Jim Chanos, manager of Kynikos Associates, focuses on short-selling stocks. Investors who seek to find investments on the long side which do not alarm professional short-sellers like Mr. Chanos can look to regulatory filings to find the companies Kynikos holds as long positions. Kynikos holds these long positions based on individual merit or as hedges for its short positions in other, questionable firms. In either case, these long holdings pass the smell test from an investment team that specializes in sniffing out problems. Furthermore, nine of them are attractive investment candidates based on valuation.
Chanos Sometimes Shorts Value Traps
Many faux-value investments are flawed and end up revealing themselves as value traps. Mr. Chanos explained these value-mirages in a lengthy interview:
Probably [one of] our best ideas over the past ten or 12 years have been ideas that looked cheap and which actually ensnared a lot of value investors. The investors didn't realize that these businesses were deteriorating faster than their ability to generate cash. Eastman Kodak was a great example of that. A few famous value investors were buying it all the way down because they assumed that the decline in the business would be a slow glide that would allow the company to harvest cash flows for the benefit of shareholders. The fact of the matter is that, for most declining businesses, management tends to redeploy cash flow into things outside of their core competencies in a desperate attempt to save their jobs. In the case of Kodak, [it] took some of [its] patent proceeds and cash flow and invested in a printer business, which is another declining business model. [Kodak] ended up being decimated by [its] own invention of digital photography. When analyzing Kodak as a short candidate, valuation was almost the last aspect that we considered because, as I said, some of the best short ideas can look cheap from a valuation standpoint.
Ultimately the challenge for a value investor is to compare the market price of a share to the estimate of its value. If the share is underpriced, it is a buy candidate. If it is overpriced, it is a sell candidate. Mr. Chanos has found that many value investors fail to recognize structural changes to a company's operations which will impair or eliminate future cash flows, invalidating their estimates.
Kynikos Long Positions
Changes to Kynikos'long book was disclosed in its second quarter 13F-filing. Long positions in individual stocks are listed below with static valuation metrics.
Catalog & Mail Order Houses
Information Technology Services
Technical & System Software
Whole Foods Market
Kohlberg Kravis Roberts
Liberty Capital Group
Entertainment - Diversified
Chicago Bridge & Iron
Independent Oil & Gas
Deere & Company
Farm & Construction Machinery
Foreign Regional Banks
Money Center Banks
Money Center Banks
The Royal Bank of Scotland
Foreign Money Center Banks
Many of these firms are overvalued when considering these price multiples. Shares of AMZN, KKR, RAX, VC, VMW, and WFM are clearly overvalued on the basis of price-to-earnings ratios alone. Shares of LMCA are more reasonable, but lack any price multiples that make them appear attractively priced.
Fortunately, the remaining stocks held by Kynikos trade at attractive valuations. Shares of ORCL, MSFT, and CBI trade at attractive multiples of free cash flows. Shares of APA and DE are attractive on a price-to-earnings basis. Though financial stocks are hard to analyze, Mr. Chanos's fund has decided to hold shares of DB, C, JPM, and RBS. With the exception of RBS, these financial companies sell at attractive price-to-earnings ratios, price-to-free cash flow ratios, and at discounts to book value.
All-in-all, there are nine attractively priced value stocks candidates among Kynikos' long holdings: five non-financial stocks and four financial stocks. They are held by a legendary short seller, indicating that they do not raise concerns from the best financial sleuths. Moreover, these stocks trade at attractive price multiples.
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