In an industry where everybody seems to be going to index investing, it takes a good reason to stick it out as an active investor. After all, performance aside, active investing takes a lot more time than dollar cost averaging into SPY, for example.
While many of us are convinced we can do better and some just feel more confident managing their own money, the most obvious explanation for why an investor would spend the time doing it themselves is because she/he likes investing. There's a passion for business analysis, or financial analysis, or numbers, or risk-taking, or competition, or whatever.
Passion is the word that comes to mind when reading Courage & Conviction Investing's work. The author has become a fixture on Seeking Alpha over the last three years, looking for ways to dig deeper and find an edge amidst an ever competitive market. With their new Marketplace service Market Adventures (an apropos name) recently launched, we thought it would be worth having C&CI join the roundtable to talk about his unique approach.
Seeking Alpha: How big of a book do you usually run? How long do you usually hold positions?
Courage & Conviction Investing, author of Market Adventures: I don't manage any outside money other than my personal account, colloquially referred to by professional investors as your "PA". My PA is only $125,000. I do advise my parents, who have just north of $300,000 of investable assets that they would consider putting at risk in the stock market. They do have other savings and assets, but are disciplined enough to only "put at risk" this pool of capital. That said, I want to emphasize that my parents ultimately make all of their own buy and sell decisions and I have no control or discretion over their accounts. In other words, I have to pitch them my thesis and explain why an idea is compelling. They then make their own thumbs up or down determination and figure out how they want to size a name. As I have loved the process of idea discovery, synthesizing a new idea, crafting a thesis, and then ultimately sharing it, I also pitch ideas to a few select friends of mine all the time. Now that I launched Market Adventures, I am pitching my subscribers my latest discoveries.
In terms of holding a position, it really varies. I own up to eight ideas at a time. I don’t have any hard and fast rules. I am 80% art/intuition and 20% science. I am not into financial ratios (beyond understanding them as a baseline and prerequisite) per se and find that the most serious money is often made when you figure out: what a company does, how it makes money, reverse engineer consensus estimates (back of the envelope), and then work out that upcoming operating results will be higher (if you are long) or lower (if you are short) than consensus. I am comfortable holding a stock for years, but also enjoy short-term trading ideas (3-6 month bets) on a defined event (earnings, a turnaround, M&A chatter, etc.). My mandate is to make money by coming up with good ideas, I am open minded and embrace investing creativity.
SA: You are pretty visible on the site for digging into a position deeper and deeper and covering it from a lot of different angles. How much research do you need to take a position, and when do you become comfortable with investing in a stock?
C&CI: I am very intuitive in my investing process which is a blessing and curse. I can get comfortable taking or recommending a modest position that is say 2-3% of your PA after only three or four hours of work. Until I have some skin in the game, it is hard for me to even begin to do my best work. I know this might sound crazy to many people, as traditional buy-side money managers' investing process consists of spending upwards of 50-100 hours on a name, the latter if it is a new sector, modeling it, calling management, calling your other industry friends, reading every sell-side report, reading the 10-Ks and 10-Qs with a fine-tooth comb, and then finally writing it up and having it go in front an investment committee or convincing a portfolio manager to buy it for their fund. That said, every shop is different, and I can only directly speak from five years of buy-side experience working in Liberty Mutual Investment Grade fixed income department, where I worked directly with senior analysts and portfolio managers as well as picking the brains of my buy-side mentors who were/are equity portfolio managers (my mentor from Wellington retired after a nice 10-year run managing north of $4 billion at the time of retirement).
When I start to get more aggressive with a position, then the amount of work that I do starts to dramatically increase. Again, the key takeaway for me is that “skin in the game” is a key incentive for me to justify “doing the work”. Doing academic research just doesn’t blow my hair back.
SA: On the flipside, how do you guard against confirmation bias or becoming overly committed to a position in a stock? You've managed to publicly change your stance on some of your positions; how do you ensure you're receptive to new information?
C&CI: In terms of confirmation bias, I earned my pen name "Courage & Conviction" with my over the tips of my skis and arguably inordinately risky $81,200 bet on Peabody Energy (BTU) Unsecured bonds (my cost was $0.31 on the dollar and I owned the 2018s and 2020s). Looking back on it, my conviction level was extremely high as I was putting on this outsized bet. I had an idea that I was right, but I miscalculated Peabody Energy’s management team was ethical and working for its stakeholders. It wasn’t.
