David Einhorn’s Huge Secret: Apple Inc (AAPL), Microsoft (MSFT), Seagate

Our calculations show that imitating David Einhorn’s 13F filings would have yielded a monthly alpha of 47 basis points between 1999 and 2011. The monthly alpha declines to 25 basis points between 2008 and 2011 (read how to calculate alpha and beta). It is obvious that imitating Einhorn’s entire 13F portfolio is a better alternative to index funds. However, the outperformance isn’t that big.

We aren’t out of luck though. Another advantage of imitating a hedge fund’s 13F filings is that we don’t have to imitate every single position. We can imitate only a subset of the disclosed holdings. One alternative is investing in Einhorn’s top 10 positions, while another option is investing in his small and mid-cap stock picks.

We actually prefer this second method better. Our analysis indicates that imitating Einhorn’s top 10 positions would have been a terrible idea since 2008. As indicated in his 13F filings, his top 10 holdings have underperformed the market by 29 basis points per month. The risk adjusted returns were even worse: a monthly alpha of -60 basis points.

Our analysis shows that imitating Einhorn’s small and mid-cap stock picks is indeed a pretty good idea. Einhorn’s long positions in small and mid-cap stocks (market cap < $5B) returned 1.34% per month between 1999 and 2011, versus the market’s 0.25% monthly return over this time period. Between 2008 and 2011, these stocks actually gained an average of 0.94% per month, versus 0.05% for the market.

These results reveal a huge secret about David Einhorn and Greenlight Capital. David Einhorn has a significant edge in picking small-cap stocks, and has been a rather pedestrian large-cap investor recently.

This isn’t the end of the story though. If Einhorn has an edge in small-cap investing, we can further restrict our universe to stocks with a market capitalization below $2 billion. Our analysis indicates that this is indeed a good move. Einhorn’s small-cap picks returned an average of 1.25% per month between 2008 and 2011. Recall that the market’s return was a miniscule 0.05% per month during the same period. The strategy’s alpha, 0.69% per month, was also significantly higher than what most hedge funds can generate on the average.

This is actually a very consistent pattern across all equity hedge funds. Their large-cap stock picks perform relatively poorly whereas their small-cap stock picks generate significant alpha. We developed an investment strategy that invests in some of the most popular small-cap stocks among hedge funds. Between 1999 and 2009 this strategy generated a monthly alpha of 120 basis points (51 basis points higher than Greenlight’s alpha). We started publishing a quarterly newsletter at the end of August and shared the stock picks of this strategy. Since then this strategy returned 14.3% (between September and December) vs. 2.1% for the S&P 500 index (read the details here). If investors want to piggyback hedge funds like Greenlight Capital, they should focus on their small-cap stock picks.

Disclosure: I have no positions in any of the stocks mentioned above

Comments
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months. Our beta is only 1.2 (don't click this link if beating the market isn't important to you).

Lists

The 10 Largest Pharmaceutical Companies In the World

The 10 Most Expensive Android Apps

The 9 Most Expensive Designer Bags in the World

The 7 Most Expensive Real Estate in the World

The 10 Most Expensive eBay Items Ever Sold

The 10 Most Expensive iPhone Apps

The 9 Most Expensive Designer Shoes in the World

The 10 Most Expensive Cigarette Brands

The 10 Most Expensive Law Schools in the US

The 10 Best Wall Street Movies

The 10 Most Expensive Golf Clubs Ever Sold

The 10 Most Expensive Golf Memberships

The 10 Best Disney Characters Ever Created

The 8 Best Foods for Gaining Weight

The 10 Most Expensive Colleges in the World

The 7 Most Memorable Ad Campaigns of All Time

The 7 Most Expensive High Schools in the World

The 10 Electric Vehicles with the Longest Range

The 10 Cities with the Worst Drivers in the World

The 10 Most Expensive Dresses Ever Created

10 Islands to Visit Before You Die

10 Famous Celebrities Who Needed Rehab

The 15 Countries with the Largest Oil Reserves

The 10 Most Overused Excuses in the World

The 5 Best iOS Apps You Can’t Get on Android

5 Companies Damaged By Social Media Blunders

The 10 Most Legendary Blues Songs

The 10 Most Lawless Places in the World

4 Reasons China is a Threat to the US

The 17 Most Sugary Drinks in the World

The 10 Most Ruthless Rulers in History

The 10 Greatest Generals in History

Top 8 Travel Destinations for 2015

The 10 Safest Dog Breeds for Children

The 10 Most Stolen Vehicles in the US

The 7 Most Expensive Celebrity Weddings

The 10 Best LoL Teams in the World

Top 10 Worst Marketing Campaigns Ever Produced

Top 5 Diets that Help You Lose Weight

The 10 Best Ways to Stay Awake

7 Artists That Switched Musical Genres

The 10 Most Expensive Cities to Live in New Jersey

The 10 Best High Schools in New York

The 10 Countries With the Least Gender Inequality

The 6 Biggest Musician-Manager Feuds

The 10 Countries with the Cheapest Gas Prices

The 7 Most Theatrical Bands of All Time

The 8 Worst Band Breakups of All Time

The 10 Most Important South American Leaders

The 7 Most Successful Casting Show Winners

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 47.6% in its first year! Wondering How?

Download a complete edition of our newsletter for free!