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Monthly rollup | August 2021

Stocks Mentioned: Corvus Gold (KOR), New Found Gold (NFG), Tellurian (TELL), Euronav (EURN), DHT Holdings (DHT), Credit Acceptance Corporation (CACC), Breakwave Dry Bulk Shipping (BDRY), VanEck Vectors Rare Earth/Strategic Metals ETF (REMX), Cameco (CCJ), North Shore Global Uranium Mining ETF (URNM)

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August 13 2021

I mentioned Corvus Gold as a takeover candidate in the July AAO newsletter. It has been a month since Anglo announced its bid and the company hasn't posted any news at all. The exclusivity period has been extended to 120 days, which implies there won't be a competing bid. Management silence is making me wonder if they will reject the offer, or not present it to shareholders, etc. So many things can go wrong with a stalled takeover. I'm going to exit my position today rather than wait and wonder. If you followed me on this trade, you'd have been up 20.4% within a week.

August 15 2021

Catching up on past trades

Corvus Gold - I closed the Corvus Gold trade last Friday at $4/share for a ~20% gain. The trade worked out as expected. Time to move on.

Short New Found Gold - NFG shares peaked within a week of my short recommendation (see June issue). Using the 6/1 closing price of C$12.38 as my entry, the trade is up 16.4%. Share prices should continue to decline as the float improves. Stay short.

Short Cameco/URNM - As I wrote in the July issue, spot uranium is flat while the uranium miners have rallied, creating a divergence. Valuation-wise, the uranium sector is grossly overvalued for current spot uranium prices. Several uranium juniors have raised financing to secure physical uranium, the so called #uraniumsqueeze, and yet the uranium price has stayed flat. While uranium remains in a long term supply deficit, the fact that the price has failed to go up amidst what ought to be wildly bullish news makes me cautious. So, I re-iterate the short trade. Note that this trade runs counter to the long term trend, which is still up. If I were to enter this trade now, I'd set a buy stop over $60 for URNM and $18 for CCJ (or perhaps a 14-week ATR of 1.5). Using the 7/9 closing price as my entry, the CCJ short is up 10.6% and URNM short is up 9.4%. These gains are indicative - if you used tight stops you would have been stopped out on the rally at the end of last month.

Buy Euronav and DHT Holdings - The big winners in the shipping space this year are the containerships and dry bulk. Why bother buying the oil tankers?

The long term picture is one of supply destruction as vessels headed for the scrap heap are not replaced by newbuilds. Shipyards are swamped with orders for containers and LNG vessels, so any newbuild ordered now will likely not even be scheduled for delivery until late 2023 or 2024. Suffice to say, nobody wants to order a vessel now, not with the International Maritime Organization creating uncertainty over future regulations. Vessel owners are hurting since current charter rates aren't even high enough to cover apex.

Again, why bother with a sector in distress? The gap between the NAV of these companies and the share price is growing wider, and such gaps have a way of correcting themselves through corporate action. The NAV here isn't a nebulous figure - it is simply the actual values of the fleet as determined by trading activity in the sale & purchase market and broker reports.

While the market is valuing these companies based on the terrible numbers they are posting in their income statement, we are buying into them based on their strong balance sheet and attractive valuation. All that's needed to repair the income statement is a few ticks higher in oil demand - that's just a matter of time.

Two ways to play this -

  1. catch the falling knives and hope for a corporate action or trend change to close the valuation gap,

  2. set a buy stop.

I chose (1). I have a small position and I plan on adding aggressively when the sub-sector breaks out. Using the 7/9 closing price as my entry, the EURN trade is down 13.2% and DHT is down 14%.

Watch for an opportunity to short CACC

Since 1972, Credit Acceptance has offered automobile dealers vehicle finance programs to help them sell vehicles to consumers, regardless if they have bad or no credit. These programs are offered through a nationwide network of automobile dealers who benefit from sales of vehicles to consumers who otherwise could not obtain financing; from repeat and referral sales; and from sales to customers who come into the dealership believing they have credit issues, but qualify for traditional financing. Further, we report to the three national credit reporting agencies, giving consumers an opportunity to improve their credit score and potentially qualify for more traditional financing.

Our company is unique. Enrolled dealers share in the cash flows from the contract, which creates an alignment of interests and is a critical element of our success. Dealers have an incentive to sell reliable vehicles that last the term of the contracts, as they benefit from those who successfully repay their contracts.

