“But he seemed like such a nice man. It never crossed my mind he could be a crook.” This sentence has been said about Bernie Madoff, Florian Homm, and Charles Ponzi. Yet these men lied and stole billions of dollars by perpetrating investment fraud. GeoInvesting’s foundation is built on bullish strategies to find great companies early. However, we also seek the truth and are opportunistic investors. As information arbitrage specialists (and just like Joel Tillinghast says in his book Big Money Thinks Small) we don’t believe the hype, but rather the numbers, and have helped protect portfolios by uncovering and publishing research on over a dozen stocks involved in fraud.
Misleading information is everywhere. Even the venerable New York Times Best Seller’s List isn’t immune, as evidenced by the manipulation by Angie Thomas. So, what is an investor to do in a world where confidence is at such a low point? When it seems like everyone lies, whether media or managers, in addition to the traditional political liars? Where can we find the Truth that is so critical to making good decisions? How can we avoid investing in “fraud?”
Where “Fraud” Clues Hide
Tillinghast says that reading the footnotes for companies you don’t own yet can be overwhelming. There are ~20,000 stocks in North America available to choose from. Tillinghast’s opinion is that you should avoid companies with tons of footnotes, AKA- keep it simple. We do agree with this statement to some degree. But when looking to go long a stock, it is still important to read the footnotes to identify potential risks. But reading footnotes is absolutely crucial when looking for fraud, and the more footnotes, the bigger the potential for shenanigans. This is where we find the critical insights that can help us unravel the skein of lies.
Gates Capital Management's ECF Value Funds have a fantastic track record. The funds (full-name Excess Cash Flow Value Funds), which invest in an event-driven equity and credit strategy, have produced a 12.6% annualised return over the past 26 years. The funds added 7.7% overall in the second half of 2022, outperforming the 3.4% return for Read More
In the end, some of our greatest instances of portfolio protection have come about from the deep dives into the footnotes and minutiae of 10K’s, as have some of our greatest successes on the long side. Let’s focus just on some of the instances of chicanery that we have helped expose.
Case Studies in Fraud
Lentuo International (NYSE:LAS) failed to disclose a RMB 250Million loan backed by the Chairman’s assets, a material misrepresentation. Geo disclosed our findings in late May 2014, and ultimately the company was de-listed.
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FAB Universal Corp. (AMEX:FU) (FAB Universal) was de-listed after a series of reports accusing it of being “guilty of rampant piracy, back-end deals with franchisees…and of inflating its kiosk count by as much as 10 times.”
If you had money in either of these companies, you would have lost virtually everything. Avoiding the big loss is as critical as finding the multi-bagger to boost your total return. A total loss of a quarter of your portfolio means you need a 33%+ return on the rest just to get back to zero. Loss avoidance isn’t as sexy in the press as the 5x or 7x return, but keeps wealth in your portfolio. Look for a major announcement about Geo’s involvement in this later this week.
Over Promise and Under Delivering
One of the fairly consistent themes that Tillinghast and GeoInvesting have seen in companies from pump and dump schemes to outright frauds is a tendency to overhype, to be promotional to the point of excess in an attempt to direct attention away from the numbers. This is a classic street con approach used in three card monty and other situations, distracting attention from the important and critical issues. Politicians from Nixon forward have done so too. We all understand that “promotion” is a component of a strong stock price, but there is a distinct difference between hype like McGregor/Mayweather and reasonable, reality based attention. When a company is running the spin machine at full capacity, ask extra questions and dig deeper to avoid being sucked in to madness and loss.
We might disagree with Joel Tillinghast about his views towards footnotes as it relates to the investment selection process, but we have both proven that avoiding hype is a great way to avoid catastrophic losses.
Find this article helpful? Imagine if you had the insight before the market does. After a long hiatus, we are seeing the pump and dump scheme come back. Since we launched GeoInvesting, we have pointed out over a dozen times, with close to a 100% success rate. We are seeing similar things in cannabis and crypto currency OTC stocks. Want to know more? Please Click here now to become a Geo Member.