May 2017 Investment Exchange Forum: Investing in Asia

The Investment Exchange Forum was held on May 10th at the CFA Society Chicago office at 33 N LaSalle St. The group had lively discussions on the topic at hand surrounding Investments in Asia and broader stock pitches we were considering making investments in or currently held positions in.

David W. of Morningstar started us off with pitching Albemarle Corporation (NYSE: ALB)–a global developer, manufacturer, and marketer of highly-engineered specialty chemicals including lithium, a key component of David’s thesis. Lithium is used in the batteries of electric cars and David believes the market is underestimating the long term potential for electric vehicle adoption. While the market may view the developers of the electric car market such as Tesla at full value (or some would argue over-valued), the way to play the trend is by betting on the suppliers and miners of the components that make up the electric car battery. As adoption grows and as fuel standards continue to increase, all auto manufacturers will have to adjust and likely move into the either fully electric or hybrid vehicles. These secular changes will ultimately drive an increased need for electricity (positive for utilities), lower demand for gas-focused energy (negative for energy) and higher demand for materials used in battery components such as lithium and cobalt (positive for chemical/mining companies). Risks include the phase out of current federal/state incentive programs, lower oil prices making gasoline cheaper, and the still relatively high costs of implementing a fully electric vehicle versus a gas combustion engine.

Matt C. of US Bank also proposed an investment in Asia and two in the US REIT market, New York REIT (NYSE:NYRT), iStar (NYSE:STAR), and Hunter Douglas (AMS:HDG). We started off looking at New York REIT as a liquidation arbitrage play with the perceived liquidation value well in excess of its share price of $9.69/sh as of 5/10/17. New York REIT is an owner operator of 19 properties, which aggregate 3.3 million rentable square feet in primarily office assets in New York City. On January 3rd, 2017, NYRT shareholders approved a plan to liquidate the company. The investment thesis is supported by a number of factors including private market transactions for New York City Class A office rents in the low 4% cap rat rate range. A 4.5% cap rate on last quarters reported NOI equates to a $12.50/sh share price for NYRT. Winthrop Realty Advisors was appointed as the liquidation manager for the assets in March 2017. An incentive plan is in place where Winthrop would participate in added upside bonuses if the liquidation amount totals over $11/sh. We believe Winthrop’s management team would be hesitant to accept the terms of the agreement if they didn’t believe they could achieve over $11/sh in liquidation value. Winthrop Realty Trust, a diversified REIT run by NYRT’s existing management team, excluding CEO Wendy Silverstein, announced its liquidation in April 2014. The initial liquidation estimate was “at least $13.80/share”; to date, $9.25 of dividends have been paid, and the 2016 10-K suggested the remaining assets are estimated to be valued at $9/share, taking the total liquidation estimate to  $18.25, or 32% in excess of the original estimate. As stated in a proxy filing dated September 26, 2016, the company received an offer from a publicly traded REIT for $11.25/share in December 2015, excluding the Viceroy hotel.  With fundamentals in New York City office stable, we fail to see why a 20% discount to this prior offer should exist in the marketplace today.

After our meeting, NYRT reported first quarter results under the liquidation basis of accounting after the close on 5/10/17. The liquidation basis of accounting requires that management estimate the net sales proceeds on an undiscounted basis as well as the undiscounted estimate of future revenues and expenses of the company the through the end of liquidation. The net assets in liquidation at quarter-end were valued at $9.25/sh—disappointing investors in after-market hours sending the shares down 9% after hours. The earnings call provided further clarity around the management team’s liquidation strategy. No assets can be sold until debt assumption has been reached on World-Wide Plaza ($875mm) which includes mezzanine lenders. The debt should be assumed in the near term and there are currently no other assets on the market other than WWP which is expected to close by the end of 3Q17. Liquidation expected to be completed by the 1Q18, however company is not under distress. The company has 2 years to liquidate the holdings (until 4Q18). NYRT is open to someone acquiring NYRT as portfolio, however will continue to proceeding with liquidation efforts.

Two other companies discussed included iStar (STAR), a US mortgage REIT that turned into a landlord after the recession of 2008. Matt likes investing in REITs, particularly smaller cap mortgage REITs because he believes there is a lot of mispricing in the market. The background is that the company hasn’t paid a dividend since 2010 and they have been soaking up their NOL’s as they sell off properties they have foreclosed on. Matt said the company believes that shares could be worth two to three times current trading levels if the assets are broken up and sold separately in the private market. Finally, Matt presented Hunter Douglas (AMS:HDG) which is an overseas company operating in two business segments—window coverings and architectural products—both which provide the company with remarkable cash flows. The company is based in the Netherlands and is 70% family owned leaving float at only 30%, a key risk for the investment. There is ample cash on balance sheet, however we discussed examples including Nokia and Emerson Radio where you can burn cash by investing in unprofitable ventures in your own business.

