Occasionally, I find myself shorting long ideas that are written up on VIC (ValueInvestorsClub.com). VIC is an exclusive website where a mix of professional money managers and non-Wall Streeters post investment ideas. Non-members like myself can sign up for a guest account and see ideas with a 45-day delay.
Here are situations where I have taken the opposite side of their trades.
Premier Exhibitions (PRXI)
PRXI has been covered multiple times on this blog (search the prxi tag) and so far my short thesis has been vindicated. For whatever reason, some value-oriented investors still think that the company is a good long position.
Valuing PRXI comes down to valuing the Titanic artifacts. The longs anchor onto the appraised value of the artifacts. I made a guestimate based on the implied value of the Guernseys’ auction failure. I do think that I had the correct “common sense” analysis. The Guernseys auction likely failed because the highest bid was lower than the reserve price. This suggests that the highest bid was dramatically lower than the appraised value. To be fair, I don’t know if my decision to short this stock was the right decision. I don’t understand rare auctions that well and I didn’t call Guernseys to try to figure out why the auction failed (which still remains a mystery). Nevertheless, I think that the longs aren’t applying enough common sense.
Whopper Investments – One of multiple blog posts that are bullish on PRXI.
Pretium Resources (PVG)
I only started this position recently so it’s way too soon to tell if this trade will work out for me. However, I think I have an edge because I skimmed through the technical report and noticed that the first set of quality control checks are consistent with fraud. The second set of QC checks wouldn’t have found anything either way because its design was fundamentally flawed. The engineer decided to only QC low-grade samples, thus ensuring that the second round of QC won’t detect any Bre-X or Bear Lake Gold style frauds. I doubt that the flawed design was an accident because professional engineers usually aren’t that stupid. The third red flag is Strathcona’s resignation. The reason you hire Strathcona is because (A) they have a very good reputation and (B) they really know what they’re doing. Pretium’s management suggests that Strathcona didn’t know what they were doing while its other hired guns (Snowden) knew more than Strathcona:
According to Mr. Quartermain, Snowden believes its approach is best because the grade of the deposit is quite variable, with very high and low-grade sections. That means a smaller sample may not be representative of the whole project. He agrees with Snowden that using results from the mill will provide the best data.
His explanation is very suspicious to me. The company should handle the high and low grade differently as the domains will have different metallurgical characteristics (the low grade will have lower recoveries; more beneficiation may be justified for low grade material). The 10,000 tons should not be treated as a single sample as Snowden suggests. It should be split up into multiple samples for metallurgical testing. Perhaps I misunderstand what the disagreement is. In any case, it is highly unlikely that Strathcona is incompetent. Their mysterious resignation is just as serious if not more serious than an auditor’s resignation. This is a red flag that you cannot ignore.
I think that most analysts do not have the technical knowledge to understand technical reports and are completely oblivious to the deposit’s major QC issues. While I can’t be 100% sure that fraud is or isn’t occurring, I am shorting Pretium because I believe that the probability of fraud is extremely high. If management wanted to prove that the deposit was real, their actions would have been very different. They should have started an internal investigation after the first round of QC. The second round of QC should have involved a larger number of samples, more than one assay lab, and should not have been fundamentally flawed. They could have hired Strathcona to conduct such an investigation as the firm has an excellent reputation from spotting the Bre-X fraud (after Freeport Mcmoran discovered the fraud first). However, management did not do this. Strathcona was hired to oversee a bulk sampling program, which is more expensive than and different from a QC or fraud investigation*.
*The bulk sampling program will likely uncover any fraud even without Strathcona. If performed carelessly and with low security, somebody could add external gold to the bulk sample. Salting would require a large investment in gold. If the 10,000 ton sample is expected to yield 4,000 ounces of gold, that’s over four million dollars in gold. To avoid detection, the gold grains should have metallurgical characteristics that would make sense for Pretium’s deposit. It would be difficult to buy $4M+ in suitable gold ore concentrate without looking suspicious as only smelters buy ore concentrate.
