*This is my monthly letter to investors summarizing the month of November.
The full PDF version of the summary, including managed account performance data as well as a few added components is only available via email.
Return data will no longer be published as a part of the summary.
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- Largest winning position in November: CIDM +28.49%
– Largest losing position in November: EVOL -4.22%
– New additions to portfolio: KCG
– New liquidations in portfolio: SBCF
Portfolio Highlights For November
– CIDM was the largest gainer in the portfolios for the second month row, exceeding October's gain of 19.33% to finish November with a gain of 28.49%. The primary driver behind the surge in November was CIDM's earning release on November 13th.
The earnings report and the conference call that was to follow didn't contain any information that was different than what was said after October's conference call in which CIDM management discussed the acquisition of Gaiam. It simply seems that the market is much more receptive to CIDM as a company now that they have reiterated the projection of near $100 million in EBITDA for fiscal year 2014. The market is realizing the transformation that has occurred here, showing that recognition the best way its knows how: Through an increase in share price.
The CEO of the company mentions Lions Gate Films (LGF) on almost every conference call as a model for what CIDM can become. In the November conference he had this to say regarding their recent acquisition of Gaiam compared to LGF:
In a lot of ways, we always like to use Lionsgate, as a parallel. I think I said that on the last couple of calls. The real transforming event for them wasn't when they ultimately did the Hunger Games, and bought Summit. It was back in the mid 2000s when they acquired Artisan and became the 800-pound gorilla among independents and physical distribution, and that's -- we'd like to compare our acquisition of Gaiam to that.
Bear in mind that LGF was once a two dollar stock without much recognition in the marketplace. The path to value creation for CIDM can indeed take the same path as LGF over the long-term given the business model that has been created here, capitalizing on (1) an experienced management team (2) partnerships with virtually every major retailer and content provider that exists (3) licensing deals with companies like NFL, WWE and National Geographic that give the company immediate clout (4) a library of 32,000 film and TV episodes.
It can't be argued that we are in an entertainment economy where content is king. If you are to embrace this simple fact as an investor then it would make an abundant amount of sense to own one of the largest content providers that exist in the marketplace at a valuation that continues to be absurd relative to peers.
– KCG is a new position in the portfolios. Fortunately, the position has proven immediately profitable as it has gained nearly 20% since being initiated towards the middle of the month.
The research report for those interested in available on the T11 Capital website.
The Cliff Notes version for those still suffering from a turkey hangover has to do with a company that is in a leadership position as a provider of liquidity in the financial markets trading at a substantial discount to its peers since reemerging as a publicly traded entity after almost ceasing to exist in 2012 due to a technology glitch.
The story becomes all the more compelling when you look at two things:
1. The fact that despite the torrid pace of appreciation in the equity markets, the volume that is associated with a full embrace of equities hasn't come close to occurring.
2. The fact that liquidity providers as a whole are one of the hottest sectors in the market, with companies like CBOE and CME up an average of 90% over the past 24 months.
The first point tells of a company that is nowhere close to maturity when it comes to revenue creation. In fact, the company has tremendous upside in top and bottom line growth as the bull market in equities continues paired with an increase volume brought on by a further embrace of equities.
The second point tells of companies that provide liquidity, irrespective of the instrument, being bid up as the abundance of liquidity in the global economy searches for a home. Relative to other liquidity providers in the markets, KCG is far and away the greatest value.
– WMIH saw a gain of nearly 5% during the month. The trading in the name can be described as inconsequential currently, with volume during the month of November being the lowest since the company started trading last year.
– BFCF saw a gain of 1% during the month of November. There is certainly some noticeable accumulation occurring in the shares at these prices. The volume during the month was one of the larger volume months we have seen in 2013 for the stock.
I think it is imperative when investing to be able to break an investment thesis in any company down to its essence. A theme, if you will, that dictates the future potential of the business. In BFCF you have a substantial landowner in Florida that is developing properties on that land, while generating tremendous cash from a timeshare business that is only gaining steam. Further, they are using the cash from the timeshare business to purchase companies like Renin Corp., which manufactures interior doors, wall décor and glass products.
The intention behind a company that has a long history of real estate development buying a manufacturer of the essential parts of a home should be obvious. BFCF has its eye on development, with the intention of lowering their overall cost of development, growing margins and increasing cash flow over the long-term.
Given the bullish prospects of the real estate market going forward, BFCF is an investment I consider to have tremendous upside. Especially since it has no coverage, whatsoever. It is as undiscovered, convoluted and under-appreciated an opportunity as exists in today's market.
Portfolio Lowlights For November
– SBCF is a position that was liquidated completely from the portfolios during November. The investment was more or less breakeven from inception. The fact of the matter is that there are too many opportunities that are becoming available to focus on a company that is facing a difficult path to value creation due to the dilution it has faced.
I have no doubt that appreciation will take place here over the very long-term. There are simply too many factors in the economy working in the companies favor. Not to mention the various steps SBCF has taken to improve its balance sheet and efficiency over the past several years. I may look at this company again in 2014.
