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Market Musings - August 12, 2018 (Four Arb Plays Update)

|About: Pershing Square Holdings, Ltd. (PSHZF), SDI, SFTBY, VIAB
Summary

Back on October 27, 2017, we presented the blog entitled "Money For Nothing--Four Arbitrage Plays"

As close to 10 months have elapsed since this blog post, it seems a quick update is in order.

If one had gone long each of our four arb plays (unhedged) last October and held through today, one would have gained 50%, 18%, 14% and 1.33%, respectively (including dividends).

We continue our blog series: Market Musings, Volume 2, Edition 23, giving our (hopefully not too random) thoughts on recent goings-on in the markets. Today, we present "Arbitrage Play Updates".

Back on October 27, 2017, we presented the blog entitled "Money For Nothing--Four Arbitrage Plays" (for which see here). As close to 10 months have elapsed since this blog post, it seems a quick update is in order:

1. Standard Diversified Opportunities Fund (ticker SDI; SEC filings here), our first presented play, was then trading at $10.50/share. Today it is close to $16:

As per our October blog post, the vast majority of SDI's value is attributable to its 51% ownership interest in Turning Point Brands (ticker TPB) [SECs here]. Fortunately TPB's stock has nearly doubled since last October, as shown below (causing a consequent rise of 50% in SDI's stock price):

On the negative side, the arbitrage spread has now widened from 11% then to approximately 26% today. So if one had shorted TPB as a hedge, the arb would have had a large negative return. Fortunately, we simply went long SDOIA (now SDI), so have had significant unrealized gains in the investment. We would expect the spread to narrow back to the 10% to 15% range, either by TPB decreasing or SDI increasing (or a combo thereof).

Target price for SDI = $19/share, or an 11% discount to current NAV.

2. Viacom Inc. "B" Shares (ticker VIAB; SEC filings here), our second arb play, was then trading at $25.67/share: Viacom's "B" shares have the same economic rights as the company's "A" shares, which were trading at $31.96, meaning that the B shares traded at a 20% discount to NAV. Today the B shares are at $30.34 while the A shares trade for $35.85, so the spread has dropped to 15%. Simply going long the B shares would have returned 18% since the date of the initial blog.

Target price for VIAB = indeterminate; depends on the outcome of the Viacom / National Amusements / CBS litigation.

3. Pershing Square Holdings (ticker OTCPK:PSHZF), our third play, was trading at $13.45/share as of October 27, 2017, while the PSHZF NAV as of October 24th was $17.92, meaning that PSHZF traded at a 24% discount to NAV. Fast forward to today and we have the following state of play:

With a $15.30 PPS and a $19.62 recent NAV, PSHZF trades at about a 22% discount to fair value. So things have marginally improved on the PPS-to-NAV front, however if one had simply taken the long side of this trade (as we have), such an investor would be up 14% since the original post.

Target price for PSHZF = $17/share, or a 13% discount to NAV.

4. Lastly, we recommended Softbank ADRs (ticker OTCPK:SFTBY; see IR site here), then trading at $44.90/share. We noted that these shares traded at a huge 36% discount to NAV. Today a huge discount still exists and, while we aren't going to recalculate the NAV (since it is a painstaking process), we note that one hedge fund recently pegged the upside to NAV at about 100%, meaning the spread has (in their view) widened from 36% to about 50% since our original post:

SFTBY shares trade today at $45.34, so since our initial blog post they have gained 1% plus about another 1/3 of 1% via dividends, or about 1.3% overall.

Target price for SFTBY = $70/share, or a 22% discount to NAV.

So, to sum up, if one had gone long each of our four arb plays (unhedged) last October and held through today, one would have gained 50%, 18%, 14% and 1.33%, respectively (including dividends), or an average of 21%, versus up about 11.3% holding the S&P 500 (including dividends). Therefore, the outperformance of our "long arbitrage portfolio" versus the S&P 500 would have been almost 10%. Sounds good. However, the outcome would have been significantly worse if one had attempted to hedge out the market risk of these plays by shorting the underlying assets, such as TPB (in the case of SDI) or BABA (in the case of SFTBY). Which goes to show that in arbitrage there is very rarely a free lunch (and often a costly one).

DISCLOSURE: Long SDI and PSHZF.