Tuesday Already? Short Week but Plenty of Problems

Phil - "Like me, Gundlach simply enjoys using market action to make sense of the World."

We've got 99 problems and Trump is only 69 of them (nice!).

I hate to start a short week off this way but, "lest we forget" – here's SOME of the top issues (just the ones still making news this weekend):

That is just this morning's round-up and I'm not trying to bring you down but, as noted by Jeff Gundlach, when asked how he consistently has one of the top-performing funds in the World, "I look at the News Wires more than anyting else,…  I think what's important is to look at the news flow and watch for those times when the news doesn't change, but the interpretation does – or the news does change, and the interpretation doesn't.”

Clearly Jeff is a PSW subscriber or, in the very least, he's running the same strategy we do, which is Fundamental-based Investing, where we understand the true value of companies and then we wait, PATIENTLY for a mismatch between the current PRICE and the actual VALUE – so we can jump in and take advantage of it.  

Like me, Gundlach simply enjoys using market action to make sense of the World and we also share the philosophy that we don't mind giving away our "strategy" as our strategy involves constant hard work and study and it's not worth much in the "give a man a fish" model – we prefer to teach our Members to fish – and we all grow from the sharing of knowledge.

We're generally bullish on the market but the NEWS CYCLE is certainly shiftting down and that led us to sell off some of our portfolio winners last week and also to bump up our hedges – just in case.  The hardest thing about Fundamental Investing is getting the timing right.  We are often too early in our picks though very often are we wrong.  

Frontier Communication (FTR) is one we were way too early on, moving in as one of our first trades of 2018 in our new portfolios.  In the Options Opportunity Portfolio, we bought 3,000 shares (after doubling down) for $4.54 ($13,620) and sold 15 short Jan $8 calls for $1.25 ($1,875) and 30 (after rolling) 2021 $5 puts for net $2.15 ($6,450), so our net entry cost is $5,295 on 3,000 shares ($1.76) but, since the stock is way below $5, we're currently showing a net $7,545 loss for our troubles.

FTR bought Verizon's (VZ) landline business, including FIOS Fiberoptics, in California, Texas and Florida for $10.5Bn two years ago and doing so added massive debt and tripled the size off FTR's staff and the transition has been painful and investors got impatient (as well as spooked by the debt) and have fled the company but FUNDAMENTAL investors remember that FTR bought 15 states from VZ back in 2010 and the stock went from $150 in 2010 to $50 in 2012 before going back to $125 in 2015.  That makes $2.65 seem pretty cheap and it was closer to $2 last week, when we made the following adjustment on the morning of 2/14:

FTR – We sold the $5 puts for $2.70 and now they are $3.10 so let's take that loss ($1,200) and spend $6,780 more to buy $3,000 more shares, which will make our average cost $3.40 and we'll buy back the 15 short Jan $8 calls for 0.15 ($225) and that profit more than cancels what lost on the short puts so we have a clean $3.40 on the stock and we COULD sell the 2021 $3 calls for $1 and drop our net to $2.40 but let's just see where earnings end up first on 2/26.

So now we have 6,000 long shares, uncovered into earnings next Tuesday and I don't think THIS is the one where we begin to turn around but I do feel that EVENTUALLY we will turn around and we just want to be there when it happends.  Making back our $7,500 loss would take a $1.50 move up but, at $2.65, FTR's market cap is just $280M for a company with $9Bn in annual sales.

Looking at other small telcos, they generally drop 5-10% to the bottom line and even 5% would be $450M a year for FTR and, even if that is taken up paying off debt for the next decade or so – it's like a mortgage – eventually you own the home!  FTR is priced as if it's about to go Bankrupt but, as you can see from this chart, they don't even face a very significant debt redemption until 2022.

Of course investors are worried that wire-line communications are dead and they are likely to wind down over time but we're not ready to cut the cord on the internet just yet – nor have most homes even given up land-lines and the bandwidth needs of businesses are not going to be addressed by LTE or even 5G – so a good 10 years before this kind of business really dies – and that's a long, long time for a stock to trade at 1/10th of its value.

Essentially, FTR's stock is a call option on it's potential to generate CASH!!! down the road.  Guidance for Free Cash Flow in 2019 was $700M on the last report (that's cash-flow, not profits as they'll be writing off assets for many years) and, if that number is unchanged or up at this report, I wouldn't be surprised if we get even very quickly.  

As Gundlach says, we need to wait for the "interpretation" of the news from FTR to change because, so far, there's nothing so terrible in the news that we are getting – which is why we keep buying.

It's a short week but we have 7 Fed Speakers along with the Minutes of the last Meeting tomorrow at 7pm.  As noted above, Oil (/CL) blasted up to $56.50 into the holiday weekend with Gasoline (/RB) hitting $1.58 but those are both shorts this morning as it was all BS to jack up prices at the pump.  We won't see Oil Inventories until Thursday at 11 but Durable Goods will be out at 8:30 with the Philly Fed that morning and then PMI and Home Sales – so no one has time for the nonsense of oil.

I worries me when they have 5 Fed speakers on the same day, especially a Friday – makes me think they expect the markets to need a save that day so – be careful out there!  

Have a great week,

  • Phil
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