Dan Loeb‘s Third Point has just issued its Investor Letter for the first quarter. The fund outlined its performance for the first three months of 2014, which stands at 3.3%, outperforming the benchmark S&P 500 Index by around 2.0 percentage points. Moreover, Third Point’s annualized returns since inception amount to 17.2%, versus the S&P 500’s gain of 7.6%. The letter also highlighted that Third Point is focusing on US and Japan sovereign and structured debt, but also that it has invested in more short positions since the beginning of the year than throughout the entirety of 2014. In addition, the investor made its bullish case for foreign investing as “accommodative monetary policy in Europe, Japan, and China has encouraged investors to adopt QE pattern recognition and plow capital into markets where central banks have opened pocketbooks.”
Third Point also pointed out two new positions initiated during the first three months of the year. It has not revealed the size of the stakes, but as the current round of 13F filings is almost completed, the investor will disclose its equity portfolio in the near future, which will also allow us to assess the size of its holdings in Yum! Brands, Inc. (NYSE:YUM) and Devon Energy Corp (NYSE:DVN), which represent Third Point’s additions to that equity portfolio. Meanwhile, here is what Mr. Loeb had to say about Yum! Brands:
“We initiated our position in the first quarter based on our view that the company was in the early stages of turning the page on recent troubles in its Chinese business. We believe this development should neutralize the largest overhang on the stock, set the stage for a dramatic profit recovery over the next 12-24 months, and change the public market narrative around long-term shareholder value-creation for the company.”
Yum! Brands, Inc. (NYSE:YUM)’s stock is up by 18% since the beginning of the year, outperforming its closest peer, McDonald’s Corporation (NYSE:MCD) by a hefty 15 percentage points. Both companies faced some issues in China, which affected their sales in the region. However, Mr. Loeb considers that Yum! Brands has the potential to recover as its KFC brand is still popular among consumers in China.
“We have spent substantial time assessing Yum!’s recovery potential and examining whether its status as a “repeat offender” has irreparably damaged the brand in China. Our 3 research suggests that the KFC brand (75% of units in China) continues to resonate strongly with local consumers across a variety of important dimensions, including food quality, value, convenience, and customer experience. By an overwhelming majority, local consumers believe the food at KFC is safe or at least as safe as other restaurant options. Perhaps most importantly, local customers continue to visit KFC, albeit less frequently, suggesting the company can increase traffic with better execution. As a rule of thumb in the restaurant industry, it is easier to generate more business from existing customers than it is to capture new ones or win back those who have left the brand.”
In addition, Third Point considers that Yum! Brands, Inc. (NYSE:YUM)’s management is on a path of returning the company to growth not only from its business in China, but also its franchise segment outside that region.
“We think investors should want to own Yum! for its unique open-ended middle-class growth story in China and its strong and growing franchise-led cash flows outside China. We also expect that Yum! management, consistent with their prior public statements, will consider a variety of value-enhancing actions to ensure that the market properly rewards its investors for both compelling earnings streams. Such actions could include more refranchising, more leverage, and perhaps even an alternative ownership structure.”
The previous round of 13Fs showed a growth in the popularity of Yum! Brands, Inc. (NYSE:YUM) among the funds that we track, as the number of investors that own long positions in the company went up to 38 at the end of 2014, from 32 a quarter earlier. Billionaires George Soros of Soros Fund Management and Steve Cohen of Point72 Asset Management are among the investors that initiated new positions in the company during the last three months of 2014.
Devon Energy Corp (NYSE:DVN) was the second company mentioned in Third Point’s letter as a new position. Third Point’s latest 13F filing (for the end of 2014), shows only 6% of its equity portfolio being devoted to the energy sector. The fund’s largest bet in energy was Phillips 66 (NYSE:PSX), which represented a new position added during the fourth quarter. It’s no surprise that Mr. Loeb is increasing his exposure to energy. In its previous letter to investors, Third Point said: “After a lackluster year for credit in 2014, we are starting to see value in energy-related names and potential opportunities to reload our portfolio.”
So far, the latest round of earnings showed that oil companies are most likely out of the woods as commodity prices have recovered from their lows. Most big oil companies reduced their costs and managed to meet the expectations, thus keeping investors happy for the time being. Third Point considers Devon Energy Corp (NYSE:DVN) to be an attractive play in the Exploration and Production industry because it has limited downside and an underappreciated, valuable asset base.
“Devon’s value proposition is compelling. Subtracting embedded midstream value (and associated debt) and a “non-core” but cash-generative Canadian oil sands asset, investors are creating Devon’s domestic E&P business for the value of the company’s existing US production. As a lucrative kicker, investors also get Devon’s vast “tier 1” acreage positions in the Delaware/Midland basins, Eagleford shale and Cana-Woodford for free. Valuing Devon’s acreage alongside companies like CXO, XEC and PXD – where we see significant asset overlap in certain plays – suggests the market is undervaluing Devon’s US E&P business by $10-15 billion or $25-35 per share.”
The investor is also bullish on Devon Energy Corp (NYSE:DVN) because next year it will concentrate almost 100% of its capital in three high-return areas: the Permian Basin, the Eagleford shale, and the Cana-Woodford. “This focus is a welcome self-help, value creation measure,” it added.
“Devon is also making swift progress in enhancing its operations via improved completion techniques. The company is following the lead of peers in testing increased proppant concentration (pumping more sand in its fracs) and longer laterals with positive early results. As these completion practices move from the testing phase to becoming routine, we expect Devon to close the operational gap with competitors, leading to positive production surprises in the coming quarters.”
Overall, Third Point considers that Devon Energy Corp (NYSE:DVN)’s management has to keep building on its track record and continue concentrating its portfolio on its assets in the Permian Basin, Eagleford, and Cana-Woodford, in order to unlock its full value.
Aside from Mr. Loeb, other billionaires that own shares of Devon Energy Corp (NYSE:DVN) are Ken Griffin, Israel Englander, David Shaw, and Steven Cohen, among others.
The full text of Third Point’s Investor Letter can be downloaded here.
Disclosure: none