Nick R. of Oculus Asset Management proposed a number of investments in Asia including Cross-Harbour Holdings Ltd (HKG:0032), Methanex Corporation (NASDAQ:MEOH), and Swire Pacific Ltd (HKG:0019). Cross-Harbour Holdings is a $4.3B Honk Kong investment holding company that owns toll roads for tunnels that go into Hong Kong and owns subsidiaries that operate driver training centers. The company maintains 61% gross margins and has ample cash on the balance sheet creating a natural floor for shares. Share price performance has been astounding—since 2014 the stock has delivered an over 100% return doubling from near $5.50/sh to $12/sh where it trades today. Methanex is a China spread business that sells Methanol made out of coal in China, in which they possess a dominant monopoly. The Company operates production sites in Canada, Chile, Egypt, New Zealand. Finally, Swire Pacific Ltd, is a Hong Kong based company that is the Holdco of five diversified well-run businesses in Hong Kong. The business operates as a diversified conglomerate controlling an aviation manufacturer, a Coke bottler, tugboats and steamboats, and other subsidiaries. The company maintains 25% operating margins, however the largest risk to this investment is its lack of float with the private owners owning the majority of outstanding shares. Because of this, the company trades at a discount for both the lack of control and its conglomerate structure. Risks to these investments include currency risk, unique rules on the exchanges, poor corporate governance, and lack of float outstanding.

The Investment Exchange Forum is held every other month. Please check the CFA Society Chicago website to register for the next event.

Volunteer of the Month: June 2017

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Andrew Bushey, CFA

Andrew Bushey, CFA

The Social Events Advisory Group is tasked with organizing relaxing, entertaining, and networking-oriented events that will appeal to the Society’s diverse membership. Andrew has been actively involved on the advisory group since 2016 and is part of a core group of members thinking outside the box when planning social events.

Today Andrew is being recognized for his efforts with the Society’s kickball team. Since the inception in summer 2014, Andrew has played every year on the team and will be serving as team captain when the summer league starts later this month.

Help us in thanking Andrew for taking his advisory group duties to the next level and making the Society champions on the field!

We appreciate all you do for the Society Andrew!

FINTECH EXCHANGE 2017

Hosted by Barchart, the third annual FinTech Exchange held on April 27th at Venue SIX10 highlighted the latest in technology innovation for financial markets and trading firms. The 2017 event focused on methods in which data is delivered, stored, analyzed and visualized; as well as the new types of data in the alternative space. It featured 10-minute Lightning Round presentations, topic specific round table discussions, plus an all-day exhibit hall for networking that featured a Live DJ and Pro Ping Pong action.

Barchart’s CEO Mark Haraburda, delivered the opening remarks and highlighted the fact that Chicago was ranked among the top five FinTech hubs in the world by Deloitte. In Deloitte’s published report, Connecting Global Fintech: Interim Hub Review 2017, Chicago acts as the epicenter for all FinTech activity in the Midwest, representing well over 20,000 financial institutions.

The keynote speaker was Vaidy Krishnan from Tableau, a software company that helps people see and understand their data. He spoke about choosing an analytics platform that not only offers data visualization, but also can provide visual analytics that help you dive into the “why” of your data. Data visualization tools such as static dashboards are the start of the analytical process and not the end; while visual analytics software go a step further and provide interactive exploration of the data to its most granular detail.

The Lightning Rounds began with Maria Belianina from OneTick speaking about the power of integrating with a single point platform for tick data management and analysis. In addition to being a data warehouse, OneTick is directly integrated with R and MATLAB for quantitative analysis.

Julie Menacho from the CME Group spoke about the exchange’s market technology and data services. CME Datamine offers historical data via the cloud through a partnership with Amazon Web Services and software provider TickSmith. She then went on to discuss the CME’s initiative around Alternative Data, which she described as non-traditional data sources which can be leveraged as part of the investment process. One example was satellite imagery of where world oil tanks were being stored to give an idea of the current supply of oil. These new sources of untapped data can be a predictive indicator of market performance.

Sean Naismith from Enova Decisions talked about harnessing the power of predictive analytics. He spoke about their decision management system Colossus, which is integrated with multiple data providers to help produce optimal decisions in real-time. These predictive analytics are used to help detect fraud, minimize credit risk, and optimize operations in real-time.

Catherine Clay from the CBOE discussed how the CBOE is keeping its innovative mojo, through the two P’s, Process and Partners. She described the CBOE’s weekly development release cycle to push out code related enhancements. She also went over the CBOE’s technology partnerships that allow the exchange to expand their market data and product offerings.

