Greenlight Capital hedge fund manager David Einhorn (Trades, Portfolio) joined nine other famed investors on Tuesday to talk about stocks at the annual Great Investors’ Best Ideas Investment Symposium in Dallas.
Presenters at the annual conference that raises money for the Michael J. Fox Foundation of Parkinson’s Research and the Vickery Meadow Youth Development Foundation typically pitch one or several of their favorite stocks, which together have had a solid record. A portfolio of the recommendations from last year gained more than 40%, according to Caroline Cooley, a speaker from Crestline Investors.
Fellow speakers at Tuesday’s symposium included Mario Gabelli (Trades, Portfolio) of GAMCO Investors; Ray Nixon, Jr., of Barrow, Hanley, Mewhinney & Strauss; and T Boone Pickens of BP Capital.
Instead of giving a presentation, Einhorn was interviewed by Gretchen Morgenson, assistant business and financial editor of The New York Times. The widely followed investor answered questions covering active vs. passive management strategies, Mylan NV (MYL, Financial), drug pricing, General Motors, DuPont, gold and monetary policy.
Active vs. Passive
Einhorn first discussed a recurring topic of the conference, active vs. increasingly popular passive investing. He said it was not something he thought about much but delivered his view on what has driven the phenomenon.
But it seems to me that passive money management strategies are fundamentally momentum strategies. In other words, the more the stock goes up, the more it becomes weighted in the index. The more it becomes weighted in the index, the more important it becomes. It continues going up. It doesn’t ever revert. You get a bigger and bigger weighting into the stocks that are already rising. And the stocks that aren’t doing well, which tend to make them smaller parts of the index or sometimes they get replaced out of the index or replaced by something else that’s going up. So I think when you have a momentum-oriented market you wind up with better performance for passive strategies. When you have something other than that you probably have a better performance for active strategies.
I think we’re clearly in a momentum market. I think here in this market there’s clearly two groups of stocks. There are stocks that are very, very expensive and almost indifferent to valuation. You see people talk about them and they just don’t tend to put a lot of numbers next to the themes that justify these stocks.
Stock recommendations
Einhorn, whose approach is highly price conscious and mathematical, also approved his fellow speakers’ ideas, calling CIT (CIT, Financial), Apple (AAPL, Financial) and Herc Holdings (HRI, Financial) not just cheap but “very cheap stocks.”
“These stocks are absolutely cheap,” he said, “not just like kind of cheap in an expensive market. These are cheap stocks that you’re getting ideas for today. Of course, none of these are working because we’re just not in a phase of the market where that wants to be rewarded.”
Pharmaceutical companies and price gouging
When asked how some companies that radically increased prices for life-saving drugs face public and governmental backlash while others that do the same are ignored, Einhorn compared Mylan (MYL, Financial) and Mallinckrodt PLC (MNK, Financial).
I think Mylan’s a really good opportunity right now. The reason is is they have this one product – we all know what it is – it’s EpiPen. And they have made the tremendous sin of raising the price from $100 to $600 over the better part of a decade. I think they raised it about 15% a year twice a year, so you had compounded price increasing of this. It’s gotten all of the national press. It’s gotten congressional investigations. It’s just front and center and yet it’s a tiny part of their business. This is a company that the vast majority of their business is generic drugs. And generic drugs are not part of this whole price gouging phenomenon.
So when you think about Mylan’s earnings, and here’s how I think about it, the company’s earning something in the high $4s this year, of which a dollar will be EpiPen. Next year it’s supposed to earn something in the mid $5s. The following year we think it will be in the low $6s. Now EpiPen is something that already is ready for generic competition and we assume by then there will be generic competition. So the earnings that we’re looking at in 2018 in the low $6s, we think only about 25 cents of that comes from EpiPen. So you’re going to earn something in the high $5s, excluding EpiPen. And the stock is today in the mid-$30s. I think that means that there’s already been too much a penalty for Epipen relative to the rest of the business, which is healthy and not really subject to this kind of thing.
Mallinckrodt, the other company, bought a drug called Acthar Gel from Questcor (QCOR, Financial), which raised the price from $40 a vial when it was owned by Sanofi SA (SNY, Financial) in 2001, to $23,000 by 2007. Mallinckrodt has since raised the price to around $40,000 a dose.
Acthar receives less attention than EpiPen, an allergy treatment, because it treats infantile spasms and several other conditions, so fewer people require it, Einhorn said. EpiPen is widely used and therefore riles more people. As an investment, Acthar represents a large portion of Mellanckrodt’s profits, making the company more susceptible to changes in the health care system that could lower drug prices.