CACC is in the business of making subprime auto loans. Business is booming. The first two quarters of 2021 saw the company achieve net income of $490.7 million (EPS of $28.96) vs. net income of $12.6 million (70 cents) for the same period last year. Shares made a 52-week high yesterday. Sounds good, right? Not when you take a look under the hood.

The comparison looks good only because provision for credit losses decreased by $503.3 million, accounting for 101.9% of the H1 2021 net income. That's a phantom gain which will be non-recurring. The company's loan loss projections may even prove too optimistic when the moratorium on evictions ends and the company's customer base starts feeling the squeeze of having to make both rent and car payments. The situation will be even worse when unemployment benefits expire.

The bottomline is, if you believe the Biden administration will institute universal basic income, CACC is probably an attractive buy. Under less optimistic scenarios, CACC's price to book of 3.73x and a debt-to-equity ratio of 2.26x indicates a company priced to perfection with a lot of downside potential if things go south.

CACC reported earnings at the end of last month. What have insiders been doing since the blackout period ended? Yep, you guessed it! They are taking advantage of the post-earnings rally.

The consensus forecast based on 6 analyst ratings (4 hold, 2 sell) is $395.67, with the low case being $295. If shares correct back to 1 times book, CACC could go as low as $153.

My recommendation is to watch for a short opportunity. You could buy puts but there's no volume in the OTM puts expiring in Jan 2022 or beyond. This trade will need time to work out. Easier to just watch for a trend change and go short.

That said, here's my view on the gold sector.

Thoughts on gold miners

I'm not a buyer. I tend to favour the explorers which move based on their fundamentals as well as the gold price, moreso the former. Price action wise, most of the explorers I follow are in a downtrend. Sentiment is bearish. Gold is consolidating. Sure, I could recommend some great names now and just ignore the market for a year and I no doubt will have a positive return. But this is a trading newsletter geared towards traders with much shorter time horizons. Locking up capital in this space implies there's less capital available for the next attractive opportunity that comes along. It also increases the risk of drawdowns.

I don't want to speculate on takeover candidates when sentiment at corporate offices of the bigger miners is bound to be in favour of caution rather than growth. Barrick CEO Mark Bristow has been quite vocal about the need for consolidation in the industry and no doubt takeovers will happen. I just don't want to speculate on potential takeovers right now.

That's my reasoning for not recommending any new trades in the gold space. I do have a buy list for investors. If you're interested in that, send me a message on Telegram.

Why do I have a buy on the oil tankers but not gold miners, even though they are both in a short-term downtrend? With gold, it's easy to monitor the market price everyday and figure out when the downtrend/consolidation is over. With the oil tankers, we will only get to know about fixtures and the trend in TCE rates after the fact. DHT is actively buying back shares. EURN also has a history of buybacks. This trade has little downside and a lot of upside from here based on economic fundamentals of supply and demand and potential corporate action. With gold stocks, the upside is contingent on gold sentiment and price action.

When it's apparent that the market has turned, I'll be aggressively adding to the miners and oil tankers.

Breakwave Dry Bulk Shipping (BDRY)

BDRY provides long exposure to the dry bulk shipping market through a portfolio of near-dated freight futures contracts on dry bulk indices. The Fund will hold freight futures with a weighted average of approximately three months to expiration, using a mix of one-to-six-month freight futures, based on the prevailing calendar schedule. The Fund intends to progressively increase its position to the next calendar quarter three month strip while existing positions are maintained and settle in cash. The initial freight futures allocation will be 50% Capesize contracts, 40% Panamax contracts and 10% Supramax contracts, rebalancing annually, as needed, during the first two weeks of the month of December.

BRDY is an ETF that provides exposure to dry bulk rates. I'm wary of ETFs which buy and hold futures but this instrument has a great track record. Plus, the chart looks beautiful.

The Baltic Dry Index hit a multi-year high last week. The same cannot be said of the dry bulk shipping stocks. This ETF can be viewed as an alternative to the stocks, which are quite volatile. Containerships and dry bulk shipping are in a long-term bull market, but I am unsure if current prices represent an attractive entry point. For those who want to take a closer look, check out these names.

Containerships: ZIM, TRTN, ATCO and MATX.

Dry bulk: SBLK, GOGL and EGLE.

Costamare (CMRE) is another interesting candidate to watch. The company has its foot in both containers and dry bulk. The stock is covered by 3 analysts with a buy rating and a consensus target of $13.75. The stock has a TTM PE of 8.3x and a forward PE of 4.3x. I want to watch how the broader sector performs over the next two weeks and buy in just ahead of Labor Day.

