Brave or foolhardy? Regal’s Phil King takes on the CBA widowmaker trade
Is the hedge fund boss being brave or foolhardy by going where many have gone before and fortunes have been lost.
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When Phil King isn’t stalking fund managers, such as his recent $500m-plus approach to buy out Platinum Funds Management, the hedge fund boss is taking on one of the world’s best known “widowmaker” trades.
Over decades, many fund managers have tried and lost fortunes attempting to short Australia’s big banks. The trade is usually led by offshore fund managers watching the overvalued Aussie property market held up by a low-growth economy. They were betting something had to give, and the way profit could be made was by shorting the holders of the mortgages: Australia’s big banks.
Remember, shorting is about making money betting on a stock going down, not up. It’s just that the banks and property market have refused to play along with the laws of gravity.
This time is different, King says and the Regal Funds boss is taking on the biggest bank of all: Commonwealth Bank. He says its white-hot share valuation represents the biggest bubble of the Aussie banks and much of the gains have been the result of passive funds such as exchange traded funds flowing in. That too dragged in marginal buyers who are only there because CBA is going up. This has made CBA one of the most expensive banks in the world, King says. This can’t continue.
CBA shares have eased around 6 per cent in the past week and that comes after they touched a new record of just under $145 each. Even with the recent pullback they are up 20 per cent this year and with a market capitalisation of more than $225bn, CBA sits just outside the top 10 of the world’s most valuable banks. None of the market analysts that track CBA have a buy rating on the stock given the share price surge.
“I’m happy to be short CBA,” King says. “When a lot of other people give up shorting something, you know, that might be the best time to do it.”
The Regal boss was speaking at an investor briefing on VG1, the listed investment fund King acquired in recent years, allowing him to engineer a back door listing of his $12bn Regal group.
Part of the recent rally in CBA has been a short squeeze, King says, which is other funds scrambling to cover their position as the stock keeps running higher.
“That’s often the best time to put the short on and that is certainly how I see CBA at the moment,” he says.
“I think people have been trying to short the stock all the way from $60 up, and it’s hurt many, many people over the years, but I think it will be right eventually.”
Long-time followers of the widowmaker trade point out there’s rarely a catalyst for the price fall. Lending losses remain low, and the property market is resilient. But King says it could be as simple as the shares starting to fall. When this happens, “momentum will build”.
“At the end of the day, it comes back to fundamentals. CBA had great earnings growth for 20 years, and then earnings have basically gone nowhere for the last 10 years, and a lot of investors don’t realise that.
“And so it’s been very much a share price rally that’s been driven by a re-rating over that last 10 years. And now, earnings are starting to crack.”
For long investors (making money on shares going up), better value can be found in UK and European banks. Here the difference is stark. Where CBA shares might trade on 23 to 25 times forward earnings, names such as Lloyds in the UK are trading on a price to earnings multiple of six or seven times forward earnings.
Also, European banks are starting to undergo a wave of consolidation, which will start driving earnings. Australian banks have just come off a 20-year period of consolidation, with ANZ’s move on Suncorp likely to be the last of the buyouts by the big four banks.
In Australia, King prefers miners, although he is cautious on iron ore exposure or lithium given the deep problems in the China property market.
More broadly, King is bullish on the outlook for markets, pointing out shares have done well as interest rates have been tightening, so they should also rally as rates start falling around the world.
“We think, especially as we get through the US election and come into the December quarter, we should see a stronger finish to the year.”
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