His most undervalued stock
Einhorn once more blamed momentum investing for the recent underperformance of low-priced stocks. Investors should beware buying what look like winners and selling what look like losers, unless valuation doesn’t matter, he said.
But I look at GM (GM, Financial) and it’s $31 a share today, so it’s worth about $50 billion. It pays out $1.52 dividend. That’s only a quarter of the earnings are used in the dividend. In other words, earnings could fall three quarters and they would still earn enough to pay the dividend. There’s very few stocks where you have a 5% dividend and it’s only a quarter of the earnings. Another quarter of the earnings are basically used for stock buyback. So basically you’re getting a 5% share count reduction, or 6% share count reduction, just sitting there. So every year I own 6% more of a company, I get a 5% dividend, that by itself is sort of 11% return.
And then I have the other half of the earnings, still, to worry about. And that can be used to be invested in new technologies. It can be used to make payments on long-term obligations like pensions and stuff like this. Or it can be used for acquisitions. There’s opportunities within that capital structure for GM to do all of those things while still providing me a very current return.
And that’s the magic that happens at a 5 P/E. Five P/Es are just a really, really cheap multiple. In other words, GM has a reasonable chance to earn its entire market cap probably before Tesla (TSLA) is able to earn its first year of annual profit.
Chemours Co. win
Einhorn said the two businesses of Chemours Co. (CC, Financial), a spinoff of DuPont, were “pretty exciting.” The stock has risen 211% year to date to $16.67 per share Thursday.
These guys were the low-cost producers of [titanium dioxide] and they were kind of breaking even at the bottom of the cycle. And they have a refrigerant business where they have some new technology that is gaining a lot of market share and recognition and has a really very favorable product market cycle part of the phase. It was a spinoff from DuPont.
They’ve now implemented a couple price increases. That’s caused the stock to go from $6 or $7 to mid-teens where it is right now. We actually think in about two years when you layer in the refrigerant earnings and a little bit more improvement in titanium dioxide this is a company that could easily earn $2.50 to $3.50 a share, so there’s still some room. It’s today about $15.
“We’re going to want to own a bunch of gold”
Last, Einhorn discussed his gold thesis and cynical view of world economics, saying, “Oh we get to talk about monetary policy. That’s really fun. I do that because you can talk about Draghi. He’s so much better. Or the Japanese guy. They’re all the same.”
It’s really a race to the bottom. I read a speech today or yesterday from the vice chair of the Fed. He said, "I wonder why rates are so low." Well if you set rates at zero and you hold them at zero for six years, you buy up a big percentage of the government bond market, tell everybody if rates ever go up you’re going to buy more government bonds, you basically corner the market, and then you wonder what the bond prices are reflection. I think it’s really quite remarkable.
***
And they talk about well, what is it when you force the government to not spend money, therefore have other people not earn money? That’s called a fiscal tightening. What they don’t seem to absorb is the idea that their own policies are creating a fiscal tightening. So what they’re doing is they’re screaming we need fiscal stimulus, we need fiscal stimulus, but they can’t think a minute that their own policies are causing the fiscal tightening that they’re so upset about.
And when you look at it and they say well, there’d be more houses or more cars or whatever. When you sit down and you say, how many more houses and how many more cars? And let’s figure out how much that is being helped by the low rates on the one side and say well, but how much is being hurt in terms of lost income on the other side in the propensity? And you start balancing these numbers.
***
So I think the policies are counterproductive for growth in the near term. That’s been sort of my jelly donut thesis. But they also set us up that when you have really, really low interest rates, what you’re doing is you’re creating an incentive for too much debt. And in this case, it’s the governments that are being incentivized to take on too much debt. So you see fiscal deficits around the world expanding because the debt service costs seem so low. And that’s true at the state level, the counrty level, these pensions and at these national and international levels. And what happens is we’ve essential become pinned where they have to keep rates low in order to prevent a government bond crisis. And that’s why they want negative rates and all of the rest of this. This is entirely in my view to subsidize the government spending the rest of their budget.
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And so the result of this eventually, I think, is that sooner or later one of these guys will go too far and the market will be bigger than the authorities are able to control, one of these situations. And when that happens, I think we’re going to want to own a bunch of gold.
So our gold thesis has to do with the irrationality of the monetary policy on a global basis. We have no view at all as to which way the next $100 or $200 of gold is.
***
And I just know that my own ability is too limited. So if I actually saw it happening and gold already started soaring, I wouldn’t want to chase it, because I’d be like I should have bought it when it was cheaper. So I’m happy just to own it now, and we’ll see what happens.
And hopefully, this won’t happen for a very, very long time, and we’ll make most of our returns on GM.
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