JC Penney (JCP)
The difference in analysis comes down to the belief in turnarounds. For whatever reason, many writeups on VIC argue that a turnaround is about to happen. I believe the reality is that turnarounds rarely succeed.
I looked at the drop in JCP’s same store sales and thought that the opposite of a turnaround was occurring. Ron Johnson was clearly destroying the company. In hindsight, it looks like my view was correct as JCP’s board of directors fired Ron Johnson.
Radio Shack (RSH)
Another turnaround story that likely won’t pan out. I haven’t written about RSH on this blog because I make a lot of silly trades based on shallow analysis. I happened to scalp Radio Shack for a small profit. I don’t know if it was a good idea. I prefer to only post about my higher conviction ideas on this blog.
RSH writeup #4 on VIC – The fourth writeup is actually profitable at the moment.
Promotional management / Inflated economics – ATPG, MILL
I made money on ATPG (ATP Oil & Gas) and have so far lost money on MILL (Miller Energy). I think that MILL will ultimately be crushed.
Many oil and gas companies overstate the economics of their reserves. However, their cash flow will sometimes suggest a very different story. I think that longs can sometimes be too naive and gullible.
Veris Gold (VG) / Yukon Nevada Gold (YNG)
I never shorted this because I used to be afraid of shorting junior miners. I believed in the commodities supercycle and didn’t think that it would be a good idea to short resource stocks yet. However, I did believe that this stock would decline as this was yet another promotional management / inflated economics stock. Of course, I did not put my money where my mouth is.
Veris Gold writeup on VIC – There are also 3 previous writeups on Yukon Nevada, the predecessor company.
Am I correct to go against the long ideas on VIC?
What is my edge?
Do I even have an edge?
I’ll start by looking at things that don’t work to my advantage. I don’t think that my edge is in working harder. In the case of Premier Exhibitions, I could have done more work to try to figure out why the auction failed. While Guernseys ignored my email, I could have called them and hounded some human being who works there. There are value investors out there who work much harder than I do. David Einhorn and his analysts seem to do some incredibly detailed work on companies, such as comparing changes in the auditor’s opinion. This is something that I will not do as I try to focus on the big picture.
Is it in-depth knowledge about a particular industry? Yes and no. In mining, I think that I have an edge over most investors. I’ve read university textbooks on mineral exploration and mine engineering. While book knowledge is no substitute for real world experience, some knowledge is better than none. I think that I am past the point where “a little knowledge is dangerous”. It took me a long time to realize that most technical reports are inflated, that juniors are destroyers of capital, and that senior miners frequently make awful business decisions. But after figuring these things out (and unfortunately no book will teach you these lessons), I think that I see who the fish at the poker table are. I realize now that it really pays off to do your own valuation work instead of relying on the work of supposedly “independent” professionals hired by the company. The reality is that very few finance professionals do their own due diligence and fall into the trap of believing management or “independent” geologists. I have no problem trading against VIC, Eric Sprott, Seth Klarman (or whoever his mining analyst is), the Salida Capitals of the world, etc. etc. But even in mining, most of my profits have been due to dumb luck. If I had known what I know now, I would have put most of my money into Altius Resources. This would have hurt my performance.
Overall, I’ve definitely made mistakes. My biggest investment mistake so far has definitely been QXM/XING as my analysis was horribly flawed. I recognized that management was stealing from shareholders via related party transactions. I even thought that most Chinese reverse mergers were frauds. Unfortunately, I invested anyways because the stock seemed so cheap. And then the CEO ran off with the cell phone business and the company’s cash! Having been burned, now I am obsessed with ethical management.
While I have been doing pretty well in shorting VIC longs, it may have been mostly due to luck. At the same time, I am probably overconfident in my abilities like most human beings. I think that there are spots where I have a huge edge on VIC. Rightly or wrongly, I will continue to follow my own judgement. Sometimes I will be trading alongside VIC. And sometimes I will be trading against VIC.