of being in the monitors to all the time.

Kevin Smith: For me, one nice thing about living in Colorado is we have great skiing. And that's one of the reasons I moved here 25 years ago. So I, you know, I like to, I like to ski in the winter, I like to play golf and tennis in the summer in Colorado is great for that as well.

Raul Panganiban: Very nice. And then you guys is closing thoughts?

Kevin Smith: Well, I think, you pretty much know what we're all about it at this point. And I'd really encourage you to take a take a look at our website, follow us on social media. You know, we you know, we've got some exciting things here with a lot more to play out for investors who might be interested in in, in allocating some capital towards towards Crestcat. So we are certainly open for business in that way as well.

Tavi Costa: Yeah, and I would add, I would add, I think it's You know, is the focus to to truly profit from what we believe to be the greatest macro setups we've seen or careers, at least my career can say, and I think Kevin's too, but not just to grow our business, but also, you know, evolve as investors in general. I think there's a lot of opportunity here to in the markets and, you know, we're very focused on capitalising, all of those, hopefully in the next one, two years with all this all this imbalances that we see macro wise.

Read the full interview here