Hedge Fund Metric Says Not To Expect Much From These Moving Stocks

Deutsche Bank AG (USA) (NYSE:DB) and Lumber Liquidators Holdings Inc (NYSE:LL) are trending in opposite directions after Deutsche Bank announced that it will take a 6.4 billion euro ($7.23 billion) write-down on its assets for its third quarter, while Lumber Liquidators agreed to settle its improper flooring imports case with the Department of Justice for $10 million. Shares of Deutsche Bank are down by 6.46% while shares of Lumber Liquidators are up by 9.47% in extended market trading. Let’s take a closer look at the two stocks and see what hedge funds think of them.

We mention the hedge fund activity concerning stocks because our research has shown that historically their stock picks delivered superior risk-adjusted returns. This is especially true in the small-cap space. The 50 most popular large-cap stocks among hedge funds had a monthly alpha of about six basis points per month between 1999 and 2012; however the 15 most popular small-cap stocks delivered a monthly alpha of 80 basis points during the same period. This means investors would have generated a double-digit alpha per year simply by imitating hedge funds’ top 15 small-cap ideas. We have been tracking the performance of these stocks since the end of August 2012 in real time and these stocks beat the market by 60 percentage points (118% return vs. the S&P 500’s 57.6% gain) over the last 36 months (see the details here).

Shares of Deutsche Bank AG (USA) (NYSE:DB) were previously down by 1.3% year-to-date as a weak European economy and a strong U.S dollar weigh on earnings. With today’s announcement, investors have more to worry about. Here’s an excerpt from the press release:

[Deutsche Bank] expects to incur charges that will materially impact third quarter 2015 results: An impairment of all goodwill and certain intangibles in Corporate Banking & Securities (CB&S) and Private & Business Clients (PBC) of approximately EUR 5.8 billion. This is largely driven by the impact of expected higher regulatory capital requirements on the measurement of the value of these segments as well as current expectations regarding the disposal of Postbank. An impairment of the carrying value of Deutsche Bank’s 19.99% stake in Hua Xia Bank Co. Ltd. of approximately EUR 0.6 billion. This reflects an updated valuation triggered by a change of the intent of the holding as Deutsche Bank no longer considers this stake to be strategic. Litigation provisions of approximately EUR 1.2 billion, the majority of which are not expected to be tax deductible. Final litigation provisions in the quarter may be affected by further events before we finalize and report third quarter results.

Because of the impairments, Deutsche Bank expects to report a net loss of 6.2 billion euros ($7.00 billion) for its third quarter and its board will likely cut or eliminate its dividend, which has stood at $0.75 annually for the past six years, a current yield of 2.87%. At its current valuation, shares look cheap, but Deutsche Bank’s stock hasn’t gone anywhere for a long time. Europe’s economy will need to improve for the odds to be in the bulls’ favor.

Our data shows that hedge funds were ambivalent towards Deutsche Bank AG (USA) (NYSE:DB) in the second quarter. Of the around 730 elite funds that we track, 12 of them owned $102.13 million worth of the company’s shares on June 30, versus five funds with $109.75 million in shares on March 31. Crispin Odey‘s Odey Asset Management Group established a new position of 1.74 million shares while Michael Messner’s Seminole Capital (Investment Mgmt) established a new stake of 259,600 shares.

Before today’s news, Lumber Liquidators Holdings Inc (NYSE:LL)‘s shares were down by 78% year-to-date, as fewer customers frequented the company’s stores and legal uncertainty hovered around the stock. By admitting that it violated the Lacey Act and paying a cumulative $10 million fine, management is removing legal uncertainty so that it can focus on winning back its customers. Management still needs to handle its formaldehyde laminate flooring issue, however.

According to our data, hedge funds are bearish on Lumber Liquidators Holdings Inc (NYSE:LL). A total of 14 funds reported stakes worth $69.57 million, representing 12.40% of the float, in the previous round of 13F filings, down from 28 funds and $195.75 million respectively a quarter earlier. 45% of the float is short. Daniel Gold‘s QVT Financial raised its stake by 92% to 1.09 million shares but also increased its put options position by 26% to 2.65 million underlying shares.

Disclosure: None