Billionaire Seth Klarman’s Top Five Positions Revisited

Billionaire Seth Klarman is a legend among value investors. His fund, Baupost Group, has achieved average annual returns of 17% a year for over 30 years, nearly double the returns of the S&P 500. Because of the great performance, Baupost is now a giant among fish, with an equity portfolio of $6 billion. In this article, we analyze the underlying fundamentals of Klarman’s top five positions of Micron Technology, Inc. (NASDAQ:MU), eBay Inc (NASDAQ:EBAY), Pioneer Natural Resources (NYSE:PXD), ViaSat, Inc. (NASDAQ:VSAT), and Cheniere Energy, Inc. (NYSE:LNG) as well as reveal how each of his top five picks performed in the third quarter. Baupost invests only a small percentage of its assets in stocks and maintains a long-term view. Even though these stocks may underperform in the short-term, based on Klarman’s track record we can say that they are likely to generate meaningful returns over the long-term. By the way, famous short seller Jim Chanos doesn’t like most of these stock picks and he specifically talked about one of these stocks a couple of days ago. We will share his views at the end of this article.

We mention the portfolio of elite investors such as Seth Klarman because our research has shown that elite funds are extremely talented at picking stocks on the long side of their portfolios. It is true that hedge fund investors have been underperforming the market in recent years. However, this was mainly because hedge funds’ short stock picks lost a ton of money during the bull market that started in March 2009. Hedge fund investors also paid an arm and a leg for the services that they received. We have been tracking the performance of hedge funds’ 15 most popular small-cap stock picks in real time since the end of August 2012. These stocks have returned 102% since then and outperformed the S&P 500 Index by around 53 percentage points (see the details here). That’s why we believe it is important to pay attention to hedge fund sentiment; we also don’t like paying huge fees.

#5 Micron Technology, Inc. (NASDAQ:MU)

–  Shares held (as of June 30): 19.7 million
–  Total Value (as of June 30): $371 million
–  Percent of Portfolio (as of June 30): 6.18%

Micron shares were off 20% in the third quarter as investors worried about industry oversupply and lower DRAM pricing. Investors also worried about PC’s secular decline, as research firm IDC expects worldwide PC shipments to fall by 8.7% in 2015 and ‘not stabilize until 2017’. The recent launch of Windows 10 hasn’t reinvigorated sales as much as the optimists had hoped.

Still, Micron has great long term value, as evidence by Tsinghua Unigroup’s offer for Micron which was dismissed as untenable due to national security concerns. Micron shares have rallied somewhat from their 52 week lows and trade at a reasonable 7.88 times forward earnings. Other hedge fund holders long Micron include David Einhorn‘s Greenlight Capital and David Shaw’s D E Shaw.

#4 eBay Inc (NASDAQ:EBAY)

–  Shares held (as of June 30): 9.32 million
–  Total Value (as of June 30): $561 million
–  Percent of Portfolio (as of June 30): 9.35%

Ebay shares fell 3.6% in the third quarter as the broader market trended lower and the PayPal spin off failed to unlock value for shareholders. Given Ebay’s forward PE of 12.7 and the expected next five year EPS growth rate of 10.4% a year, shares look attractive, although management will need to innovate to protect its market share against social media companies Facebook and Twitter, as well as Ebay’s arch nemesis Amazon. Shares could rally if management decides to do bigger share buybacks or pay a dividend. Other top investors holding Ebay include Carl Icahn‘s Icahn Capital Lp and Barry Rosenstein’s Jana Partners.

#3 Pioneer Natural Resources (NYSE:PXD)

–  Shares held (as of June 30): 4.07 million
–  Total Value (as of June 30): $563 million
–  Percent of Portfolio (as of June 30): 9.39%

Shares of Pioneer Natural Resources were down 12% in the third quarter, as WTI prices remained weak due to sector oversupply. Some shareholders may have also sold because of David Einhorn’s short thesis presentation on Pioneer, in which Einhorn lambasted Pioneer for burning shareholder capital without producing meaningful increases in reserves.

Given Klarman’s contrarian bent, he is likely undeterred. Capital burn or not, Pioneer is sitting on very valuable acreage in the Permian that could yield substantially more crude than current expectations. The valuable acreage also makes Pioneer a takeover candidate for larger super-majors. Andreas Halvorsen‘s Viking Global and Zach Schreiber’s Point State Capital also own shares of the leading independent.

#2 ViaSat, Inc. (NASDAQ:VSAT)

–  Shares held (as of June 30): 11.53 million
–  Total Value (as of June 30): $695 million
–  Percent of Portfolio (as of June 30): 11.58%

ViaSat shares rallied 6.7% in the quarter as the market brightened on the company’s overall prospects. ViaSat, which produces, designs, and markets wireless signal processing equipment and digital satellite telecommunications continued to grow in the quarter and reported inline revenue expectations in its most recent earnings report. John Overdeck And David Siegel’s Two Sigma Advisors also own shares.

#1 Cheniere Energy, Inc. (NYSE:LNG)

–  Shares held (as of June 30): 15.4 million
–  Total Value (as of June 30): $1.06 billion
–  Percent of Portfolio (as of June 30): 17.73%

Cheniere Energy shares fell 30% in the third quarter as natural gas prices are near their lows and China’s economy slows. Famed short investor Jim Chanos is short, and believes Cheniere is overvalued. Chanos estimates Cheniere will have $30 billion in debt with interest costs of $2 billion annually when all is said and done. Given a straight line depreciation of $1 billion a year, Chanos estimates Cheniere would earn just $1 billion in 2020 given analyst estimates of $4 billion in EBIDA if spot prices are as high as bulls estimate. If spot prices don’t rally as much as the bulls predict, Chanos believes Cheniere won’t have any free cash flow at all. Given the uncertainty, Chanos doesn’t understand why anyone would be long the stock. Chanos said:

Well, about half of their estimated 2020 or 2021 EBIDA of $4 billion is locked up in the take or pay about $2 billion of that. So it’s a little bit of a myth that all of it is accounted for. They still are going to be dependent on the spot market for a huge amount of the what the bulls think they’re going to make. And in fact the spot market’s in disarray already in liquefied natural gas. […] if you think all of these so-called trains, they’re expensive David. They’ll probably over $30 billion in debt Cheniere when they’re done building these things out. That will be $2 billion in interest annually. $30 billion worth of plant and equipment in the swamps of Louisiana is going to depreciate we think about $1 billion a year, 30 year life. [answering the question if LNG will be bought] I don’t think so. I mean who’s going to buy a company where again the cash flows are dependent on something happening from 2020 out. And where based on at least our numbers, there’s no free cash flow even when that happens.

Given Klarman’s position, he obviously disagrees with Chanos’ projections. Carl Icahn, who picked up 19.4 million shares good for 8.18% of Cheniere’s float by August, also disagrees with Chanos as well. Icahn believes the Cheniere Energy is a good bet, as long as management controls costs and reigns in its expansion plans.

Disclosure: None