Pershing Square Holdings

PSH achieved knock-out returns in 2020, yet trades on a discount of 25%...

Disclosure – Independent Investment Research

This is independent research issued by Kepler Partners LLP. The analyst who has prepared this research is not aware of Kepler Partners LLP having a relationship with the company covered in this research report and/or a conflict of interest which is likely to impair the objectivity of the research and this report should accordingly be viewed as independent.

Pershing Square Holdings

Pershing Square Holdings (PSH) is a closed-end fund with net assets of £7.2bn, and the flagship fund of Pershing Square Capital Management led by Bill Ackman. Pershing Square is variously known as a ‘hedge fund’ or ‘activist’ manager, but a fundamental value investor is probably a fairer description. At times, hedging may be employed, seemingly to protect from large sell-offs rather than create a low volatility return stream.

The portfolio is highly concentrated, with eight to 12 core holdings at any one time. Disclosure on holdings is poor, but we believe that PSH currently has only ten long positions, with some additional hedging. Pershing Square’s strategy is to acquire smaller pieces of ‘superb’ businesses over which they can have substantial influence, rather than controlling interests in lower quality businesses.

At times, when the manager perceives that risks are extended, Pershing Square has employed hedges. In 2008, Pershing Square generated significant gains from holding CDS in monoline insurers. More recently, in February 2020, Pershing Square entered into CDS on corporate bonds at narrow spreads over treasuries. Spreads widened very soon after the trade was initiated, generating very significant gains, the proceeds of which were reinvested (with exquisite timing) in mid-March.

As we discuss in Performance, the combined annual return of the strategy from 01/01/2004 to 23/03/2021 is 17.1% per annum, against which the S&P 500 delivered an annualised return of 9.8% per annum. In recent times, performance has been flattered by two very strong years it achieved in 2019 and 2020. The period from 2015 to 2018 inclusive was poor and, as we discuss in Discount, is a key reason why the shares trade on a very wide discount.

Analyst's View

2020 was the best year of performance since inception. Of the 70% gains in the year, those from the CDS hedge and subsequent reinvestment (for more information, please see Portfolio) delivered NAV returns of c. 55%. Is it perhaps the ’one-off’ nature of this alpha delivered during 2020, that has not led the market to value the manager’s performance more highly, and reward it with a narrower discount?

The period 2015 to 2018 represented a difficult period for the manager. Demand for PSH’s shares lagged during this period, and resulted in a very wide discount which at times broached the 30% mark. The current discount is around 25%. We believe that poor disclosure (on the underlying portfolio, and with only weekly NAV estimates) and high fees are key areas that makes it hard to see PSH achieve a dramatic re-rating in the immediate term. That said, when taken on its fundamentals, PSH offers a highly idiosyncratic strategy that has compounded at an attractive rate and would likely complement a diversified US equity portfolio, or portfolio of funds.

For those that have patience and a tolerance for the risk presented by a highly concentrated portfolio, there are relatively few candidates in the investment trust universe that are available at a discount anywhere near the 25% level that PSH currently trades at. We note that further buybacks will be accretive to the NAV at this level, and accounted for 2.4% NAV returns during 2020.

Bull
Bear
Wide discount to NAV which, despite lack of obvious catalyst to close, means future buybacks will continue to be accretive
Structural gearing brings higher financial risk / volatility of NAV
Highly regarded manager, who has delivered idiosyncratic return profile historically
Concentrated portfolio means returns can be meaningfully impacted by one company
Large insider ownership means, whilst there are high fees, the team are motivated to generate returns
Poor disclosure and high fees
William Heathcoat Amory
William Heathcoat Amory is a co-founding partner of Kepler Partners LLP and leads the Kepler investment trust research team. William has 18 years of experience as an investment company analyst. Prior to co-founding Kepler Partners in 2008, he was part of the Extel number 1 rated research team at JPMorgan Cazenove.

Disclaimer

Past performance is not a reliable indicator of future results. The value of investments can fall as well as rise and you may get back less than you invested when you decide to sell your investments. It is strongly recommended that as a private investor independent financial advice should be taken before making any investment or financial decision.

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