361 Capital Weekly Research Briefing

361 Capital portfolio manager, Blaine Rollins, CFA, previously manager of the Janus Fund, writes a weekly update looking back on major moves, macro-trends and economic data points. The 361 Capital Weekly Research Briefing summarizes the latest market news along with some interesting facts and a touch of humor. 361 Capital is a provider of alternative investment mutual funds, separate accounts, and limited partnerships to institutions, financial intermediaries, and high-net-worth investors.

361 Capital Weekly Research Briefing

April 28, 2014

Timely perspectives from the 361 Capital research & portfolio management team

Written by Blaine Rollins, CFA


@HistoryInPics: A crewman on a British airship prepares to drop a bomb from the rear cockpit during WWI. Undated.

Bombers had plenty of targets last week:

• Russian & Ukraine Peace

• Internet Company Valuations

• Small Cap Indexes

• Aggressive Growth Hedge Fund Returns

• RadiumOne

• The Los Angeles Clippers

• Google+

• Qatar’s 2022 World Cup Bid

• And of course April because all traders know which month comes next

While Russian aggressions against the Ukraine lead the news headlines, the initial economic sanctions are starting to bite hard…

Russia’s central bank raised its key interest rate Friday, hours after Standard & Poor’s Ratings Services cut Russia’s debt ratings to one notch above junk. The moves highlight the rising economic toll of Moscow’s conflict with the West over Ukraine. The Russian economy has suffered since the crisis exploded in late February even though the U.S. and EU haven’t so far imposed the sweeping sanctions they have threatened Russia could face if it continues to undermine the pro-Western government in Kiev. Capital outflows surged to the highest levels since 2008, starving the economy of much-needed investment, and the ruble plunged, fueling inflation. Many forecasts call for growth to fall to zero this year.



But the real pain to Russia will occur when the world starts to seize global assets of Putin’s inner circle. Sounds like the hunt for Russian assets has begun…

“We will be looking to designate people who are in his inner circle, who have a significant impact on the Russian economy,” Deputy White House National Security Adviser Tony Blinken said on CBS’s “Face the Nation” program yesterday. “We’ll be looking to designate companies that they and other inner-circle people control. We’ll be looking at taking steps as well with regard to high-technology exports to their defense industry. All of this together is going to have an impact.”


And while Russia gives the markets reason to move violently on each news item, in the background investors continue to rotate funds from Growth to Value…

As the above chart shows, they found investors have pulled $8.9 billion out of U.S. growth funds over that period. At the same time, around $3.8 billion have flowed into funds that fit in the value box. Correspondingly, when it comes to sector rotation, investors have been favoring energy over health care, the flows showed. Breaking down the most recent flows data, B.of A. Merrill found $2.9 billion flowed into equity funds in the latest week, marking the fourth consecutive week of inflows, while bonds saw the seventh straight week of inflows, with $3.3 billion.


More aggressive investors are even ramping their short bets in the most RISKON assets…

Money managers are turning on stocks that have delivered the best returns during the bull market: small caps. Large speculators such as hedge funds are betting $2.8 billion this month that the Russell 2000 Index will fall. That’s the most since 2012 and the highest versus average levels since 2004, according to data compiled by Bloomberg and Bank of America Corp. The about-face from a year of bullish wagers coincides with lackluster performance.


And one of the best, David Einhorn, is even building a short basket of Technology stocks…

We have repeatedly noted that it is dangerous to short stocks that have disconnected from traditional valuation methods. After all, twice a silly price is not twice as silly; it’s still just silly. This understanding limited our enthusiasm for shorting the handful of momentum stocks that dominated the headlines last year. Now there is a clear consensus that we are witnessing our second tech bubble in 15 years. What is uncertain is how much further the bubble can expand, and what might pop it. In our view the current bubble is an echo of the previous tech bubble, but with fewer large capitalization stocks and much less public enthusiasm…

Given the enormous stock price volatility, we decided to short a basket of bubble stocks. A basket approach makes sense because it allows each position to be very small, thereby reducing the risk of any particular high-flier becoming too costly. The corollary to “twice a silly price is not twice as silly” is that when the prices reconnect to traditional valuation methods, the derating can be substantial. There is a huge gap between the bubble price and the point where disciplined growth investors (let alone value investors) become interested buyers. When the last internet bubble popped, Cisco (the best of the best bubble stocks) fell 89%, Amazon fell 93%, and the lower quality stocks fell even more.


With so much in equity assets to re-allocate, expect those Small Cap and Internet Stock $$$ to find their way into big Buyback/Dividend payers…

‏@jposhaughnessy: Buying Large Stocks with the highest Shareholder yield has worked consistently since the 1920s.

