Meet Canada's Largest Short-Seller?

Viktor Ferreira of the National Post recently wrote an article that caught my attention, CPPIB is shorting $750 million worth of EU stock, making it one of the most active short-sellers in Europe, data show:
The Canadian Pension Plan Investment Board has at least 23 short positions in European Union markets, covering more than $750 million worth of securities, making it one of the more active short sellers in the continent, according to data compiled by a German firm that tracks short selling.

According to a report prepared for the Financial Post by Breakout Point, a Dusseldorf-based firm that specializes in accumulating short-selling data from activist short sellers, publicly available records and BETA-funds, the CPPIB has nearly doubled the number of its disclosed short positions since last year, to 23 from 14. That places CPPIB 14th on the list of the most active short sellers in Europe by number of significant positions, according to Breakout Point.

“They are the only pension fund in the Top 20 and one of the very few such or similar entities in all of our short-selling records,” the report said. “They are the ones that stand out in terms of activity.”

Breakout’s tallies are based on short positions that involve 0.5 per cent or more of a company’s total shares. In European Union markets, all short positions that meet this threshold must be publicly disclosed, part of transparency measures that have been mandatory since 2012. Canada and the U.S. have no such requirement.

The pension fund may have other short positions in Europe that do not need to be disclosed.

CPPIB would not comment on its short positions or its European investment strategy. However, the board’s 2018 annual report said it employs both long and short positions as part of its broader market strategies, which take advantage of the fund’s long-term outlook to “buy and hold when others cannot and think beyond short-term volatility.” As of March 31, the pension fund said it had sold short more than $13 billion in securities altogether, still a small fraction of the $356.3 billion in assets it manages.

Among its disclosed European short positions, seven target German companies while another five involve companies in the U.K. and the Netherlands. CPPIB has one short each in Norway and Sweden — the two smallest markets in which it held shorts.

Their portfolio is balanced by sector, according to the report, with four short positions in construction and engineering firms and two in four other sectors.

Unlike other short sellers, CPPIB’s positions focus on smaller and mid-cap companies, the report said — the pension fund only has short positions in three companies with a market cap of more than $10 billion.

Using the current market cap of the 23 companies and the disclosed short position percentage, the Post calculated that the CPPIB’s disclosed holdings cover securities currently worth more than $750 million.

The specific companies in which CPPIB has short positions include British publishing and education company Pearson PLC. The company has a market cap of more than $12 billion and is the CPPIB’s largest short position at about $150 million, based on the Post’s calculations.

The second-largest position is in German Internet provider Wirecard AG, in which it is shorting $131 million worth of shares, or .54 per cent of the company. Colruyt SA, a Belgium-based supermarket retail chain, is the pension fund’s third-largest short.

Among CPPIB’s short holdings, only two companies — Aixtron SE, a German manufacturer of chemical vapour deposition equipment, and Fugro N.V., a Dutch company that provides geoscience solutions for construction and natural resources sectors — appear in Breakout Point’s list of companies in European markets with the highest short percentages. CPPIB’s other targets aren’t so popular.

The report does not offer a conclusion on whether the CPPIB’s strategies have been successful, but they do not fit the classic short-seller pattern.

“They do not come across as an opportunistic, in-and-out type of player,” the report said. “Their shorts are often rather long-term.”

At least two disclosed stocks have plunged since the CPPIB started shorting them. The CPPIB opened a 0.5 per cent short position in Talend SA, an American software vendor listed in Europe, on Oct 1. Since then, shares have fallen to €29 from €59. A position in Dutch delivery company PostNL opened on Nov. 30, 2017 also appears to have been a winner. The stock has fallen about 35 per cent since the short position was first opened.

However, Wirecard has seen a 400 per cent increase in share price since the CPPIB first opened a 0.57 per cent short position on Apr. 30, 2015, when prices stood at €38.97. Since then, the pension fund has altered the size of its position more than 44 times.

Shares of Wirecard, which was also targeted by activist short sellers who have since exited their positions, skyrocketed to a 52-week high of €199.30 in September, and closed Thursday at €130.10.
I wasn't surprised to read CPPIB shorts stocks, I was surprised it made the news and with such details.

In his comment, European Stocks Look Cheap, and for Good Reason, John Authers notes the following:
Europe was a popular “long” recommendation as this year dawned, out of a belief in mean reversion if nothing else. Europe’s stock-market performance, compared with the U.S.’s, has been terrible for more than a decade. Every time it seemed to be turning, as was the case a year ago, it reversed. This chart shows how the FTSE Eurofirst 300 has fared relative to the S&P 500 Index, in common currency terms, since the birth of the euro in 1999:

The U.S. might be expected to outperform Europe and command a higher overall price-to-earnings multiple simply because it’s home to so many powerful, high-flying tech stocks. But that has always been the case, and cannot exactly explain such persistent underperformance, particularly as Europe has continued to lag even as the big U.S. tech stocks have received a comeuppance.

European political risk is a factor, of course, but much of that risk is already reflected in prices. A greater issue is simply that European earnings momentum looks weak. Last year was the only year in the last decade when earnings failed to disappoint. We returned to that pattern in 2018, and the quants at SocGen suggest that the disappointment will continue.

