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SHLD Scenarios and Actions


bargainman
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So I've been reading the discussion about Sears,

 

http://www.cornerofberkshireandfairfax.ca/forum/investment-ideas/shld-sears/1775/?topicseen

 

and like a lot of discussions on message boards on the web, even the best boards like this one, there seems to be a reasonable amount of emotion, and also some amount of black and white thinking, or at least people arguing either just one perspective or the other.  There is also a lot of great information.

 

I personally try to think of things in less of an "either or" way. I think of things, especially these sorts of scenarios, in both probabilities for the short term and the long term, and also decision trees to analyze actions that I might take on those probabilistic scenarios.

 

Well, that was certainly a bunch of mumbo jumbo and jargon, so let me get started on the actual meat: 

 

Before I get started on the probable scenarios in the short term and long term, these are my potential actions on the stock:

  • inaction
     
  • purchase by proxy by participating in fairholmes fairx fund,
     
  • purchase directly by buying shares and potentially participating somewhat in lending out my shares to shorts and making some money that way,
     
  • buying longer term options primarily call leaps, and or
     
  • selling short term options, primarily puts. 
     

With that out of the way, let me list the short term scenarios and the long-term scenarios and attach probabilities to each.

 

Short term possible events

Bankruptcy - very low probability

Stock dropping to 30 -low to medium probability

Short squeeze -low to medium probability

Spin off of some sort which may cause annoying taxable or tax related event -medium probability

Eddie brilliantly turns around the business and makes it profitable - pretty low probability

 

Long-term possible events and outcomes

Bankruptcy -very low probability

Lost opportunity cost where assets follow or slightly trail inflation before Eddie is able to monetize properly -low to medium probability

Short squeeze that pops the stock up at least 50 to a hundred percent -high probably

Eddie becomes the next Jeff Bezos and turns this operation into an Amazon like machine -very low probability

Stock goes below 30 permanently  reasonably low probability

Eddie winds down ESL and makes this his primary investment vehicle -medium probability

 

Now I have my reasons for assigning these probabilities but if I went into all of those this message would never end :-) so let me analyze my possible actions.

 

I already own a reasonable amount of the fair holme Fund so no action required there, I will participate in Sears depending upon the whim of Mr Bruce

 

Owning Sears directly might be OK, especially since my broker gives me some interest for lending out the shares, but the factors here are that I only get half of the total amount of interest for the shares lent, I also feel the pain when a split or spin-off happens and I have to figure out what to do with some spin off stock. Also in the scenario where the stock does nothing I have the lost opportunity cost, minus of course the interest I was paid. But generally here I am using a reasonable amount of capital and betting on Eddie monetizing quickly enough that the stock becomes worth something, or waiting for a short squeeze and selling out then.

 

Options, now here is where it gets interesting . First a word on pricing, for some reason at this stage, short term close to the money Puts  are earning 40 to 50 percent annualized. Long-term calls are charging about 12 percent annualized at the money  2015 leaps. So if I believe that in the short term the stock won't drop too far below 30 and that in the long term it won't do so either, I can probably make a reasonable amount by selling short term close to the money puts and rolling them as necessary.  How long those premiums will last, at those strike prices, I do not know, but they have been pretty high ATM consistently. Now if I believe that in a slightly longer term there is a reasonable chance of a short squeeze, it doesn't cost me a whole lot to buy some out-of-the-money call leaps so that I am exposed to any possible upside without a large investment of my own capital.

 

You can probably guess what my actions have been and will be going forward. I agree with many that this is not a slam dunk 1 foot hurdle. I also agree that Eddie didn't become stupid all in this recent period. I also agree that there is a reasonable difference between somebody running a hedge fund and that same person running as CEO of a retail business successfully . I see a significant difference between him and Jeff Bezos merely starting with the fact that Jeff Bezos is a trained computer scientist with significant interest in other sciences, while Eddie is a trained economist. Jeff Bezos also seems to be very inspiring and visionary whereas  Eddie seems to be reclusive uninspiring but still rather data-driven. This is not to say that Jeff Bezos does not have his faults.  But enough about that. I won't draw too much of a comparison with Warren Buffett other than to say that we all know he studied Warren deeply and we all know about Eddie's record. As far as the actual end game goes I really do not see a way out for Eddie, he either needs to fix the retail side of Sears, monetize the assets and invest in something else, do some combination of the two, or just keep sinking slowly.

 

So what am i doing then? I trust Mr Bruce enough that I am willing to keep holding My fairholme shares.  I feel like the stock is paying significant short term options premiums with reasonable downside risk that will be offset by those premiums in reasonable order by rolling.  It also feels like those short term premiums make up for the potential opportunity cost outlined above if Eddie is too slow to monetize and the business keeps deteriorating too fast . I feel like in the long term and even the shorter term there is enough impetus for a short squeeze that could spike the stock given the short interest and the small float. As such with the leaps costing a reasonable premium, I am exposed to this potential upside for little cost or at least reasonable cost.

 

Now both sets of options would be exposed to the spin-off issue, but I guess you can't have everything. Now if I could do that in my non taxable account that would be great, but I cannot.

 

I would be interested in hearing how others are trading this stock and dealing with the possible probabilities and different scenarios (also what probabilities people assign to the possible scenarios). I started a separate thread because I didn't want this particular thread to turn into something focused on what could happen, but rather something focused on what actions one could take to take advantage of the possible scenarios. Hopefully that makes sense but since it's late over here maybe it doesn't :-)

 

 

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Meiroy made a good comment here (sorry, didn't answer yet, trying to catch up with the hundreds of SHLD posts in these last few days...

 

Bought a 3% otm call (jan 2015 strike 60) position today. It's more speculation than anything else really. Sitting on some gains and think it's an interesting position to have without risking too much.

 

Tom, could you elaborate on your strategy for these options?  If there's a sudden and massive short squeeze and the options become deep in the money for a short while, will there actually be a reasonable market for them to profit from?

 

Thanks.

 

So yes; in the event of a short squeeze, who will pick up my ITM calls at those prices and why? I guess the spread would be huge and you'll likely have to sell them way too cheap. That said, I'm not counting on a short squeeze so if it happens it's all just extra's and it would mean a multi-bagger on a very speculative play on my part.

 

 

 

Another interesting comment I just read but can't seem to find back anymore:

 

Isn't it possible that Lampert is doing this just/partly to secure the 280.000 jobs, likely 0.2% (?? wild guess?) of total national employment? That would be quite the charity work! After all, he won't notice being a few billions richer... One could also argue that growing a succesful company adds a lot more value to society both in the present as over time. Idk... I just liked that comment.

 

 

I'll try to post my thoughts not related to probabilities in the general SHLD topic later.

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Guest hellsten

There's a very high probability that:

- Sears will not go bankrupt any time soon

- Sears has valuable assets that the market values at zero or less

- Eddie Lampert, Bruce Berkowitz, Francis Chou, Horizon Kinetics are not crazy

 

That's how I see it. Feel free to call me crazy and a speculator. IMHO, the only ones who are not speculating are the ones who put this in the too hard pile.

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