Paul Hudson’s Glade Brook Capital Partners benefited from its new hedge fund investment strategy in the second half of last year, but the tactics have worked against it so far this year.
The Greenwich, Connecticut–based Tiger Cub — so-called because he previously worked for Julian Robertson Jr. at Tiger Management — had streamlined his portfolio to a more concentrated group of long positions among his roughly $300 million in hedge fund assets. The firm’s Glade Brook Global Domestic Fund and Glade Brook Global Offshore Fund posted a 7.9 percent gain in the fourth quarter and a very strong 13.2 percent gain for the full year.
However, like many long-short managers, Glade Brook is off to a rough start this year. Its hedge funds are down nearly 11 percent through February.
“While the start of 2016 has been more challenging, we believe we have positioned the portfolio to capitalize on the current investment environment and remain focused on compelling opportunities created by innovation, secular trends and disruption, demographic shifts and changes in consumer behavior,” Hudson states in his client letter, dated February 15 and also signed by research head Colin Kronewitter. (Glade Brook has another $775 million invested in several private equity vehicles, including big bets on Uber Technologies and Snapchat.)
A deeper look at Glade Brook’s fourth-quarter letter provides additional details about this positioning and how the hedge fund firm hopes to get its funds back into the black.
For example, under its new streamlined approach, Glade Brook tells clients in the letter, it has just six public longs. This is down from nine at year-end, according to its quarterly regulatory filing.
The longs are what the firm calls “compelling ideas particularly in attractively valued internet, digital media and software,” as well as “idiosyncratic ideas” that rely more on company-specific factors and are not “overly reliant on the economic cycle.”
In addition, Glade Brook has 19 individual short positions, according to the letter. Of course, the firm does not identify any of its negative bets.
“We are targeting lower quality, pro-cyclical companies — many that face longer term secular pressures — that are beginning to exhibit revenue weakness,” Hudson and Kronewitter explain. The firm is also shorting “expensive technology stocks” it does not believe can meet the “lofty growth expectations” that are built into their stock valuations. As of December 31 the overall portfolio was about 91 percent long and 42 percent short, or 49 percent net long, according to the client letter.
Broken down by the firm’s five main sectors of focus, Glade Brook’s long positions are distributed between just two groups: technology and consumer stocks. However, where Glade Brook is 54 percent net long technology stocks, it is just 1.3 percent net long consumer issues, as shorts almost cancel out the long bets in this sector.
In the media and entertainment group, Glade Brook has no long holdings, while its short bets account for 6.3 percentage points of the fund’s overall net short exposure. Otherwise, it has no longs or shorts in the telecommunications sector and no exposure to indexes, which it sometimes uses as part of its hedging strategy.
At the heart of Glade Brook’s long-term strategy is how technology is changing a wide range of industries as new types of companies disrupt traditional, long-standing companies, a theme favored by many other long-short managers who focus on tech, media, telecom and Internet stocks.
Drilling further down reveals that Glade Brook says its technology longs are focused on digital media, which were “significant contributors” to its fourth-quarter performance. Meanwhile, it is short traditional media.
“We continue to believe we are in the early stages of a renewed, long-term structural shift in value from traditional to digital media, creating an enormous opportunity for our long/short strategy,” Hudson and his research head say in the letter, citing “digitally native millennials” who are increasingly migrating to mobile and video with the advertising and subscription dollars growing with them. The managers say the third quarter of 2015 was the “tipping point for the secular shift from traditional media to digital media,” in line with the firm’s investment thesis entering 2015.
Glade Brook favors Facebook and Alphabet (formerly known as Google) as long positions while remaining “short biased” on the traditional media and entertainment sectors. However, the firm reduced its short exposure in the group “as the overall advertising environment has improved across the board and the stocks have underperformed materially over the past six months.”
The Glade Brook execs also single out two other industries that are beginning to be disrupted by technological innovation and that were once thought to be fairly insulated from this kind of change: the automotive and lodging sectors. “We are finding attractive short ideas in secularly challenged companies in these cyclical industries,” they add.
For example, in the auto industry, they point to the rise of electric-powered vehicles, transportation network companies such as Uber and other new technologies “enabling advanced driver assistance systems,” which really means driverless cars.
The firm, which has a big private investment in Uber, adds in its letter, “We have already begun to see the effects of ride-sharing on traditional car rental companies through lost market share and deflationary pricing due to increased competition.”
This trend will escalate in the future and create “enormous opportunities” in public and private investments, the Glade Brook managers add. These changes will have “major implications” for traditional automakers as well as for auto parts manufacturers, dealerships, auto finance, insurance and many more.
“Long-term we believe consumers and businesses will revisit their car ownership decision — as ride sharing and ultimately self-driving cars lead further disruption,” Hudson and Kronewitter predict.
They also explain that technology is also reshaping the lodging sector as consumers move to book online and new companies like Airbnb compete with traditional hotel and motel providers. Meanwhile, the hotel industry’s traditional measure — revenue per available room — has begun to moderate at the same time that new hotel construction has rebounded, “adding significant supply.” So Glade Brook is short lodging companies.
In retail, Glade Brook is long the Home Depot, a play on the pent-up demand for home improvement. It is also short what it calls “structurally disadvantaged retailers” that are most hurt by e-commerce.
