This document discusses strategies for identifying stocks that experience significant price volatility and movements that can be captured for investment gains. It provides examples of stocks that fit these criteria and experienced substantial price increases over 1-2 year periods when purchased during times of uncertainty or negative sentiment in the market. The strategies aim to identify good businesses trading at temporarily discounted valuations due to short-term factors. With a long-term holding period and ability to recognize patterns and value, the approaches have generated outperformance compared to stock market indexes.
2. Stocks are More Volatile Than You Think. . .
• In any given year a majority of stocks trade through a 50% --
100% range.1
• A methodology to consistently capture significant chunks of
these moves generates tremendous alpha.
• Over my 26-year career on Wall Street, I have honed such a
methodology--it is intuitive and works consistently well.
1 In 2014, the average S&P 500 stock traded through a 43% range and the top quartile traded through a 75%
range. In 2013, the average S&P 500 stock traded through a 50% range and the top quartile traded through an
87% range. In 2012, the average S&P 500 stock traded through a 47% range and the top quartile traded
through an 87% range. Midcap stocks trade through even wider annual ranges.
3. Buy good, growing businesses when they
are value-dislocated: 1) In the Penalty Box;
2) Undiscovered, or 3) Forgotten.
• Two Ways to Win: Growth or Multiple Expansion.
• Often both occur and the stock moves geometrically.
• Having a variant perception, and being right about it, leads to
outsized profits.1
• For shorts, simply reverse the playbook.
1 Michael Steinhardt, No Bull: My Life In and Out of Markets.
4. Here’s a perfect example:
• Dollar Tree has a strong business model,
excellent management, solid growth and
high returns on capital.
• At an October 2012 Investor Day,
management mentioned that 3Q Sales
would be at the low end of the guidance
range (EPS would still be at the midpoint of
guidance).
• The stock promptly sold off 20% (33% below
its recent high).
• DLTR sold for 13.4x EPS 1/14E of $2.84.
• Business was fine. Investor anxiety was
overblown. The stock was up 50% a year
later.
• Then, in July 2014 DLTR announced the
acquisition of poorly-run competitor Family
Dollar, an acquisition that had significant
potential accretion.
• Recently DLTR sells for 21.0x EPS 1/17E of
$4.00.
• Expected earnings grew 41%.
• Multiple expanded 57%.
• Stock appreciated 121%
5. Here’s another:
• ULTA Salon Cosmetics operates a growing
chain of disruptive, high-return cosmetics
stores.
• In March 2013, ULTA sold off on the CEO’s
departure and mention of a promotional
environment.
• The stock rebounded 80% in eight months.
• In December 2013, ULTA sold off again on a
2c EPS miss and lowering of store growth
outlook to the low end of the former 15% –
20% range.
• In early 2014, ULTA sold for 21.5x EPS 1/15E
of $3.82.
• Recently, ULTA trades at 32.9x EPS 1/16E of
$4.62.
• Expected earnings grew 21%.
• Multiple expanded 57%.
• Stock appreciated 85%.
• Two 80% moves in two years!
6. If this is happening all the time, how do you
identify and capture it?
• Patience
• Pattern recognition
• Base conversance with scores of companies and business
models
• Capacity to distinguish good/great businesses
• Keen understanding of valuation
• Ability to posit and test a variant perception
• Holding period measured in quarters rather than days
8. Since 2009, Strategy Has Captured Most of
S&P 500 return Despite Low Exposure and
Significantly Outperformed Hedge Funds
HFRX HFRX
Global Equity
Return S&P 500 HF Index HF Index
2009 34% 26% 13% 13%
2010 12% 15% 5% 9%
2011 10% 2% -9% -19%
2012 15% 16% 4% 5%
2013 21% 32% 7% 11%
2014 -1% 14% -1% 1%
Cumulative 127% 158% 19% 17%
Average Exposure
Long Equities 50%
Short Equities -15%
Net Equities 35%
Bonds 15%
Cash 35%
9. Michael C. Freedman
Michael began his career in the Morgan Stanley investment banking analyst program in the
mergers and acquisitions department. He subsequently worked for eight years with entrepreneur
Arthur Goldberg making public and private equity investments and managing and restructuring
affiliated companies including Bally Casinos. After analyzing and recommending public equity
investments for Baron Capital, in 2000 Michael founded a long/short equity hedge fund, Sawgrass
Capital Partners. In 2003, he launched a long/short equity book for Royal Bank of Canada’s
proprietary trading desk. From 2006 to 2008, Michael was a portfolio manager and partner of
Leon Cooperman’s at Omega Advisors. Since 2008, Michael invests family capital and researches
companies and makes investment recommendations for select equity long/short and distressed
credit hedge funds on an outsourced/consultant basis.
Michael graduated magna cum laude from the University of Pennsylvania in 1987. He earned
dual degrees--from The Wharton School a BS in Economics with a major in Finance and from The
College of Arts and Sciences a BA with a major in History. Michael was elected to Phi Beta Kappa
and Beta Gamma Sigma and was both a University Scholar and Benjamin Franklin Scholar at
Penn.
Michael and his wife Felicia live in Armonk, NY with their two children.