Conventional wisdom tells us that this isn’t the best time to invest in financial stocks. We are on the cusp of large bankruptcies. Around 20% of Americans are unemployed right now. Small and large companies will go out of business in the coming months as consumers cut back on spending. Consumers will be defaulting on their credit card debt. Large banks such as Wells Fargo & Company (NYSE:WFC) lost 40-50% of their market capitalization because of these concerns.
Phil Stone’s Fourthstone Master Opportunity Fund managed to limit its losses to 24.4% during the first quarter. This isn’t as bad as Wells Fargo & Company’s investor’s experience but still pretty bad for a long/short equity fund. Clearly Phil Stone wasn’t very short heading into the coronavirus crash.
Fourthstone was founded in 2013 and focuses on banks, thrifts and other financial securities. Phil Stone tries to time the market by varying his fund’s net exposure across long and short positions to generate absolute returns in both up and down markets. Fourthstone uses a “bottom-up” research process to pick individual stocks and a “top-down” approach to determine the fund’s net exposure. This approached worked like a charm during the fund’s early years as the fund returned 24.1% in 2015, 44.2% in 2016, and 31.9% in 2017. However, as the fund’s AUM crossed the $100 million threshold, its performance started to level off. Fourthstone’s Master Opportunity Fund lost 2.4% in 2018, but outperformed the market by a small margin. The fund trailed the broader market in 2019, returning only 19.4%. Fourthstone also lost 24.4% during the first quarter of 2020.
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Fourthstone is one of the 800+ hedge funds tracked by Insider Monkey. Phil Stone’s long/short fund managed to return 15.6% annually in spite of its 24% loss during the first quarter. He invests in unfollowed small financial stocks to beat most hedge funds and passive index funds. That’s why we believe Stone’s top stock picks are statistically good bets especially after the large declines in financial stocks.
At the end of March Phil Stone’s 4 largest positions were Shore Bancshares, Inc. (NASDAQ:SHBI), The Community Financial Corporation (NASDAQ:TCFC), HMN Financial, Inc. (NASDAQ:HMNF), and Citizens Community Bancorp, Inc. (NASDAQ:CZWI)
Shore Bancshares, Inc. (SHBI) lost more than 40% of its value this year and trade for a trailing PE ratio of 8. The Community Financial Corporation (NASDAQ:TCFC) declined close to 40% and trade for a trailing PE of 9. HMN Financial, Inc. (NASDAQ:HMNF) lost a third of its market cap and changing hands at 9 times its trailing earnings. Citizens Community Bancorp (NASDAQ:CZWI) investors were looking at more than 50% losses a couple of weeks ago, but CZWI’s stock price recovered somewhat and currently trade for 8 times trailing earnings.
I can’t claim I have any idea about any of these micro-cap stocks. It looks like Phil Stone was partially hedged and was able to cut his losses by 40%. Personally I’d rather invest in Wells Fargo & Company as I can buy it at a much deeper discount than Phil Stone’s top 4 micro-cap financial picks. Wells Fargo also has better access to cheaper funds and will be saved by the Federal Reserve if things get worse.
Disclosure: No positions in Wells Fargo & Company (NYSE:WFC) or the other 4 stocks. This article is originally published at Insider Monkey.