Shorting the underlying or puts

I think I've mentioned on here before that I've been frustrated with how little I can learn from reading about shorting.  There's some on general approaches, philosophies, and targeting, but very little on the part I find hardest - the mechanics.  The mechanics aren't too hard on the long side, particularly if (like me) you aren't too interested in margin.  But shorting you have:

a) position sizing considering the potential downside;

b) position sizing considering the effect of a move in the underlying (your position gets bigger when it moves against you and vice versa)

c) share borrowing & squeezes;

d) significantly different tax treatment and strategies

C is my biggest concern.  Right now I'm short FMCN.  In general I have a bias for shorting the underlying over puts; generally people cite the cost of options for this approach, but for me the bigger factor is I think I'm < average at both timing and technical factors; even if I could correctly identify a trigger, I can't tell if enough shorts are waiting for the same trigger.

FMCN is different though, because of the wide disparity in potential outcomes.  I shorted the underlying for about a 6% potential loss at the deal price and spent 6% of my portfolio on puts.  I had hoped the price would stabilize, driving the price of options down (lower historical vol, lower implied vol in the pricing) so I could buy up to 30% of my portfolio on puts depending on the prices (this is much higher than a normal position size btw; the risk return relationship was the best I've ever seen, and 30% would be if it got even better.  30% of my portfolio is roughly my savings last year).  

Unfortunately the price has not been all that stable; the options I bought are already 44% and 67% more expensive.  And my short position was called in today (no shares available in HK either).  I shouldn't have underestimated the focus on this one.  I thought because I bought in several days after it was announced the bigger moves would already have been made, but volume jumped today. 

Was hoping to clarify to myself if I should replace my short position with puts but about to nod off without an answer... 

AAA No Longer?

Time for a recap of the last few months:

• Of course I sold my HII shortly after the last post
• Really performed poorly with my SCHL short.  Will need to write about all my mistakes, what I know I did wrong, and what I still don't know I don't know.  Out of the position now and will stay out; better to just learn from it at this point.
• I left Japan in March to find work in the US.  I found an entry level job in the industry, so my blog name isn't so appropriate anymore.  I'll keep it for continuity.
• I spent almost no time on investing the last five months (working extra Jan-Mar to save more for my unemployed stint, focused on job search May-June).  I wanted more liquidity for the job search, though prices weren't so attractive anyway.
• Prices ARE finally starting to look better - excited for the next few weeks.

HII

HII, my current biggest holding, is up 10% over the last three days, apparently on the Pentagon's budget briefing. Transcript here. While it looked mildly good, it didn't look +10% over the market good or +12% over General Dynamics good. I see three probable drivers:

• Details of the budget released to connected players who are bidding it up (Congressmen not subject to insider trading laws)



• The announcement brought attention to HII, and more bidders saw it's attractiveness relative to the general market and specifically military contractors



• Potential sellers note the above two, particularly the first one, and hold off selling...

So what do I do? I'm in the third camp I suppose. I think it's worth more but it doesn't have the margin of safety I'd like any more - but selling when insiders are bidding it up would be a sure way to miss out on an upcoming jump.

(note - though it's my biggest position, it's not big - no big positions atm)

First Year Performance

From a quantitative perspective, I did superbly - up 17.27% vs essentially flat for the US market. Worst month was December at -1.28%.

Qualitatively, it's harder to tell. My performance was dominated by two trades - short NOG and long HII. Both look like one off opportunities. The NOG idea came from Bronte Capital. However, I'm unlikely to get valuable ideas from there in the future - due to a number of successes, he has more market credibility now. Also, I believe he had strong incentive to put out quality ideas to get his name out and attract investors. Going forward, publishing short ideas will likely increase his borrowing costs and attract legal attacks and he has less to gain.

HII just really dipped below it's intrinsic value. It actually dipped significantly more than the market despite revenues and profits having virtually nothing to do with the economy. An easy buy, but I had no way of knowing if I would have to hold it until the dividends came out to recognize the success. Turns out I only had to wait a couple months.

So neither of these look reproducible. I have no really good ideas at the moment. I do take some comfort from Buffet's idea:

"The stock market is a no-called-strike game. You don't have to swing at everything--you can wait for your pitch."

Still looking for that next pitch though...

[Couple smaller things. Yen down vs dollar 4.97% for the year; however I have decided to move back to the US so believe 100% USD is now the best unit of accounting. Also, my account size is small relative to my annual income and savings. Still thinking and learning about position sizing, but they will probably be smaller in the future.]

December Reading

I've said before that recently, changes in supply/demand for money and risk are the biggest risks to my investments. I've intentionally not focused on these areas in the past; there are plenty of smarter, better connected, well capitalized people out there who can and will beat me at currencies. So I actually never took economics in college (met requirements with AP Economics), and economics was less than 10% of the CFA tests.

Also, the stuff I did learn just didn't seem right. Purchasing power parity seemed to show little of the real world, if I recall correctly the carry trade should have been impossible in theory, and GDP and CPI are considered far more - accurate, or precise - than makes sense... I got the impression it was over influenced by Keynes and started reading Mises' Human Action. I didn't think that was going to help me invest much, so I quit a hundred or two pages in.

This winter break I want to figure things out. My reading/skimming list:

-A Monetary History of the United States (Friedman)
-The General Theory of Employment Interest and Money (Keynes)
-Speeches from fed governers
-chapter 3 of Alchemy of Finance (Soros)
-The Theory of Money and Credit (Mises)
-then move on to this reading list (but no access to academic articles)

Wish I had more from practitioners...

T2 Partners on NFLX

Via Neo-Alpha, T2 Partners have given brief reasons for being long NFLX. They compare the balance sheet but only mention the contract obligations as necessary for growth. They cite 166million net cash and 201million fcf as strong positions, but this is up against these streaming content obligations:

Less than one year		$	740.8
Due after one year and through 3 years			2,136.9
Due after 3 years and through 5 years			535.7
Due after 5 years			45.5
Total streaming content obligations		$	3,458.9

These are up massively compared to prior periods.

Hey, maybe they'll pull it off. I hope they do, I had a great experience as a customer. I agree it looks good from a takeover perspective. But I wouldn't call that a strong balance sheet. (ok so technically it's off balance sheet...)

NFLX - Two Mistakes

I don't like NFLX even at the current price. The reason is the massive operating leverage they've taken on to maintain and expand their digital offerings. I suspect it has positive expected value, but definitely risky, so inappropriate for my situation.

1) First mistake was buying a small position after the huge drop, while starting researching it. I was thinking that there was significant overreaction - and likely many stop outs from the momentum players - and it would soon bounce back up. I had a wee bit of confidence because I'd looked over NFLX last December. Not enough to hold it over night, but I still shouldn't have done it - the situation had materially changed with their increased obligations.

Of course go figure with investing and speculating, I made money despite making a mistake. I would have made more if I hadn't fixed the mistake right away (now up over 10%).

2) I looked at NFLX in December from the short side. I should have kept up with it; if I'd read all their filings, I would have noticed the increased operating leverage, and been willing to short after the stock started dropping with the rebranding fiasco.