As for valuation arguments, they are good, but not compelling. European stocks are cheap, all right, but we know the reasons why they should be inexpensive. The good news is that compared to its own history, and to the U.S., Europe does indeed look cheaper than usual. But the bad news is that it still doesn’t look cheap enough to make for a compelling buying opportunity. The following chart, also from SocGen, shows this:

It’s cheaper than average for the last 30 years, a period that takes us back to when the Berlin Wall was still standing and when political risks on several occasions looked greater than they do today. But it’s only very slightly cheaper than average, and could easily go lower. On this basis, the euro zone looks more like “fair value” than cheap.

The picture is slightly different when viewed against the U.S., which entered the year looking wildly overvalued and is still far more expensive than the euro zone. But again, on valuation grounds alone, the euro zone looks less than compelling:

During the horrors of 2009, and a couple of times when the euro zone’s sovereign debt crisis was at its worst a few years later, European stocks looked like compellingly good values compared with U.S. stocks — and then went on to prove largely disappointing. That is what happens when the corporate sector’s earnings stay so sluggish for so long.

There is a case for Europe, but a number of things need to go right. First, politics need to fall into place: no nasty surprise over the replacement for German Chancellor Angela Merkel, no intensification of unrest in France, a resolution over Italy’s budget, and an orderly Brexit. Second, the dollar needs to weaken. And third, the U.S. economy needs to underperform expectations next year. If the gloomier prognoses are right, then “short U.S., long Europe” might work for the first time since the first few years of the millennium.

It’s not out of the question, but on balance it’s unlikely. For the time being, the lazy bear on SocGen’s cover isn’t going anywhere anytime soon.
Now, I'm going to share a secret with you, when global investors are worried about a global recession, they flock to the biggest, most liquid markets in the world, ie. the US stock and bond market.

The other secret, which isn't a secret, is the Eurozone remains an abysmal mess, there is one bomb exploding after another. Whether it's Brexit, Grexit, Italexit, and now Frexit, there's always something going on in Europe and it isn't good news. These people can't get their act together, their union is hanging on by a thread and we haven't heard the end of it, not by a long shot.

All this to say, I'm fine with CPPIB shorting European stocks. If they can make money in their internal quant portfolio shorting European small and mid-cap shares, and sit and wait on their positions, good for them.

I am however a bit surprised. You see a long time ago, when I was in charge of a $400 million portfolio at the Caisse allocating to directional hedge funds, I had L/S Equity funds, global macros, CTAs and short-sellers in my portfolio. I loved meeting with short-sellers, they're typically a cynical and skeptical bunch of people and that's why I got along fine with them.

Anyway, short-sellers really know their positions exceptionally well, they're highly intelligent (like Jim Chanos), they have researched every angle and when they have a strong conviction, they go for it. But they're notoriously lousy market timers and their portfolios are very volatile, so on a risk-adjusted basis, that's not where you will find the highest Sharpe ratios.

What else? Short-sellers typically short large-cap, liquid stocks, and they do this to manage their risk. So I was surprised CPPIB is shorting small and mid-cap European equities but unlike other short-sellers, CPPIB has the added advantage of being a pension fund with a long investment horizon and can stomach volatility in its short positions.

Still, check out shares of Deutsche Bank (DB), my number one short position in Europe, over the last five years (click on image):

Why bother shorting rinky dink small and mid-cap stocks when you could have easily put a one, two or three billion dollar short position on Deutsche Bank? Very liquid, very easy to short through a variety of ways.

Now, to be fair, maybe the folks at CPPIB are shorting it through derivatives so don't want to sound like a cocky, arrogant know-it-all here. I just find all this sector neutral, beta neutral quant mumbo-jumbo sounds fancy but in the end, I'm the type of guy who goes for the jugular when I have strong convictions on the long or short side (and that's why I've hit home runs and eaten my testicles a few times!).

Anyway, it's also important to note this particular European short portfolio represents a small slice of CPPIB's $356 billion portfolio and even the $13 billion overall short portfolio cited in the article is not that significant relative to the overall portfolio.

Also, CPPIB has an active lending program where it collects yield lending out securities it owns to other short-sellers (it's a bit complicated).

One final note to my friends at CPPIB. Forget European shares, focus on shorting some large cap US shares and my number one and two shorts over the next year or two are shares of Boeing (BA) and JP Morgan (JPM) which are due for a nice long selloff:

No rush, wait for a nice relief rally and then go for the jugular! And that's some free advice for all my readers, especially those of you waiting for a Santa rally.

This year's Santa rally is ugly, really ugly, and I'm not sure any relief rally is coming any time soon (maybe after the Fed meets). Speaking of ugly, did you see the spat in the Oval Office today? Never mind China, this very public debacle was enough to make the most cynical short-seller cry (watch below).

Update: On Wednesday morning, Yun Li of CNBC reports, Deutsche Bank shares surge on report Germany plans to fix bank's problems with merger:
Shares of Deutsche Bank surged on Wednesday after Bloomberg News reported the German government plans to push for a merger to save the struggling bank.

The bank's stock rose as much as 8.5 percent and was last up 4.8 percent.

Bloomberg, citing people familiar with the matter, reported Germany plans on working on a merger between Deutsche Bank and Commerzbank. The report also said the government could look to change its tax law to help the merger go through.

Deutsche Bank has had a tumultuous 2018, with its shares falling more than 53 percent as it failed to revive revenue growth.

A spokesman at Deutsche Bank declined to comment. A spokesman at Commerzbank also declined to comment.
You can click here to read the Bloomberg News report. I remain highly skeptical and would maintain a short on DB shares, but obviously pay close attention to these developments.