Black Bear Value Partners: “NVR Trades at a Premium to Other Builders”

Black Bear Value Partners, an investment management firm, published its second quarter 2021 investor letter – a copy of which can be downloaded here. A quarterly portfolio net return of -1.5% was recorded by the fund for the second quarter of 2021, trailing the S&P 500 Index, and the HFRI Index that delivered a +8.3% and +6.2% return respectively for the same period. You can view the fund’s top 5 holdings to have an idea about their top bets for 2021.

In the Q2 2021 investor letter of Black Bear Value Partners, the fund mentioned NVR, Inc. (NYSE: NVR), and discussed its stance on the firm. NVR, Inc. is a Reston, Virginia-based home construction company, that currently has an $17.7 billion market capitalization. NVR delivered a 19.79% return since the beginning of the year, extending its 12-month revenues to 47.81%. The stock closed at $4,961.67 per share on July 12, 2021.

Here is what Black Bear Value Partners has to say about NVR, Inc. in its Q2 2021 investor letter:

“I would point you to our Q1 letter to read our discussion of NVR. We own 3 homebuilding related names which comprise a healthy chunk of the portfolio. Given the concentrated nature of the portfolio I am going to keep the names of the remaining 2 companies out of this discussion. 2 of the 3 companies are homebuilders while the 3rd is in an adjacent business line supplying the homebuilding industry.

There is a long-term fundamental supply/demand imbalance in housing inventory. This is a direct result of underproduction of new homes amid a challenging mortgage financing environment over the last 10+ years since the Great Financial Crisis. Looking forward we should have increasing housing demand from millennials as they enter the family-phase of life and desire more space. Rates are still near historic lows and people are desiring more personal space as remote work becomes more acceptable. Many investors are focused on short-term projections of homebuilding supply/demand and affordability and trade the news. This seems like a futile endeavor for me and am staying focused on the long-term dynamics and direction of these
businesses and industry.

Our first homebuilder, NVR is capital-light as land developers own the land during the entitlement/pre-build process. The result of this is higher returns on capital as the land entitlement/development process can take a while, thereby reducing your overall return (your investment dollar gets tied up for a longer period). NVR trades at a premium to other builders because of this structural difference in their business model though I still find it undervalued in absolute terms. If the fundamental tailwinds described above are true than we own a business at a ~6+% FCF yield with healthy growth prospects and would expect to compound our capital at 10-15% per annum for 5+ years. If I am wrong and the growth does not happen, we still stand to compound in the high single digits.”

Based on our calculations, NVR, Inc. (NYSE: NVR) was not able to clinch a spot in our list of the 30 Most Popular Stocks Among Hedge Funds. NVR, Inc. was in 39 hedge fund portfolios at the end of the first quarter of 2021, compared to 46 funds in the fourth quarter of 2020. NVR delivered a 0.86% return in the past 3 months.

Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 115 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.

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Disclosure: None. This article is originally published at Insider Monkey.