David Einhorn Tells His Clients: "This Must Be Frustrating To You" - Full Greenlight Letter

In his latest quarterly letter to clients, Greenlight Capital’s David Einhorn reported that the funds declined 1.6 percent in Q4, bringing the total 2017 return to 1.6%, far below the S&P's 21.8% and does something few hedge fund managers do: apologize to his clients, saying "this must be frustrating to you, our Partners. It is certainly frustrating to us."

As he often, Einhorn begins his letter with a sports reference, only instead of his preferred pastime, poker, this time he uses fantasy baseball:

David began playing fantasy baseball in 1985. In fantasy baseball you draft a “team” of individual players from different real-life major league teams at the beginning of the season and compete against teams picked by your friends. The player whose team does the best across a variety of statistical areas wins. In the pre-internet and even pre-ESPN Baseball Tonight days, you tracked players using newspaper box scores. Unless you saw the game, there was no other easy way to find out how your players did. To get a clue, you might get the scores from the local TV news. If you owned the best hitter on the Blue Jays and you saw the Blue Jays scored 10 runs, there was a good chance that the next day’s box scores would bring good news for your team. A teenager could fall asleep to that kind of happy thought.

However, once in a while the morning box score would reveal that despite the Blue Jays scoring 10 runs, your slugger had an uneventful and useless 1 for 5 game. It’s disappointing and feels worse than if your player had the same result in a game where the Blue Jays were shut out (unless you are also a Blue Jays fan). And, it doesn’t matter if  your player was swinging well and hitting the ball hard every time or whether his evening was marred by ugly strikeouts, pop-ups and double plays. 1 for 5 is 1 for 5. Fantasy baseball only counts the statistical results.

Why the analogy? Well, because as Einhorn admits, "Our quarter and year felt just like that" and explains:  "We had a non-descript result in a period where it seems like most around us did much better. This must be frustrating to you, our Partners. It is certainly frustrating to us."

And, yet, as we were in the batter’s box so to speak, it felt like we were swinging well and hitting the ball hard. We just didn’t deliver a satisfactory result on the scoreboard. There were plenty of nights we happily went to sleep with company results that matched our non-consensus expectations, but it didn’t translate into a win the following day."

What kept a lid on gains? Well, when you are short some of the biggest "bubble stocks" - which crushed it in 2017 - there will be several. He explains:

The biggest losers for the year were our short positions on the “bubble basket” and Caterpillar (CAT). It’s tough to look at full year losses on Amazon (+56%), athenahealth (+26%), Netflix (+55%) and Tesla (+46%) when we believe all those stocks appeared priced with little margin for error entering the year, and none executed well or met fundamental expectations in 2017. CAT did reduce its cost structure and benefitted from a modest improvement in demand, which led to a series of quarters that exceeded expectations. However, CAT’s current stock price projects a rebound in sales and earnings that is unlikely to occur given the end-market conditions in mining and energy.

So now what? Well, it's time to look forward according to Einhorn, who says that "it’s a long season and we are ready for the next game. Let’s see what happens."

But before that, one more mea culpa from the hedge fund manager who recently warned  that  "None Of The Problems From The Crisis Have Been Solved." Of note: the ongoing hurdles that value investors everywhere have to face:

Despite it being a good year in the market, it was a challenging environment for our investment style. We do not mimic any index and we can think “outside the box.” We have a value orientation and we take comfort from the margin of safety afforded by the low valuations of our long investments. Though most people understood our last quarterly letter as tongue-in-cheek and while we certainly don’t believe value investing is dead, it is clearly out of favor at the moment. Last year the Russell 1000 Pure Growth Index outperformed the Russell 1000 Pure Value Index 38% to 4%.

That said, Einhorn hopes to stick it out, and "while it feels like we have been running face first into the wind, we don’t intend to capitulate and are sticking to our strategy of being long misunderstood value and shorting 'not value.'"

Some other highlights from the latest Greenlight letter:

  • Took small position in Twitter in the fourth quarter on the potential for future revenue growth; Shares of Twitter briefly erased losses on the news
  • Took small position in Ensco as shale oil supply growth will unlikely be able to meet global demand, leaving offshore drilling to fill the gap
  • Initiated large long position in Brighthouse Financial with shares trading at 40%-50% discount to similar companies with normal capital return policies
  • Repurchased stake in Time Warner when the stock fell in response to the U.S. government opposing sale to AT&T; "we think that the Department of Justice has a weak anti-trust case and the merger is likely to go through"
  • Exited positions in Hewlett Packard Enterprise, Rite Aid, VanEck Vectors Gold Miners ETF, ISS A/S and "closed an unsuccessful short in Deere"
  • Biggest losers on the year were short positions on "bubble basket" and Caterpillar; says General Motors remains significantly undervalued
  • At year-end, the largest disclosed long positions in the Partnerships were AerCap, Bayer, Brighthouse Financial, General Motors and gold. The hedge fund had an average exposure of 107% long and 66% short.

Full letter below: