David Einhorn FULL Q1 LetterVW Staff
See David Einhorn’s Q1 2018 letter to investors below
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, Tempur Sealy International met EBITDA 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, 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 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%.
1 Source: Greenlight Capital. Please refer to information contained in the disclosures at the end of the letter.
The result is summarized in the table below:
Number of Positions Size
Weighted Average Price Change – Day After Earnings
Weighted Average Price Change – Quarter
Greenlight Return Longs Beat 13 82% 1.7% -3.6% -2.1% Met 4 7% 2.2% -13.7% -0.7% Missed 3 17% -8.1% -17.0% -2.8% Total 20 107% 0.2% -6.5% -5.6% Shorts Beat 9 28% 7.4% 18.9% -3.8% Met 1 1% 1.3% -0.5% 0.1% Missed 10 28% -4.6% 5.0% -1.8% Total 20 58% 1.3% 11.6% -5.5%
It is difficult to fully explain what caused the results above. As an example, General Motors (GM) entered the year with consensus EPS estimates of $6.30, $5.80 and $5.75 for 2017, 2018 and 2019, respectively, and the stock at $40.99 had an undemanding price to earnings multiple of 7x. GM reported actual 2017 EPS of $6.62, guided 2018 to be similar, and forecast that 2019 earnings should be even better. The stock advanced 6% on the day of the earnings release, before rolling over and falling 18% from its peak to the end of the quarter. GM’s fundamentals appear favorable. Employment is strong, tax cuts are helping GM’s customers, used car values are performing well versus expectations and industry scrappage rates are increasing. GM has lean inventory and a product line-up that is gaining share with pricing power. We just don’t see what the market may be saying, and we believe that GM is more likely to exceed near and intermediate-term forecasts than As Founder Retires, GGHC Ends 2017 On High Note, Aided By Mega Telecom Bidding Warto disappoint. Also, the company plans to return about 10% of its market capitalization to shareholders in dividends and buybacks in 2018. Time will tell whether the market is correctly sniffing out incrementally tougher prospects for GM to justify the multiple compression. Similar stories exist for a number of our other long positions. AerCap Holdings (AER) and Mylan (MYL) each trade at 8x earnings. AER has bought back 32% of its shares in the last 33 months, and MYL has bought back nearly 5% of its shares in the past few months. In just two quarters since it was spun off from MetLife, Brighthouse Financial (BHF) has made significant progress towards achieving its objectives for capital return; it will likely reach its
capitalization targets well in advance of the 2020 expectation set at the time of the spin- off. BHF trades at 48% of book value and under 6x earnings.
We believe our investment theses remain intact. Despite recent results, our portfolio should perform well over time. To some extent, this quarter’s result stems from the continued extreme outperformance of growth over value. The Russell 1000 Pure Growth Index
followed a 38% 2017 advance with another 7% climb through the end of March. The Russell 1000 Pure Value Index has declined over 3% year-to-date, retracing most of its 2017 gain of 4%. During the quarter we proactively managed our gross exposure. As of January 1, we were 133% long and 82% short. Had we left the portfolio alone, the losses would have driven that to 148% long and 105% short, which would have been above our comfort zone. Throughout the quarter we methodically reduced gross exposure, such that we ended the quarter at 111% long and 82% short. So far, the exposure reduction has been helpful, as our year-to-date trading has led us to avoid an additional 1.5% of losses. We exited a number of positions during the quarter:
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.
We first acquired shares in Uniper (Germany: UN01) at €10.02 in the third quarter of 2016 when E.ON spun out the company. Over the next two years, the management team executed on its operational and strategic goals, and the market began to appreciate the earnings power we saw in the business. The value of the company’s assets attracted a strategic suitor when Finnish peer Fortum launched a bid for UN01 late last year. We exited our stake at €22.85, a slight premium to the offer price, with a large profit.
We shorted Hexagon at 339 SEK in early 2016 because we believed the management team’s behavior was suspect and the business was deteriorating. The business surprised us by accelerating, so we covered at 414 SEK for a small loss.
We shorted United Rentals at $76.66 in the third quarter of 2016 because we believed the non-residential construction cycle was peaking, and that excess rental equipment would lead to lower pricing and weaker earnings. This thesis proved incorrect, as the economy improved and industry supply tightened.
Fortunately, we only “rented” a small number of shares, and exited at $149.89 with a medium loss. We had two departures during the quarter. Analyst Gaurav Sharma left to pursue a technology-related entrepreneurial opportunity.
After 11 years as a controller, Jamie Tully retired from Greenlight to spend more time with her family. We wish Gaurav and Jamie continued success! Also, analyst James Lin is taking a leave of absence. After 16 productive years at Greenlight, James is looking forward to some time off from the daily demands of work. Congratulations to David Tepperman and his wife Lauren who welcomed baby Hazel Jane into the world. Although it doesn’t rhyme with her name, we say Mazel!
At quarter-end, the largest disclosed long positions in the Partnerships were AerCap, Bayer,
Brighthouse Financial, General Motors and gold. The Partnerships had an average exposure
of 111% long and 82% short.
“Today is the oldest you’ve ever been, and the youngest you’ll ever be again.”
Greenlight Capital, Inc.