Terrier Investing
Long only, value, hedge fund manager

Capital One Warrants A Closer Look

Executive Summary

Capital One's low valuation belies its well-capitalized balance sheet and strong earnings. Sweetening the deal, its TARP warrants trade at a negligible (~6%) time premium despite a November 2018 expiry (five years out, or ~1.2% time premium per year). In the base-case scenario, these offer 20%+ compounded annual returns from now until 2018 (total of 160% upside over 5 years); multiple tailwinds and opportunities could lead to materially higher returns. The company's low valuation and the warrants' negligible premium means that even in the "downside" scenario, returns are likely to be in-line with historical equity returns (7-8%/yr), thus presenting an asymmetric risk-reward for investors with a long time horizon. Adjustment provisions magnify the leverage inherent in the warrants,...

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