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Baupost Capital 2018 Q4 Investor Letter

If I had shown you an investor letter from a fund manager whose non-micro-cap stock picks underperformed the market by an average of 2 percentage points annually since 2008 (before fees and expenses) and whose performance has been deteriorating dramatically in recent years, do you think you’d even care to read it?

We analyzed the performance of Seth Klarman’s 13F stock picks that have a market cap of at least $1 billion between 1999 and 2017. Our goal is to compare the performance of these stocks to the S&P 500 Total Return Index and determine whether investors can outperform the market by mimicking Seth Klarman’s stock picks.

BAUPOST GROUP Seth Klarman

Seth Klarman’s these stock picks average a monthly return of 1.84% between 1999 and 2007, vs. 0.33% monthly gain for the S&P 500 TR Index. No wonder Seth Klarman built such an amazing reputation. I’d pay $1600 for his book if it’s going to help me achieve these types of return.

Unfortunately these stocks returned only 0.62% per month between 2008 and 2017, vs. S&P 500 Total Return Index’s 0.78% gain. More importantly, Klarman’s non-micro-cap stock picks performed much worse in recent years. These stocks returned only 0.13% per month between 2014 and 2017, vs. 0.98% per month for the S&P 500 Total Return Index.

Many of the legendary fund managers like Warren Buffett, George Soros, or Steve Cohen can no longer beat the market demonstrably. That’s why our flagship investment strategy focuses on only the 100 best performing hedge funds and their consensus stock picks. This strategy’s stock picks returned a cumulative 74.1% since its inception 4.5 years ago, whereas S&P 500 ETF [s:SPY] returned 50.4% during the same period. This strategy also outperformed SPY by 6.2 percentage points in 2018. On the other hand, our flagship short strategy’s picks lost 30.3% since we started sharing them in February 2017 in an up market where the S&P 500 ETF gained 15.1% (read the details here). I don’t think Klarman made our list of 100 best performing hedge funds in recent years.

Anyway, I have seen a copy of Baupost’s 2018 Q4 investor letter (Please get in touch with us if you can share copies of other prominent hedge funds’ investor letters and maybe we can exchange them). Most of Klarman’s letter talks about macroeconomics (i.e. rising global uncertainty), the art of portfolio management, and the proper wiring for a long-term investor. Hedge fund managers usually talk about “the art of portfolio management” and “long-term investment” when their returns are disappointing.

Given Klarman’s stock picks’ underwhelming performance over the last 5 years, I really don’t care about Klarman’s views regarding “economic, political, and societal developments” as he calls them. Here is what Klarman said about his fund’s 2018 performance:

“While it is painful to have a reasonably successful year reversed in its last weeks, there are three bright spots that auger well for 2019 and beyond. First, we successfully protected capital in a very treacherous environment. Our event-driven holdings performed well, while our uncatalyzed public equities fluctuated more in line with the market. Our private investments posted a positive return, as did our hedging portfolio.

…Needless to say, we also made mistakes in 2018. For example, our original thesis on Colony Capital, a three-way merger of real estate and investment firms, was just plain wrong, though that stock, which we continue to hold, at year-end traded at more than a 9% dividend yield and at a considerable discount to NAV. We purchased a few stocks, including Pacific Gas and Electric and Univar, right before those shares slumped badly, in the first case on tragic developments that led to financial distress and in the second on cyclical fears that we believe ignore business fundamentals. We remain holders of both.”

It is my impression that Klarman’s long positions disappointed again in 2018 but Klarman made up for these losses through gains in his short book as well as private investments. Unfortunately investors don’t get to see Klarman’s short book nor his private investments via 13F filings. At the end of September the 5 biggest positions in Klarman’s portfolio were Twenty-First Century Fox, Inc. (FOXA), Cheniere Energy, Inc. (LNG), PG&E Corporation (PCG), Allergan plc (AGN), and Viasat, Inc. (VSAT). These stocks had an average loss of -18.6% since the end of September vs. a loss of 8.7% for the S&P 500 ETF.

If you want to outperform the market, investing in Seth Klarman’s top 5 stock picks isn’t the way to go. I also don’t think investors should pay any attention to what Klarman says about macroeconomic developments. I can get you a copy of his investor letters from a few years earlier. If you read those letters, you will see that he doesn’t have any prophetic insights into the direction of the global economy or the stock market.

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