Lee Ainslie On Maverick Capital's Housing Shorts And New Healthcare Stock


Lee Ainslie’s Maverick Capital recorded its second-worst quarter ever during the first quarter, a dramatic turnaround from last year’s first quarter when the fund enjoyed its strongest quarter ever. During the first three months of this year, Maverick returned -22.9%, compared to the S&P 500’s loss of 4.6% and the MS World’s decline of 5.2%.

First-quarter detractors

In his first-quarter letter to investors, Ainslie pointed to four contributors to the fund’s weak performance. Their sizable position in Coupang accounted for about two-thirds of the loss due to the stock’s 40% plunge, while high-growth and mega-cap tech stocks saw a broad-based decline.

Finally, biotech stocks as a whole tumbled because they were grouped in with other long-duration assets, and dollar-volume M&A activity in the space has declined significantly in the last 12 months. Ainslie believes concerns about the impact of discount rates on valuation multiples were the primary driver of the weakness in biotech during the first quarter.

Looking at those four contributors to Maverick Capital’s first-quarter losses, Ainslie sees significant latent alpha in the portfolio just from those detractors. At the end of April, those positions accounted for nearly half of the fund’s exposure, and they had drawn down by more than 60% from their prior peaks.

Based on Ainslie’s estimates and adjusted valuation multiples, he sees an upside of over 130% from current levels. He also said that the current environment is presenting some unique opportunities. Of those opportunities, Ainslie highlighted their shorts in the housing and durable markets and a new healthcare position they established during the first quarter.

Housing and durable shorts

He noted that the American consumer is spending significantly less on durable goods in both total dollars and proportion of their spending. In particular, home-related categories are seeing the largest declines.

Ainslie pointed out that spending in those categories surged in 2020 and 2021 due to the pandemic, which locked down most people at home for an extended period. He explained that the drivers of that increase were time and wealth.

Americans spent more time at home, which made them perceive home-based spending as having a higher value due to personal enjoyment caused by spending more time than ever with those purchases. Additionally, they had more money to spend due to sizable government stimulus payments, the strong financial markets, record levels of home equity, and widespread lockdowns that restrained spending on travel and entertainment.

Why Maverick is shorting this sector

Comparing 2021 spending to 2019 levels, Ainslie explained that Americans spent about 30% more on each of the home-related categories he outlined, including furniture and home goods, TVs, appliances, and tools. These categories’ wallet shares are also at post-financial-crisis highs.

Ainslie explained that they are shorting housing and durable stocks because consensus estimates in home improvement and home furnishings assume growth from the extremely elevated 2021 numbers. This implies little-to-no reversion in wallet share from durable goods.

He added that gross margins in these categories were unsustainably high. Furniture demand significantly outpaced supply, so retailers stopped offering promotions, inflating gross margins by almost 700 basis points and operating margins by 1,000 basis points compared to 2019.

However, in 2022, inventories are recovering, so retailers have started offering promotions again, reducing margins to normalized levels. Ainslie said this dynamic resulted in earnings per share coming in more than twice as high as earnings stood before the pandemic.

Bursting the earnings bubble

He notes that a reversion makes sense at the consumer level and for the over-earning subsectors but added that consumer spending could shift slowly. Ainslie pointed to a few dynamics accelerating a bursting of the earnings bubble he observed.

The first is significant inflation in necessities that’s squeezing out other spending categories, taking wallet share back from durable goods. The second is that home values and affordability have shifted due to the rate policy response. As a result, consumers are no longer incentivized to spend money on improvement projects because the return on investment has diminished as home sales slow.

The third issue is the relaxation of COVID and work-from-home policies, which have resulted in less time being spent at home. Ainslie believes the result will be an aggressive shift in spending from goods back to services. He’s now looking for normalization in wallet share.

Due to all these considerations, Ainslie sees the durable goods reversion focused on the home as one of the largest short themes in the consumer sector.

New healthcare position: Masimo

Maverick Capital initiated a new position in Masimo, which Ainslie describes as a “high-quality, high-growth, founder-led business on the right side of change in healthcare.” The company primarily sells patient monitoring products to hospitals.

Ainslie feels Masimo is the clear leader in pulse oximetry, which measures the oxygen levels in the blood. More than 100 independent studies have shown that Masimo’s products outperform those of its peers, resulting in better patient outcomes and lower provider costs.

The pulse oximetry market is a duopoly, and contracts with hospitals are five to seven years long with annual minimums, providing visibility into the company’s revenues. Over 80% of Masimo’s revenue is recurring, and it has averaged a greater than 98% customer retention rate. The company enjoys gross margins of nearly 70%, and about 100% of its net income converts to free cash flow.

Maverick Capital bought shares of Masimo after it announced plans to acquire consumer electronics firm Sound United for $1 billion. The stock sold off 37%, reducing its market cap by $4.6 billion. Investors became concerned that the acquisition signals a change of strategy, a deterioration in future prospects, or a departure from management’s rational capital allocation strategy. The stock then sold off another 18%.

Ainslie said Masimo now trades at multiples a little below its lower-quality, lower-growth med-tech peers. It’s trading almost 50% below the company’s similarly-growing med-tech peers and below pre-pandemic levels even though it emerged with a much stronger footing after COVID.

Michelle Jones contributed to this report.

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