Passport Capital Investor Letter: 2014 Q4

Falling Commodities: While we have been short industrial commodities since late 2011, we were caught offside by the decline in crude oil in the second half of 2014—last year’s black swan event. By Q4, however, it had become apparent that OPEC would maintain output, as Saudi sought to punish Russia and Iran for their support of Syria and reduce the threat from North American shale oil production. Just before the OPEC meeting in November, we shorted crude in part to express this view and in part to hedge our long Saudi equity position; we maintained this position into year-end. It is remarkable how energy equities held up so much longer than the price of crude; in our view, the equities were pricing in a V-shaped recovery for the oil price. We maintain our Saudi long exposure based on the views that 1) Saudi has the reserves to fully fund its budget for many years without relying on a dollar of incremental oil revenues, 2) the Saudi stock market will open to foreign direct investment likely sometime in the middle of this year and 3) despite four years of strong performance, Saudi equities are very attractive by virtue of intrinsic, strong growth rates and inefficient prices driven by a market that is largely dominated by domestic, retail investors.

Developed Markets (U.S.) over Emerging Markets: For the bulk of our equity exposure, there is a preference for large cap, U.S. dollar-denominated companies, particularly companies with high potential for buybacks or otherwise returning capital to shareholders. We have a preference for companies with strong cash flow generation, strong corporate governance and growth. Our shorts, however, are generally very dependent on global GDP growth or hurt by a strengthening dollar. We are also short certain companies that are commodity price-dependent or highly levered, a factor that we think now suffers in an environment of tightening financial conditions.

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