How Shorter Selling Durations Could Help Lower Volatility

Shorter exposure to longer selloffs and shorter selling time have the potential to provide investors with better risk adjusted returns than short-term trades based on absolute short-term event driven conditions. In my next discussion…

How Shorter Selling Durations Could Help Lower Volatility

Shorter exposure to longer selloffs and shorter selling time have the potential to provide investors with better risk adjusted returns than short-term trades based on absolute short-term event driven conditions. In my next discussion I will explore some concepts underlying this phenomenon.

Shorter exposure to longer selloffs and shorter selling time will contribute to market stability and possibly reduce volatility. It could be argued that so long as short-term investors are not making very meaningful changes to their asset allocation, then they are more vulnerable to noise regarding short-term market conditions. An important part of this is to think through potential medium to long-term risk vs. reward tradeoffs as it relates to action taken in the short term that may be keeping you from moving ahead with your plan.

One of the companies I consider most volatile, namely GoPro Inc. (GPRO), has been in the news recently because of news that the company does not expect to achieve their original revenue targets for the year. Their stock peaked in April, 2016, at nearly $96 per share and subsequently began a decline that has largely transpired over the last year. The company’s product line clearly is not resonating with their potential customers the way it has with consumers in years past. The valuation has begun to fall, its market share is declining (I believe a record low of 0.5% GoPro share of US Sportswear last quarter) and they have begun to see limited demand for their products as well.

GPRO looks like it is a perfect example of an opportunity where investors can take advantage of a situation such as today’s technology selloff to buy a quality company selling at a very reasonable price. The bad news regarding the upcoming holiday season is likely to hit the stock hard next week, but long-term investors have the ability to control duration, with multiple ways available to alleviate the distress they may be experiencing. Consider this: GoPro’s cash and short-term investments position increased by $135 million over the last five quarters. I estimate $100-120 million per quarter in cash inflow and $50-100 million per quarter in cash outflow. That is substantial cash flow growth, given GoPro’s current cash position, yet the stock is only down ~30% over the last five quarters. With this potential cash flow generating ability on hand, and given the current selling environment, the downside in the stock is limited. One analyst has GoPro to $26, yielding nearly an 80% upside from current levels.

Another trade that you should consider taking advantage of today’s selling and volatility is countercyclical stocks. For investors who have generally limited their exposure to potential volatility, like Dendreon (DNDN), that were the ones to take advantage of the healthcare headwinds in 2015 and 2016, now provides a completely opposite opportunity. Dendreon was one of the hottest stocks of the past few years. After a little over a year of stock appreciation the company entered bankruptcy protection.

Dendreon’s price cratered on the news. It is now trading at only about $2.75 with a market cap that is less than $1 million.

Dendreon is a company that offers alternative treatments to patients suffering from certain forms of cancer. Their drugs currently have not yet received FDA approval for any additional indications. The RIGO vaccine is designed to treat HIV/AIDS. The company is trading with just under $100 million in cash and has very few debt obligations. In fact Dendreon trades at a price/cash flow ratio of only 0.46 and price/sales ratio of 0.02, although the P/E ratio could come down going forward. One analyst has Dendreon to $6 per share, yielding roughly 140% upside. It’s important to remember that no stocks are guaranteed to be winners or losers going forward. Dendreon’s risk and reward profile is limited. If the company does in fact achieve a reasonable return by this juncture, the name could very well give investors a large initial reward and a recovery for some of the lost value.

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