Speaking of Dividends, look at which Technology company leads the list for ALL payouts…


If you are looking for an investment vehicle that specifically invests in Return of Capital stocks, Morningstar had a recent write up on this ETF which has outperformed the S&P 500 solidly for the last 5 years…


Meanwhile, looking back at where the bombs are dropping… It doesn’t really matter right now if you are a highly profitable Biotech giant trading at a single digit P/E multiple or an unprofitable cloud-based Internet stock trading at an infinite multiple because the stocks are trading tick for tick…

@361Capital: Chart of Day = IBB Biotech & FDN Internet… Separated at Birth?

A closer look at those ETFs now in a Bear Market (RED) and nearing a Bear Market (YELLOW)…

It has been a HUGE 2 year run in Low Quality out performance. Time for High Quality to take the wheel…

…And higher quality typically leads to Large Caps which is why Small Caps are the 1st Cap Index to breach its 200 day moving average…

Don’t forget that the month of May starts on Thursday and Equities like to take the summer off, especially Small Caps which prefer to perform best during the NHL Regular Season…


For the week, it was a very Defensive one…

And if not for Apple’s positive performance after earnings, there would be another 150-250 bps of pain for the Tech indexes…

Looking for positives, the International Developed Markets are near the highs even with all that market cap in close proximity and energy dependence on Russia…

One reason for the strength in the EAFE Index has been the continued gradual economic recovery and talk of interest rate accommodation by the ECB…


One of the outlets for Free Cash Flow besides Dividends and Stock Repos has been M&A. With Market Valuations falling and the Economy improving, expect to see the number of announced deals increase from an already sizable 2014 run rate…

Over the past 81 days, 132 deals have been announced totaling over $1.2t, including 12 deals last week totaling $244b (Valeant/Allergan $45b, Numericable high yield bond issue $12b, Apple share buyback $30b, etc). This avalanche of deals is likely to continue, if not accelerate, reflecting a better economy, lots of money, and very easy monetary policies. It’s likely to be a signature event for 2014 and perhaps for this economic expansion in general.

(ISI Group)

Greasing the wheels of the M&A deal machine is still very cheap financing via the credit markets…

With French cable operator Numericable Group poised to complete the largest junk-bond offering on record Wednesday, it’s worth a reminder of the key stats on this booming market segment. The bond offering–which is likely to raise about $11 billion to help fund parent company Altice SA’s acquisition of French telecoms company SFR–is almost double the previous record set last year by U.S. telecommunications firm Sprint Corp.


Housing is still having a difficult time shifting into 3rd gear. A couple of pieces last week addressed the issues. The NY Times points out that the American Dream is being put on hold while The Wall Street Journal points fingers at higher mortgage rates:

– So what is holding housing back?

Sure, a glut of housing was built during the last great mania, and in some markets buyers are still working through those supplies. Bank lending is only now thawing, both for homebuilders and buyers. But those restraining factors have eased a lot in the last few years. The bigger thing holding back housing is simply demand. Fewer people can or want to fulfill the American dream of starting a household of their own.

It may yet prove to be temporary, but for now at least, millions more people are doubling up with roommates, living at home with parents and otherwise finding ways to avoid doing the one thing that would get the housing economy back to normal: buying a home.


– Mortgage lending declined to the lowest level in 14 years in the first quarter as homeowners pulled back sharply from refinancing and house hunters showed little appetite for new loans, the latest sign of how rising interest rates have dented the housing recovery. Lenders originated $235 billion in mortgage loans during the January-March quarter, down 58% from the same period a year ago and down 23% from the fourth quarter of 2013, according to industry newsletter Inside Mortgage Finance. The decline shows how the mortgage market is experiencing its largest shift in more than a decade as an era of generally falling interest rates that began in 2000 appears to have run its course.


Meanwhile in the Bay Area, here is how you convert office/industrial space into livable space to sell for $950/sq. ft…

‏@jowyang: My lord, walked by a 2 bed condo in Tech district, SF. $1.9m. 2000 sqf

Elsewhere in California, Toyota just announced a big move to Texas to save trunk loads of Yen…

Toyota Motor Corp. is moving substantial parts of its U.S. headquarters in Torrance, California, to suburban Dallas as the world’s largest automaker seeks savings from its U.S. sales unit, people familiar with the matter said… Toyota has more than 5,300 California employees, most at its Torrance campus in sales, finance, marketing, engineering and product planning. Details on which functions will move and when may be announced as soon as today, after the employee meeting. When Nissan Motor Co. moved its North American headquarters to lower-cost Tennessee in 2006, only 42 percent of employees initially chose to relocate. The new regional sales headquarters may be in or near Plano, Texas, said three of the people who asked not to be named as the plan isn’t yet public. The majority of Toyota’s Torrance operations may move to Texas over a two-year period, the people said.


Maybe Toyota will soon be on Jared Dillian’s BUY list?