Through the beauty of Seeking Alpha’s platform and open-minded editors, I was able to write the Peabody Energy Chronicles. From my first write-up in late July 2015-May 2016 (when after sheer exasperation I emotionally and mistakenly threw in the towel), I wrote approximately 50 articles. And by the way, these weren’t any fluffy articles. Given that $81.2K was so stupidly outsized, I pushed myself to my limits and beyond. Some of my pieces took me at least 10 hours to research and craft. I recall emailing back and forth with the folks at the EIA, as I figured out a way to look at everything coal fired plant (from its extensive government databases) in the United States and then worked out which burned Powder River Basin coal and which burned higher Btu coals (Illinois Basin, Western, and Appalachian). I wrote a few win-win letters to Peabody Energy’s management team offering my ideas as to how the balance sheet could be restructured (as early as August 2015). I researched and learned about Laurence Tribe at Harvard Law School and the Clean Power Act.
And finally, I must gloat a bit that through the vibrant Peabody investor base within the commentary threads and from my outsized Peabody following, I was able to share my famous "The Hedge Funds Have An Exposed Left Flank" piece where through the collaboration process of this collective cast of characters, we discovered and I wrote about an incredibly mispriced options opportunity. I am particularly proud that in late February and early March 2016 investors made a lot of money. Moreover, some readers still had legacy Peabody call option that they never sold during the first squeeze and when met coal had its massive leg up from August 2016 to December 2016, there was another major short squeeze (around the time Mangrove’s push for an equity committee) where shares briefly leapt to north of $18. A friend of mine, who I met on SA, turned $30K into upwards $750K (if he caught the top), but eventually walked away with a $420K profit, as he was hoping to make a $1 million and didn’t hit the bid when he was up $720K.
My long-winded answer after I lost $51.2K on a $81.2K bet where I literally spent hundreds of hours researching and where I was so emotionally invested in the outcome is that once you fail so spectacularly, like I did with Peabody, you realize that you are no longer afraid of losses. And when you aren’t afraid to put yourself out there and push yourself to be the best analyst that you can be, regardless of the outcome, it is quantum leap in your investing journey. By the way, I sold my 255 bonds at $10.72 per bond after commissions in late May 2016. By early December 2016, these bonds briefly traded at $80. So from where I sold them to pinnacle, I left $176K on the table. Those are breaks. Despite the outcome, I wouldn’t change nor do I regret the time, effort, and financial loss, as it was worth the proverbial cost of tuition.
SA: There also seems to be a trend in your writing and investing to try to ride with or against a given wave, whether it is trying to catch a short squeeze with Weight Watchers (WTW) or defy hedge funds picking against GNC (NYSE:GNC). Is this deliberate as a strategy, or just a force of habit and interest?
C&CI: No question, I love to write colorfully and run against the thoroughbreds, so to speak. Anyone that played or even recreationally plays sports know that there is no great satisfaction than beating a rival or team that are vastly superior to you on paper. And that is why fans cheer for the big-hearted underdog.
In other words, if I find a compelling idea, and trust me, I am very selective in my art form and intuition, I feel like a kid in a candy store when an idea that I love has a really high short interest. Given my average IQ and 570 GMAT score, I have so much fun trying to outthink and out dream the Masters of the Universe (hedge funds). This stems from my having a chip on my shoulder as I was a runner-up for a coveted investment associate role in Putnam Investment Equity Research Group, circa 2004. Then even at Liberty Mutual, despite getting in the office at before most analysts and exhibiting so much passion and potential, I just didn’t fit into the organization. To this day, I still think that half the senior analysts there think I am off my rocker and way too passionate about investing and sharing ideas. I used to constantly pitch senior analysts in an Investment Grade Fixed Income department, my latest and greatest high octane stock ideas (and many of them were spot on, by the way). If I weren't so passionate and, at times likable, I would be somewhat surprised that I lasted five years there. Post Liberty, I had other buy-side interviews, notably for a fixed income analyst role at Fidelity, but despite coming close and advancing multiple rounds, I fell short. This feeling of having the passion and god-given talent, yet never making it to “the show” is an amazing catalyst that propels me to keep pushing, keep trying, and getting up off the mat after failing. As an aside, we are blessed to live in America given the tremendous opportunities available to people with average intelligence like me that are passionate, resilient, and do not quit. I don’t want to sound cheesy; I believe it to my core that in America anything can happen. This is truly the land of opportunity; it just doesn’t happen overnight and the path is often winding and full of failure. However, these failures are your greatest teachers and can enable you to reach new heights.
