Author: Mark Holder
Model: Opportunistic Arbitrage Model
Disclosure: Long X, WFT, FCX, IBN, CCIH, RDWR, ANR, MEE, CEPH
March was another volatile month. The month ended on a solid note with the Opportunistic Arbitrage (levered) model ending with a 2.3% gain compared to a slight loss for the S&P500. Considering this model ended the month with considerable leverage on the long side, it’s gratifying when it outperforms the market in negative months for the S&P 500, even if the market’s loss was negligible.
As mentioned in the March investment report, I believed the market was in need of a selloff and the S&P500 got that in the form of a strong drop to the intraday low of 1,249 on March 16th. While many experts expected and continue to expect a larger selloff, in our view this was the buying opportunity we were waiting on. (Source: Yahoo Finance)
Added More Long Exposure
We added more long exposure around the middle of March. Specifically, we added exposure to the oil services and commodity sector to benefit from the rebuilding in Japan and continued emerging market growth. Also, our research focused on stocks that had recently seen drops in the 10-20% range from recent highs in February.
United States Steel (NYSE: X) is a new position expected to benefit from the increased demand for steel in Japan while also benefiting from a closure of steel mills due to the earthquake and tsunami. X also benefits from having its own source of iron ore allowing them to benefit from rising commodity costs while competitors are squeezed.
Weatherford International (NYSE: WFT) was another addition (added on the 15th), aimed at benefiting from the higher oil prices. WFT was also hit by a tax restatement placing concern on their financial controls. While the tax issue is a concern, it doesn’t appear to place any long term distress on their business. The drop has turned out to be a gift, as other oil service companies were hitting high notes in mid March.
Freeport-McMoRan Copper & Gold (NYSE: FCX) was a position we added to on the 16th as the market was hitting its monthly lows. FCX was a long term holding that I trimmed earlier this year, then reinitiated at the end of February. Copper hit a peak earlier this year and has struggled since, but signs indicate that copper supply will struggle to keep up with Asian demand.
The purchase of FCX concluded a string of buys that added exposure to commodity and emerging markets from mid February to mid March. All in all, ICICI Bank (NYSE: IBN), ChinaCache (NASDAQ: CCIH), and Radware (NASDAQ: RDWR) were bought in addition to X, WFT, and FCX, which brought the model to a leverage of 1.7 as of end of day March 31.
No Sells Yet
No positions were sold in March, as the market selloff left stocks more attractive to buy then sell. With the six additional positions added, the current holdings list has reached a level higher then the historical average for this model and above our desired level.
In the next few months, I expect the position total to drop back to the expected upper limit of 25, via either outright sells or position consolidations like the Alpha Natural Resources (NYSE: ANR) buyout of Massey Energy (NYSE: MEE). Also, Cephalon (NASDAQ: CEPH) recently got a bid from Valeant Pharma (VRX), leaving the likelihood that this model will cash out of CEPH with the stock already trading above the $73 offer, as of April 1.
Conclusion
The market remains attractive at these levels. Expect some bumpy earnings reports as some sectors like technology could have Q1 numbers impacted by the disaster in Japan. Though this model is virtually fully invested, any selloffs in leading technology companies would be seen as buying opportunities and not a reason to panic sell.
Mark A. Holder
Chief Investment Officer
Stone Fox Capital
Sources:
“Valeant Makes $5.7 Billion Hostile Bid for Cephalon” Michael De La Merced, New York Times 3/29/11 http://dealbook.nytimes.com/2011/03/29/valeant-makes-5-7-billion-hostile-bid-for-cephalon/
