Part 3 – Lesson 12

Overview


The time period over which you will hold your investment is referred to as the investment horizon, holding period, or timeline.  It establishes your expectation for how long it may take for the stock to reach your target price.  Your expectation around timing is rarely going to be exactly accurate.  You may project that a certain company will hit your price target in 12 months.  However, it is more likely that the stock will either get there before the 12 month mark, after the 12 month mark, or never get there at all (as opposed to hitting the price target in exactly 12 months).

Why consider a timeline at all if you are bound to be wrong on it?

  1. It helps to manage your own expectations throughout the holding period. You may buy a stock only to watch it do nothing for the first 3 months.  It is helpful to remind yourself that your original expectation was to have to hold the stock for 12 months or longer.

  2. It establishes an expected annualized return. If you expect Company A to return 20% in 12 months whereas you expect Company B to return 20% in 18 months, then, clearly Company A provides the higher annualized return.

  3. It provides a clear marker with which to re-assess at the end of your investment timeline. For example, let’s assume that a company you are invested in hits your price target within the timeframe that you laid out.  This is a clear moment in time in which you should re-assess the thesis and valuation to see if there is more upside in the stock, in which case you may hold the stock for longer.  Alternatively, if the stock never reached anywhere close to your price target, knowing your investment horizon provides a reminder to re-assess your thesis and decide if you should sell the stock and move on.

At The Divergent View, we are biased towards owning stocks with long investment horizons.  In our experience, it is too hard to pick stocks based on 1 month, 3 month, and 6 month timelines.  There is too much volatility and near-term noise that affects stock prices over short timelines.  However, over the long-term, if you are direction-ally correct in terms of your financial projections, then, the stock is bound to follow the direction of earnings estimates long-term.

In fact, many of our favorite positions are not simply 12 month investments.  If you like a stock that is forecasted to grow cash flow 15-20% for the next several years, then, why sell this stock at the end of 12 months just because you have hit your predetermined 12 month mark?  Instead, at the end of every 12 month period, it is prudent to re-assess the valuation and thesis and see where the stock could go in the subsequent 12 months.  In fact, most diligent investors will be re-assessing the thesis and valuation on a continuous basis (not just every 12 months), but the takeaway is that establishing an investment timeline does not establish a pre-determined course of action for your investment.

For example, if you invest in a company growing cash flow at 20% per year, the below graphic shows what your process may look like over a three-year period.  At the onset, a price target of $100 has been established.  However, at the end of the first 12 month period, cash flow is still growing 20% per year.  Assuming the valuation multiple hasn’t changed, this would suggest that the stock price could compound another 20% in year 2 and then compound another 20% in year 3:

Catalyst Path


Catalyst = Event that moves the stock price of a company

“Catalyst” is a term used often in the hedge fund world since many hedge fund analysts are under pressure to perform on a short-term basis, so these investors are hyper focused on specific catalysts that will cause stocks to go up (or go down).

For example, if the next major catalyst for Google is quarterly earnings in 3 months, some funds may decide to hold off on buying the stock until closer to the earnings call since most of the stock price movement is likely to occur when the earnings catalyst actually takes place.

Let’s look at the various types of catalysts:

 

Catalyst Notes
Earnings calls In a long-term investment thesis, the quarterly earnings calls are the most significant catalysts as these are the major events around which future earnings estimates will move higher or lower
Investor conference presentations Every few weeks throughout the year, the investment banks (Goldman, Morgan, etc) and boutique broker dealers (Jefferies, Stifel, Cannacord, etc) will host investor conferences inviting corporate management teams to speak to institutional investors.  Since these conference presentations are webcast to the public, management teams use investor conferences as a forum to release major updates about the company
Acquisition announcements Announcements of a company acquiring another company or being acquired themselves are major stock moving events.  Although many investors try to predict acquisition activity, this type of catalyst is inherently uncertain
Stock buyback announcements Announcements that a company will repurchase stock is typically viewed favorably by investors since it shows that management is confident in the underlying stock and valuation of the stock, and the buyback activity itself provides a tailwind to EPS and FCF/share growth due to the reduction of share count (as long as the financing cost of the buyback is less than the earnings or free cash flow yield).  Buyback announcements are also hard to predict, but management teams will often telegraph these announcements through their commentary at investor conference presentations
Investor Day Many companies will host an annual investor day, where they will invite major investors to listen to a full day of presentations by the management team.  Investor days tend to layout the long-term vision of the company, and many companies use their investor day as a forum to provide long-term targets or goals to investors.  These types of communications can often be market moving depending on how different they are relative to current expectations
Customer wins / contract announcements Companies will often announce major contract or customer wins intra-quarter (in between earnings calls).  This type of a catalyst is not possible to predict
Corporate press releases Most companies will issue press releases throughout the year to update investors, customers, and employees on corporate news.  This could include new customer wins, new product developments, charity giveaways, the hiring of new personnel, etc.  For example, many retail companies will release monthly same stores sales numbers.  Many of these press releases are not market-moving, but some press releases will contain major, market-moving news

Out of all these catalysts, the earnings calls and investor conference presentations are the most significant to pay attention to during the course of your investment.  The earnings calls and investor presentations contain the most volume of market-moving information, so you should mark your calendar for these events and always plan on listening to them.

Charter (CHTR) Investment Timeline and Catalyst Path – Investment Write-up


Building on our previous lessons, let’s draft the investment timeline section for our CHTR write-up:

Charter (CHTR) Timeline and Catalyst Path

We believe CHTR is likely to reach its $448 price target by the end of 2019, which is approximately 16 months from now.  Since CHTR is expected to grow FCF/share at 20%+ for many years, it is possible that CHTR will remain an attractive long investment even beyond the initial investment horizon.

During this time period, we expect CHTR stock will move higher based on the following catalysts:

  1. Earnings reports – the primary catalyst will be the upcoming earnings reports, which should show ongoing momentum in the broadband net additions as CHTR completes its integration of the Time Warner cable acquisition. Additionally, we expect investors will not be able to ignore the 20%+ FCF/share growth despite video subscriber losses.  Future earnings reports should demonstrate the earnings power of CHTR driven by broadband additions.

  2. Investor presentations – ongoing management communication to investors should build comfort in the long-term cash flow trajectory.

  3. Stock buyback – we expect CHTR to repurchase a significant percentage of their outstanding shares every year, which should provide a positive tailwind to the stock price and underlying FCF/share.

  4. Acquisition – CHTR has repeatedly been the subject of acquisition rumors. In the fall of 2017, multiple companies including Verizon, Softbank, and Altice all expressed interest in acquiring CHTR at a significant premium.  The financial press reported that Verizon was interested in acquiring CHTR for $400 while Softbank was interested in acquiring CHTR for $540.  CHTR management rebuffed these acquisition offers as they believe the acquisition offers undervalued the long-term potential of the business.