SA: What's the biggest lesson you've learned in your time writing at SA?
C&CI: What I love about the SA platform is that you are free to roam and write about any stock or bond, industry, sector, or even macro topic. On the buy and sell side, you constrained to one sector and group of name, it could be something boring like pulp and paper or chemicals. I learned that the best way to learn is to put yourself out there to the public and have your work on display. I have made some great friendships with people who I now consider friends. I would have never crossed paths with these people if I hadn’t put myself out there on SA and taken risk of being wrong. Incidentally, I find that what resonate with my readers is my authenticity, candor, and that I have skin in the game. People love when other people eat their own cooking.
SA: What's a current high conviction idea and what's the story behind it?
C&CI: As of today, my three best ideas are GNC, Macy's (M) and Famous Dave's (DAVE). We own all three of them, and I have written about them all in a lot of detail. However, here is a quick elevator pitch.
GNC: CEO Robert Moran’s bold New GNC turnaround is working. I see it from my channel checks and speaking with store managers, I see it in the marketing material that they send me, as a GNC Pro subscriber, and there are still 27.5 million shares short as of April 28, 2017. Essentially, besides make-up and beauty products, which I would ranked first, health and wellness is the second-best retail category to play in. GNC was lost in the Steve Job’s proverbial wilderness for years, but Moran’s leadership and vision are working, and even though the Masters of the Universe shorts lack the imagination to see it, as they are myopically focused on their overly elaborate rear-view-mirror financial models, just this past Tuesday night, May 16th, after the bell, we learned that Mr. Moran bought another $2 million worth of GNC stock in his PA. He now owns 953K shares and had ponied up $7 million of his own money. When I read his Q2 and Q3 2016 conference call transcripts as well as about his New GNC turnaround plan, my intuition barometer was flashing a full alert signal. At this point, I am not sure if I should start selling my GNC shares at $20 or $25.
Macy’s: Full disclosure: We own 700 shares in my Dad’s account with a cost basis of $33 (excluding dividends he has earned). At $23 and trading at 7X earnings, it is time to back up the truck. Yes, I love Macy’s owned real estate, especially Herald Square, but I shop there all the time and I find it still has designer label product, lots of selection, and fair prices, especially when it runs attractive sales. Also, my wife and I buy from Macy’s.com, and it is great, and I have never had any issues. In other words, Macy’s is a survivor, and I am convinced that its operating metrics will improve once it completes the closure of its Tier C stores. This will free up inventory dollars, and at these valuations, including very manageable debt, don’t be surprised if the private equity shop tries to swoop in and buy it out. We recently added to our position through January 2018 $27.50 call options when we paid $1.18 per contract.
Famous Dave’s: This is a name that we have owned since November 2015. Let me be clear. I have been early and my Dad and me own big positions, as I still believe in my thesis. Famous Dave’s management just announced that it will be selling or closing its remaining 33 company-run stores and moving to a 100% franchisor model. Essentially, investors are missing the forest for the trees. I will be updating my model soon, but given the 5% royalty income stream, Famous Dave’s healthy balance sheet, its commitment to reducing bloated SG&A (as I attended its annual shareholder meeting in Minnetonka, MN on May 2nd and met with the CEO, CFO, and chairman of the board in person and for 15 minutes), and its menu changes, DAVE’s enterprise value relative to its normalized future EBITDA is simply way too low as the market isn’t pricing in much turnaround optionality. At $4 per share, I love shares of Famous Dave’s from a risk/reward standpoint. However, this is high, high octane investing. This name isn’t for the faint of heart or the impatient.
Please follow the SA Marketplace account above or below to get our (more than) weekly Roundtable and any other latest news on the platform. We're sharing at least two Roundtable discussions next week, and are looking to share more interviews and discussions from our Marketplace authors.
Next week's guests (tentatively): The Investment Doctor and David Trainer
Editor's Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.
This article was written by
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Courage & Conviction Investing is Long GNC, M, and DAVE.