Do Hedge Funds Love Alliance Data Systems Corporation (ADS)?

At the end of February we announced the arrival of the first US recession since 2009 and we predicted that the market will decline by at least 20% in (see why hell is coming). We reversed our stance on March 25th after seeing unprecedented fiscal and monetary stimulus unleashed by the Fed and the Congress. This is the perfect market for stock pickers, now that the stocks are fully valued again. In these volatile markets we scrutinize hedge fund filings to get a reading on which direction each stock might be going. In this article, we will take a closer look at hedge fund sentiment towards Alliance Data Systems Corporation (NYSE:ADS) at the end of the second quarter and determine whether the smart money was really smart about this stock.

Is Alliance Data Systems Corporation (NYSE:ADS) a good investment now? Money managers were in a pessimistic mood. The number of bullish hedge fund bets fell by 1 recently. Alliance Data Systems Corporation (NYSE:ADS) was in 29 hedge funds’ portfolios at the end of the second quarter of 2020. The all time high for this statistics is 45. Our calculations also showed that ADS isn’t among the 30 most popular stocks among hedge funds (click for Q2 rankings and see the video for a quick look at the top 5 stocks). There were 30 hedge funds in our database with ADS positions at the end of the first quarter.

Video: Watch our video about the top 5 most popular hedge fund stocks.

Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 58 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.

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At Insider Monkey we leave no stone unturned when looking for the next great investment idea. For example, this “mom” trader turned $2000 into $2 million within 2 years. So, we are checking out her best trade idea of the month. We read hedge fund investor letters and listen to stock pitches at hedge fund conferences. We go through lists like the 10 most profitable companies in the world to pick the best large-cap stocks to buy. Even though we recommend positions in only a tiny fraction of the companies we analyze, we check out as many stocks as we can. With all of this in mind we’re going to take a glance at the latest hedge fund action surrounding Alliance Data Systems Corporation (NYSE:ADS).

What have hedge funds been doing with Alliance Data Systems Corporation (NYSE:ADS)?

At the end of the second quarter, a total of 29 of the hedge funds tracked by Insider Monkey were bullish on this stock, a change of -3% from one quarter earlier. On the other hand, there were a total of 34 hedge funds with a bullish position in ADS a year ago. So, let’s see which hedge funds were among the top holders of the stock and which hedge funds were making big moves.

According to Insider Monkey’s hedge fund database, Andrew Wellington and Jeff Keswin’s Lyrical Asset Management has the biggest position in Alliance Data Systems Corporation (NYSE:ADS), worth close to $79.3 million, comprising 1.6% of its total 13F portfolio. The second most bullish fund manager is D E Shaw, managed by D. E. Shaw, which holds a $69 million position; 0.1% of its 13F portfolio is allocated to the stock. Remaining professional money managers with similar optimism contain Cliff Asness’s AQR Capital Management, Peter Rathjens, Bruce Clarke and John Campbell’s Arrowstreet Capital and Steve Cohen’s Point72 Asset Management. In terms of the portfolio weights assigned to each position Pacifica Capital Investments allocated the biggest weight to Alliance Data Systems Corporation (NYSE:ADS), around 4.44% of its 13F portfolio. Lyrical Asset Management is also relatively very bullish on the stock, earmarking 1.56 percent of its 13F equity portfolio to ADS.

Since Alliance Data Systems Corporation (NYSE:ADS) has experienced a decline in interest from the aggregate hedge fund industry, logic holds that there is a sect of funds that slashed their full holdings in the second quarter. At the top of the heap, Allan Mecham’s Arlington Value Capital dropped the largest stake of all the hedgies followed by Insider Monkey, comprising an estimated $23.7 million in stock, and Bo Shan’s Gobi Capital was right behind this move, as the fund sold off about $9.9 million worth. These bearish behaviors are interesting, as aggregate hedge fund interest dropped by 1 funds in the second quarter.

Let’s check out hedge fund activity in other stocks – not necessarily in the same industry as Alliance Data Systems Corporation (NYSE:ADS) but similarly valued. These stocks are Coca-Cola Consolidated Inc. (NASDAQ:COKE), Copa Holdings, S.A. (NYSE:CPA), GrafTech International Ltd. (NYSE:EAF), Macy’s, Inc. (NYSE:M), GATX Corporation (NYSE:GATX), Investors Bancorp, Inc. (NASDAQ:ISBC), and AMN Healthcare Services Inc (NYSE:AMN). This group of stocks’ market valuations resemble ADS’s market valuation.

View table here if you experience formatting issues.

As you can see these stocks had an average of 22.9 hedge funds with bullish positions and the average amount invested in these stocks was $159 million. That figure was $345 million in ADS’s case. Macy’s, Inc. (NYSE:M) is the most popular stock in this table. On the other hand Coca-Cola Consolidated Inc. (NASDAQ:COKE) is the least popular one with only 13 bullish hedge fund positions. Alliance Data Systems Corporation (NYSE:ADS) is not the most popular stock in this group but hedge fund interest is still above average. Our overall hedge fund sentiment score for ADS is 58.1. Stocks with higher number of hedge fund positions relative to other stocks as well as relative to their historical range receive a higher sentiment score. This is a slightly positive signal but we’d rather spend our time researching stocks that hedge funds are piling on. Our calculations showed that top 10 most popular stocks among hedge funds returned 41.4% in 2019 and outperformed the S&P 500 ETF (SPY) by 10.1 percentage points. These stocks gained 23.8% in 2020 through September 14th and beat the market by 17.6 percentage points. Unfortunately ADS wasn’t nearly as popular as these 10 stocks and hedge funds that were betting on ADS were disappointed as the stock returned 3.1% during the same time period and underperformed the market. If you are interested in investing in large cap stocks with huge upside potential, you should check out the top 10 most popular stocks among hedge funds as many of these stocks already outperformed the market so far this year.

Disclosure: None. This article was originally published at Insider Monkey.