So GPIF stands for Government Pension Investment Fund and yes, as you might imagine, it is the biggest such fund in the world, with $1.25 trillion in assets. And as you can imagine, it has done pretty well, being almost entirely in bonds. 60 percent bonds, 12 percent local stocks. For perspective, if any pension fund manager had that asset allocation in the United States, they would be labeled insane. As they should.

But it has taken 20-plus years and a massive rip in the stock market for these guys at GPIF to be called insane, and the government finally got around to planting some less insane people on the investment committee, people who want to do such radical things as cutting the bond allocation from 60 to 40 percent. Actually, what is going on here is one of the biggest transitions of all time, and the sell side really wants to get a piece of the action on a trade that could be several hundred billion.

Well, the part that we are interested in is the investment implications, which is that stocks are going up and bonds are going down. Hard to oversimplify that one. It is also worth noting that GPIF is going to move into alternative assets, like infrastructure. But what we really care about is a very big allocation to local Japanese stocks, which is going to make my DXJ position very happy.


GaveKal also noting a reason to be interested in Japanese equities…

Foreigners have been net sellers of Japanese stocks in 2014 but that trend may have seen its climax. Data released today showed that foreigners were actually net buyers of stocks for the week ending April 18th, which marks the second week of net buying out of the last three. Importantly, when we calculate the 12-week moving average of net foreign purchases of Japanese stocks, we see that the selling trend seems to have reversed such that foreigners are at least not selling as quickly as a few weeks ago.


For those that know me well, this is definitely the Tweet of the Week…

@EddyElfenbein: What we call dollars, the Brits call pounds. What we call pounds, they call stones. What they call stones, we call Aerosmith.

Now enough about Russia, the Rotation and the Markets… Time to get back to the Stanley Cup Playoff Hockey. Go Avs!

@scottkleinberg: Meet 2-year-old Penguins fan Tyler Avolia. He’s the talk of social media.

In the event that you missed a past Research Briefing, here is the archive…

361 Capital Research Briefing Archive

The information presented here is for informational purposes only, and this document is not to be construed as an offer to sell, or the solicitation of an offer to buy, securities. Some investments are not suitable for all investors, and there can be no assurance that any investment strategy will be successful. The hyperlinks included in this message provide direct access to other Internet resources, including Web sites. While we believe this information to be from reliable sources, 361 Capital is not responsible for the accuracy or content of information contained in these sites. Although we make every effort to ensure these links are accurate, up to date and relevant, we cannot take responsibility for pages maintained by external providers. The views expressed by these external providers on their own Web pages or on external sites they link to are not necessarily those of 361 Capital.

Blaine Rollins, CFA, is managing director, senior portfolio manager and a member of the Investment Committee at 361 Capital. He is responsible for manager due-diligence, investment research, portfolio construction, hedging and trading strategies. Previously Mr. Rollins served as Executive Vice President at Janus Capital Corporation and portfolio manager of the Janus Fund, Janus Balanced Fund, Janus Equity Income Fund, Janus Aspen Growth Portfolio, Janus Advisor Large Cap Growth Fund, and the Janus Triton Fund. A frequent industry speaker, Mr. Rollins earned a Bachelor’s degree in Finance from the University of Colorado, and he is a Chartered Financial Analyst.

This content, which contains security-related opinions and/or information, is provided for informational purposes only and should not be relied upon in any manner as professional advice, or an endorsement of any practices, products or services. There can be no guarantees or assurances that the views expressed here will be applicable for any particular facts or circumstances, and should not be relied upon in any manner. You should consult your own advisers as to legal, business, tax, and other related matters concerning any investment.

The commentary in this “post” (including any related blog, podcasts, videos, and social media) reflects the personal opinions, viewpoints, and analyses of the Ritholtz Wealth Management employees providing such comments, and should not be regarded the views of Ritholtz Wealth Management LLC. or its respective affiliates or as a description of advisory services provided by Ritholtz Wealth Management or performance returns of any Ritholtz Wealth Management Investments client.

References to any securities or digital assets, or performance data, are for illustrative purposes only and do not constitute an investment recommendation or offer to provide investment advisory services. Charts and graphs provided within are for informational purposes solely and should not be relied upon when making any investment decision. Past performance is not indicative of future results. The content speaks only as of the date indicated. Any projections, estimates, forecasts, targets, prospects, and/or opinions expressed in these materials are subject to change without notice and may differ or be contrary to opinions expressed by others.

Wealthcast Media, an affiliate of Ritholtz Wealth Management, receives payment from various entities for advertisements in affiliated podcasts, blogs and emails. Inclusion of such advertisements does not constitute or imply endorsement, sponsorship or recommendation thereof, or any affiliation therewith, by the Content Creator or by Ritholtz Wealth Management or any of its employees. Investments in securities involve the risk of loss. For additional advertisement disclaimers see here: https://www.ritholtzwealth.com/advertising-disclaimers

Please see disclosures here.

What's been said:

Discussions found on the web