By Matt Doiron
We track filings where hedge funds report their positions in big names in the market, but also in stocks with lower market capitalizations as well. Why? Because these small-cap stocks are an outsized source of alpha for hedge funds, since they tend to be less efficiently priced than the more frequently traveled large- and mega-cap stocks. In fact, the most popular small-cap picks among hedge funds tend to have an alpha of about 120 basis points per month and our own investing strategy - based on hedge fund filings from August - returned 14.3% during the last four months of 2012, vs. a 2.1% gain for the S&P 500 index (read more about our hedge fund small cap strategy). Of course, we don't think that these results are typical and wouldn't guarantee that hedge fund picks will be profitable, but investors can still look at a menu of relatively recent picks and decide if any of those stocks are worth researching further. Here are five stocks with market capitalizations between $1 billion and $5 billion that billionaire and Tiger Cub Stephen Mandel's Lone Pine Capital reported owning in its most recent 13F filing (see the full list of Mandel's stock picks):
The fund's top pick in this range was recent IPO Dunkin Brands (NASDAQ:DNKN), with a position of 7.2 million shares in the owner of Dunkin Donuts and Baskin-Robbins. The company is rapidly expanding, and combined with positive market impressions of quick service restaurants the stock trades at 23 times consensus earnings for 2013. We would note that the most recent data has 12% of the outstanding shares held short. Fellow billionaire Ken Griffin's Citadel Investment Group was buying Dunkin during the third quarter as well (find more stocks Citadel was buying).
Lone Pine owned almost 5 million shares of B/E Aerospace (NASDAQ:BEAV), a company which primarily provides products for aircraft interiors such as seats, oxygen storage systems, and waste water systems (since the filing, BE Aerospace's market cap has increased to $5.2 billion). SAC Capital Advisors, managed by billionaire Steve Cohen, upped its holdings of BE Aerospace to nearly 1 million shares during the third quarter of 2012 (check out more stocks SAC was buying). While the company's sales have been up, net income dropped 72% in its most recent quarterly report versus a year earlier.
WABCO Holdings (NYSE:WBC) was another of Lone Pine's picks, with the fund owning 3.5 million shares of the auto parts company specializing in braking, suspension, and transmission control systems. Revenue and earnings have been down, and as an auto related company Wabco is highly dependent on the broader economy (the stock's beta is 2.3). Earnings multiples are in the low teens and we think there might be better auto related buys. Warren Buffett initiated a position in Wabco during the third quarter with Berkshire Hathaway holding 1.6 million shares in its portfolio (check out Buffett's stock picks).
Mandel and his team also liked Tripadvisor (NASDAQ:TRIP) with 5.7 million shares in Lone Pine's portfolio. Tiger Cubs are excited about travel websites in general, and Tripadvisor is no exception: for example, Philippe Laffont's Coatue Management increased its holdings by 45% to a total of almost 6 million shares. At 34 times trailing earnings, with good-but-not-great earnings growth in the last few quarters, we think that we would prefer other companies in the industry including Priceline (NASDAQ:PCLN).
Lone Pine had 9.4 million shares of healthcare financial management services company Accretive Health (AH) in its portfolio at the end of September. Accretive's share price is down 56% in the last year, and bears are still swarming with 23% of outstanding shares held short. Earnings were down sharply in Q3 2012 from a year earlier on flat revenue, and the valuation is high enough that we would avoid the stock.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: This article is written by Insider Monkey's writer, Matt Doiron, and edited by Meena Krishnamsetty. They don't have any business relationships with any of the companies mentioned in this article and they didn't receive compensation (other than from Insider Monkey and Seeking Alpha) to write this article.