In honor of National Bring your Child to Work Day, Jim Austin of Vertex Analytics decided to put his kids to work! They put on a fun re-enactment of a chaotic open outcry where all you heard was the fill order. Jim used this to highlight the amount of undocumented activity that can occur during trading. He then brought us into today’s world of big market data and electronic trading. Vertex provides a solution to capture, manage, and analyze this financial market data, currently collecting over 4.5 billion market messages per day. Firms can also use Vertex’s platform to supervise their own trading patterns and behavior, which can be used to mitigate compliance violations.

The final two presentations focused on how FinTech is disrupting retail trading. Tim McDermott of Nadex, highlighted the key issues that hold individuals back from trading. These key issues included margin requirements, fear of professional traders, time constraints, and an unclear path on how to begin. Nadex offers small binary option contracts with a floor of $0 and a ceiling of $100, limiting a trader’s overall risk. It’s also easy to open an account and begin trading if you pass all the checks, usually within 15 minutes. Michael Patak from Topstep Trader also believes there’s a lot of opportunity in retail. He believes that by combining education with games, you can attract new traders to the marketplace. TopStep Trader provides a path where you can fine tune your approach using real-time simulated accounts.

I attended one of the roundtable sessions led by Jason Henrichs and Lisa Curran, CFA, from FinTEx, a Chicago based nonprofit, and learned how they’re growing the FinTech ecosystem in the Midwest. Lisa went on to speak about how FinTEx is focused on promoting collaboration among their member firms and modeled their events to resemble those hosted by CFA Society Chicago. Jason discussed their partnership with FinTech Sandbox, a nonprofit group that provides startups free access to financial data and infrastructure. This partnership should provide a boost to Chicago’s already surging FinTech sector.

This was my first time attending the FinTech Exchange but it will not be my last. I wasn’t aware of the vast amount of innovation occurring right here on our doorsteps in Chicago, and I’m excited to see how these new sources of data impact the Financial Services sector.

Vault Series: Doug Ramsey, CFA, CMT, The Leuthold Group, LLC

Playing the Market Melt-Up

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The CFA Society Chicago gathered in the Vault Room at 33 North LaSalle to hear Doug Ramsey, CFA of Leuthold Weeden Capital Management discuss the likely future direction of the equity market. Ramsey is the CIO of The Leuthold Group and co-portfolio manager of the Leuthold Core Investment Fund and Leuthold Global Fund. .

Ramsey is both a CFA charterholder and a Chartered Market Technician (“CMT”). Holders of the CMT have demonstrated expertise in the theory, practice and application of technical analysis. He maintains Leuthold’s proprietary Major Trend Index, a multi-factor model that utilizes mainly technical data. The model contains a long history of market data going back to 1930. The data and subsequent market behavior discussed in the Vault Room included data up to May 12th of this year.

The Major Trend Index is comprised of 130 indicators that roll-up into 5 categories. The categories are comprised of quantitative and qualitative factors that influence the direction of markets. A plus and minus figure is computed for each category and a ratio that includes all the data is computed. The Major Trend Index yielded a ratio of 1.14 as of May 12th,  a ratio over 1.00 is considered bullish.

The age of the current bull equity market has many speculating that the bull market is nearing an end. Ramsey spoke at length as to how his model can be used to forecast a market top. The Major Trend Index concludes that the current bull market has more room to run. He believes that the equity market sell-off in early 2016 has set the stage for another leg-up in the current bull market.

The model used by Ramsey uses seven (7) stock market indices to monitor the health of the equity market.  They are as follows:

  • Dow 65 Composite
  • Dow Transports
  • Dow Utilities
  • Russell 2000
  • S&P 500 Financials
  • S&P 500 Cyclicals
  • NYSE Advance/Decline Line

Negative performance in at least 5 of these 7 categories has foretold a market top. Ramsey characterizes a market top as a “lonely” one. The bull market is propelled at its end by only one or two sectors before a bear market begins.

DSC_3744Ramsey then spoke at some length about the market sell-off that occurred at the beginning of 2016 and its effect on the current bull market. In May of 2015 six (6) of the seven (7) categories were in negative territory which is a strong indication of a market top. The equity market was essentially flat in 2015 and the beginning of 2016 a market correction occurred. A bear market did not occur as the index only fell 14%, by definition a bear market does not begin before a 20% sell-off.

The fact that a bear market did not occur after the 2015 signal does not necessarily negate the usefulness of the model. The year 2015 coincided with a trough in corporate earnings and the market reflected that. Ramsey believes that the 14% pullback that occurred in early 2016 has given new life to the current bull market which in his opinion does not look to have reached its top.

Following his presentation Ramsey spoke with a group of attendees on a number of topics including:

  • Momentum investing works, investing in sectors or companies that have already experienced price appreciation can still yield profit.
  • Tech valuations are not in bubble territory. Several slides in his presentation illustrated the strong earnings that are now being realized by tech companies.
  • You can make an argument that low volatility (higher dividend)  stocks may have reached bubble territory since investors appear to be drawn to these.