| Lee Ainslie III, Maverick Capital (photo credit: Jonathan Fickies/Bloomberg) |
Maverick Capital’s short book continues to be a nightmare for the firm’s flagship long-short equity fund.
How so? Well, consider that in the first half of the year, the firm’s long-short Maverick Fund was roughly flat, while its Maverick Levered fund was off 1.3 percent. Yet its Maverick Long Fund — which has no short book — gained 10.7 percent. In the firm’s hedged portfolios, the long book returned 11.4 percent, while the short book lost 10.7 percent.
It is not surprising to see a short book lose money in a strong bull market environment. However, the losses seem particularly stark at Maverick. The firm points out in its second-quarter letter to investors that in the first half of the year, the stocks it is short rose more than the longs, climbing 12.6 percent compared with 7.7 percent for the stocks that were supposed to rise in price.
“As we have discussed in the past, short alpha generation has always been more cyclical and less consistent at Maverick than long alpha generation,” writes firm founder Lee Ainslie III, a Tiger Cub, in the second-quarter letter. “On the short side, periods of frustration are not uncommon and are typically followed by periods in which short selling is quite rewarding. Given how compelling we find the short opportunity set, we think we are well-poised to see that pattern repeat itself.”
Maverick devotes the bulk of the letter discussing the five most important investment themes in its short portfolio. Unfortunately — and not surprisingly — it does not name names.
In general, Maverick thinks investors are confusing secular trends, which play out over long time horizons, with cyclical forces, which are transitory, influenced by temporary spikes in demand or shifts in production.
The first theme is what Maverick calls the “Death of Linear TV.” It essentially asserts that individuals are no longer mostly spending their leisure time watching television, either the old traditional broadcast stations or the expensive cable TV packages. Rather, they are spending more time on social media platforms such as Facebook, Instagram, Twitter, and Snapchat. And when they want to watch content, they are getting it from alternative sources such as Netflix, Hulu, YouTube, or Amazon Prime.
Another short theme is called “Omnichannel Evolution.” This is basically the increasingly popular play to bet against traditional retail companies. “While the consensus ‘short retail theme’ has worked across a host of names, we are continuing to find a fruitful opportunity set across multiple categories and geographies,” Maverick tells clients.
The most vulnerable groups — since they are still trading at rich valuations — are consumer electronics players, apparel wholesalers, and food retailers. “We believe these businesses present an incredibly compelling short opportunity set,” the hedge fund emphasizes.
Another targeted group is called “Healthcare Waste.” Basically, this is a play on tougher reimbursement standards for recipients of expensive medical care.
For example, Maverick is short two companies that have launched drugs that each treat diseases affecting more than five million Americans but are “mildly differentiated.” And although the drugs are proven to be safe and effective, their “cost-benefit equation isn’t there except in patients who suffer very harsh forms of each disease,” it points out. So both drugs are launching very slowly. However, consensus estimates don’t reflect this slow launch schedule.
Maverick also says this theme is playing out in complex diagnostics. “Payers are accelerating the inexorable shift toward low cost alternatives which is the catalyst for our short thesis in a high cost incumbent,” the letter stresses.
Then there is what Maverick calls “Digital Disintermediation,” which it emphasizes has been one of the largest and most persistent short themes in its portfolio. This could be an ATM producer hurt by the move away from cash and toward online banking, paper producers hurt by the growing move to a paperless society, traditional camera companies hurt by mirrorless cameras, and watch companies without a smart watch strategy, to cite just a few examples.
Many of these stocks are trading at much higher price-to-earnings multiples than they were several years ago. “The opportunity set within this theme has never been more compelling,” Maverick says.
Finally, there is what it calls “Technology Obsolescence.” This involves shorting technology supply chain companies, with Maverick stressing they are “nearing the peak,” and adding, “end customer inventory levels provide the clearest snapshot of the supply chain.” These are companies challenged by alternative technology.
For example, Maverick is currently short a supply chain company facing obsolescence.
“Correctly identifying the secular drivers of fundamentals and the sustainability of such drivers has served us well over the past 23 years,” Maverick writes. “We are confident this time will be no different.”
