CNBC published an article citing Loeb's four key risks. Loeb's hedge fund was up 18.2% in 2017 against the S&P 500's 21.8%. Since inception in 1995 to 2017, Loeb achieved annual returns of 15.8% against the S&P 500's 8.2%. Dan Loeb's 4 key risks as per CNBC:
1. Decelerating growth:
"Since growth is already at a high level, further acceleration is less likely. That means that average returns will likely be lower and volatility higher this year."
This statement by Loeb surprised me a little bit because I've been under the impression GDP doesn't correlate with stock market returns very well. Because Loeb's statement seems to indicate he believes otherwise I figured it time to look a little bit further into this notion. Turns out Schroders looked into it in 2013 in quite an interesting report. I'll take two key quotes(emphasis mine):
a significant relationship has been found between equity returns and expected GDP growth.
The relationship between GDP growth and financial markets needs to be seen in the context of the broader economic cycle. In particular, the behaviour of GDP growth needs to be considered alongside changes in inflation and monetary policy. In support of Dimson, Marsh and Staunton, the Schroders Economics team find evidence that markets can perform well during periods of weak economic growth if accompanied by an easing in monetary policy.
What's concerning about this study which looked at the relationship at a more granular level is that it suggests 1) the coming GDP growth has already been priced in (that wouldn't surprise me) 2) We are just about to reverse the largest monetary easing operations in the history of mankind while short term future GDP growth has likely been priced in but what comes after we don't know.
2. Rising inflation:
"Low inflation has been a critical support for the market because it has allowed the Fed to be unhurried in its rate normalization. … We are watching closely to see how a tightening labor market and recently announced wage hikes will shape the future path of inflation."
Various people argued over the last few years the Fed should have raised rates sooner to give itself some leeway. Right about now that seems to make a lot of sense because IF inflation really picks up, it is very hard to control. The Fed felt compelled to raise rates well into double digits back in the eighties:
If inflation pressure somehow coincides with a recession that puts the Fed into a very awkward position. I don't (yet) see how they could effectively deal with something like that.
3. Less earnings growth:
"The momentum of earnings growth is at a peak and its normalization could create greater volatility compared with the tranquility of 2017."
This notion has not really reached most investors. But it makes a lot of sense that earnings should at least decelerate their advance. Wages have been stagnant. With demand falling off, commodity prices slumped. Commodity prices, and not just oil, are key inputs into company costs. Finally, with the Fed bringing down the Fed fund rates and through QE, interest rates were kept artificially low. If you have historically low interest rates costs, wage stagnation and low costs for commodity inputs, you have a dream scenario for corporate margins. That's exactly what we got; record high corporate margins.
4. Recession:
"A recession would come as a surprise to investors and would likely lead to a substantial market decline given the expansion in valuations in recent years and the concern that the Fed would not have enough ammunition to sufficiently stimulate the economy."
I'm not aware of any signs a recession could be creeping up on us. Instead everything I've looked at lately points to the opposite. However, that probably means every sign of a pending recession materializing (there are usually many false positives) could be discounted.
You can find Loeb's entire portfolio here but the largest positions showing on the 13-f are pictured below:
Quite a few are activist situations. Either with Loeb publicly engaged himself or where he could be cooperating with other activists like NXP Semiconductors which is an Elliott Advisors target or DowDuPont where Trian Partners, JANA Partners, and Glenview Capital are all involved. He also seems to be riding the FANG wave through Facebook and Alphabet which undoubtedly helped him to track the S&P 500 so closely despite his value style.
Disclosure: Author is long NXP