– EVOL was the only losing position in the portfolios during the month of November, with a loss of roughly 4%. The company saw a majority of its loss take place after reporting Q3 results on November 12th. The results were interpreted by the market as soft due to a year over year decline in revenues caused primarily to a contract being pushed back during the quarter.
What market participants seem to have missed are the details that came in the conference call. Essentially, EVOL has a good bit of its business moving into a 100% margin realm of their business called FUAs. The revenues created by FUAs are going to increase in 2014, causing an increase in margins and cash flows going forward.
I went over the details of the coming FUA renewals, explaining the process, in a posting on Zenolytics available here.
Going forward, I expect to see EVOL become a top performer in the portfolios over the coming months as market participants continue to realize the quality of the business available here. January especially has the potential to see EVOL outperform as market participants are drawn into small-cap tech names in classic “January effect” trading.
Looking Ahead To December
As far as comfortable market environments go, the stock market of 2013 has been a series of mattresses that investors keep rolling over onto as each month passes. The daggers that often times fall from the ceiling when investors are most unsuspecting seem to have been put away as the market has humbled itself before the feet of investors in an expression of sorrow after the torturous decade that was 2000-2010.
To over-think a market of this nature is to misunderstand the market at its essence. There are those who will always be involved in the minutia of understanding every component that creates an uptrend, which invariably leads an investor astray. The problem as it will always stand is that Wall Street is filled with the over-thinking type who has been born and bred into an environment of detailed analysis. That detailed analysis doesn't hold up in dynamic environments. This is the exact reason so few have embraced this uptrend and furthermore, so few have been calling for it over the past few years. There was no piece of traditional analysis available that would have pointed to such an outcome. It was an outlier that investors both amateur and professional are unable to recognize.
If they are unable to recognize the beginning of such a bullish event, how then can market participants depend on these same individuals to provide guidance going forward? It is like an evolutionist being the keynote speaker at a religious conference on the topic of the location of the Garden of Eden. And that is exactly what market participants face going forward in the various voices that are attempting to guide asset allocation here: A group who didn't recognize anything leading up to this point now embracing the bullish movement.
This type of misguided guidance, if you will, creates the various stages of an uptrend. You will notice that during the initial phase of the uptrend meaning the past 12-24 months, there has been very little in the way of downside volatility. There has been very little in the way of a full embrace that could lead to downside volatility. Severe downside volatility occurs only when one of two things occurs:
1. A macroeconomic or geopolitical shock takes place 2. The embrace of an uptrend takes place led by those who were skeptical at the beginning and often times throughout the middle stages of the uptrend.
When those types who were utilizing erroneous analysis to judge a market finally decide to toss their ideas to the side in favor of trend following that is when there is very little in the way of bids left to take on any substantial selling.
While we are not at that point currently, we are certainly much closer to it than we were 12 months or even 6 months ago.
What will create the final throwing in of the towel, so to speak, will be a continued uptrend throughout Q1 and Q2 of 2014. There will be very little in the way of bearish resistance left if the performance of the benchmarks is off to rousing start in 2014. This type of beginning to the year will invariably set the markets up for some spectacular downside volatility as the year continues.
Since this will be the first real downside volatility of a new secular bull market, I will guess that it will be (a) extremely scary (b) extremely short lived. Not a crash in the 1987 sense of the word, but a 1-2 month steep decline that takes the S&P down 10% plus, bringing out the cattle calls for the end of the bull. It will be an extraordinary buying opportunity when it does take place, but abundantly painful for those caught on the wrong side of the tracks in the meantime. I place a very tiny probability that this occurs during Q1. I place a significant probability that it occurs during Q2. And if it doesn't occur in Q2, Q3 becomes a virtual guarantee. There will simply be too much comfortable money that missed the 2013 bull and is not willing to miss any further upside. This will be money that is guided by the “evolutionist at the religious conference” types who have no reference point for their pseudo-expertise in asset allocation during this bull market. They are simply emotionally driven trend followers curve fitting fundamental data to meet their expectations. These are the most unstable types for sustaining a bull market.
Again, a bullish surge into Q1 2014 brings these types out. By Q2 they will be firmly implanted.
This brings me to the point of this section, my look ahead for December and January, in fact. There will be no deceleration over the next couple of months. December, however, should provide a fair bit more volatility than November did. I expect the first half of December to be a bullish affair, with the second half being much more choppy and likely bearish in nature. December should end positive for the major averages, however, as the market continues to setup for a bullish start to 2014.
January of 2014 should be a tremendously bullish affair. Asset allocation panic galore takes place, with enough momentum to carry throughout Q1. Although I do not expect the same pace of gains in January to take place in February and March. In fact, the best gain for the first half of 2014 in the major averages will likely take place in January.
For the time being a full embrace of all that is a bull market should continue to be the modus operandi for investors. The portfolios near 100% invested stance should be firmly implanted throughout January, which is actually somewhat unusual for my method of investment. It is rare that I remain in a 100% invested position for more than 1-2 months at a time. Three months in a row would be a testament to the extraordinary seasonal circumstances of the period between November-January.
Enjoy your holidays.
Regards,
Ali Meshkati