Short overvalued Chinese stocks

Every so often, Western investors grow enamoured of Chinese stocks, only to learn time and time again that it just doesn't pay to invest in that country. Be it Sino Forest or Luckin Coffee, accounting frauds are numerous and investors get fooled into buying worthless stocks. Then there's Chinese tech. Chinese tech stocks were once treated on par with US tech stocks - until the CCP cancelled the Ant Group IPO and investors suddenly awoke to political risk in Chinese tech. Recently, the CCP has started going after education companies and threatened to turn them into non-profits. They have also banned bitcoin mining.

Unlike Kyle Bass who has it in for everything Chinese, I bring this up to make a point - Chinese stocks are risky and need to trade at a discount to reflect that risk. Yet, there's one group of Chinese stocks which currently doesn't.

From the article:

"The move would mark the first financial investment by the U.S. military into commercial-scale rare earths production since World War Two’s Manhattan Project built the first atomic bomb.

It comes after President Donald Trump earlier this year ordered the military to update its supply chain for the niche materials, warning that reliance on other nations for the strategic minerals could hamper U.S. defenses.

China, which refines most of the world’s rare earths, has threatened to stop exporting the specialized minerals to the United States, using its monopoly as a cudgel in the ongoing trade spat between the world’s two largest economies."

Since the covid crash, the VanEck Vectors Rare Earth/Strategic Metals ETF (REMX), which tracks the overall performance of companies involved in producing, refining, and recycling of rare earth and strategic metals and minerals, moved from a low of $23.91 to peak at $115 earlier this month. The ETF has a wild 1 year return of 151%. No doubt, this outperformance has something to do with US government funding for US sourced rare earths.

Only, the premise based on which investors have obtained rare earths exposure is false.

REMX chiefly holds Chinese equities, with the top 4 holdings representing 37.5% of the ETF.

This is a poorly constructed ETF, albeit one which has done quite well for the last 17 months. The stocks which constitute the ETF are priced to perfection with crazy high PE and PB ratios. The ETF itself has a PE ratio of 17.25x and PB ratio of 4.25x as of July 31st.

“Economic history is a never-ending series of episodes based on falsehoods and lies, not truths. It represents the path to big money. The object is to recognize the trend whose premise is false, ride that trend, and step off before it is discredited.”

- George Soros

Worth repeating the quote here, since this is indeed the case with REMX. I consider yesterday's gap down in REMX the start of the discrediting process. If I'm right, we have a long way to go.

Short REMX at ~$103 with a stop above $115 and a target of ~$40.

Given the risk reward I see in this play, I would be comfortable giving it another try if my first attempt fails.

August 20 2021

Continuing on the guru theme, one day they will be proven right and will get to say they told you so. There will always be that one tweet which aged well. Trouble is following them those other times is a sure fire way to lose money and not really benefit from that one time they do catch the bottom by sheer luck.

August 23 2021

I'd tighten my buy stop on URNM to around 57.5 and CCJ to around 17.75. The Sprott uranium ETF (TSX:U.UN) went up on announcing a $300 million financing meant to hoover up uranium from the spot market. There is a chance spot uranium rises dramatically if they succeed in cornering the inventory available for immediate sale. If it were obvious they would succeed, I'd say just close the short position now and get long again. Tightening stops just helps eliminate the guesswork and makes it a more systematic trade (something I'm moving towards these days).

Oil tanker fundamentals from a shipping analyst I follow: Over the course of the next 16 months another 65 VLCC crude tankers are expected. This will add approximately 7.8% in terms of capacity that is absolutely not needed. This comes as we are still witnessing an aversion to scrapping despite the amazing prices being paid for demolition tonnage as of late while VLCC TCE rates are still firmly in negative territory. In short, unless we see a massive return of demand or a pickup in demolition activity we are likely to witness a prolonged downturn in the crude tanker market through 2022. In the meantime don’t be fooled by brief upturns in the market as they will very likely be short lived until a structural balance is restored.

A couple of points to note:

  1. The tanker stocks are trading at a huge discount to NAV and the market is forward-looking, so these stocks could rise if scrapping picks up even slightly.

  2. When nobody expects oil demand to pick up and absorb the excess tonnage, chances are the market has already priced that in, limiting the downside. I'm watching this so we can buy into this sector aggressively if fundamentals turn bullish.

August 27 2021

From KNX Q2 earnings presentation

This content was originally published as part of Against All Odds Research.

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