Bloomberg News

Chanos Sees No Shortage of Overpriced Stocks in U.S. Bull Market

September 19, 2012

Kynikos Associates Ltd. Founder and President Jim Chanos

Kynikos Associates Ltd. founder and President Jim Chanos said, “A number of high-profile natural gas companies may end up in financial difficulty as early as next year.” Photographer: Jin Lee/Bloomberg

Jim Chanos, who oversees about $6 billion as the founder and president at Kynikos Associates Ltd., is finding companies to bet against as the U.S. stock market heads for the biggest rally in three years.

The 54-year-old money manager who rose to fame shorting Enron Corp. before its collapse predicts declines in companies that may be inexpensive compared with earnings. Even as the U.S. economy recovers and profits approach record highs, Chanos is finding so-called value traps in natural gas companies, iron-ore producers, Hewlett-Packard Co. and Coinstar Inc.

“A number of high-profile natural gas companies may end up in financial difficulty as early as next year,” he said, declining to give any company names. For Hewlett Packard, “It’s very difficult in the technology space when you have been leapfrogged to prosper again,” he said during a Sept. 11 interview at Bloomberg headquarters in New York.

With the Standard & Poor’s 500 Index trading 11 percent below its average valuation since the 1950s, Chanos is trying to identify companies that are likely to fall even as the economy improves. He declined to provide performance data for his funds. The S&P 500 (SPX) has rallied 16 percent in 2012 and is poised for the biggest annual gain since 2009.

Gross domestic product in the U.S. is forecast to increase 2.2 percent this year while earnings in the S&P 500 may reach $103.53 a share, the most ever, according to the average of analyst estimates compiled by Bloomberg.

‘Better Shape’

“Our economy and our banking system are in better shape than others,” Chanos said. “The surprises will probably be on the positive side in the U.S. market. I don’t think that necessarily helps someone like a Coinstar or Hewlett-Packard.”

The S&P 500 Oil & Gas Exploration & Production Index, which includes companies such as Chesapeake Energy Corp. (CHK:US) and Devon Energy Corp., has risen 5 percent this year, about a third of the advance in the S&P 500. Since 2009, its price-earnings ratio has shrunk to 12.9 from 54.

Shares of Chesapeake, the second-largest U.S. gas producer, have lost 37 percent in the past year as a slump in gas prices squeezed cash flow and forced Chief Executive Officer Aubrey McClendon to accelerate asset sales. The stock was battered amid two federal probes of potential conflicts between the CEO’s personal financial transactions and corporate duties.

Job Cuts

Exco Resources Inc. (XCO:US) wrote down the value of its gas fields by $429 million in July amid dwindling prices for the fuel. The company’s output is 98 percent natural gas, according to data compiled by Bloomberg, and its shares have fallen 30 percent this year.

Michael Kehs, a Chesapeake spokesman, declined to comment. Douglas H. Miller, Exco’s chairman, and Stephen F. Smith, the company’s president, did not return calls seeking for comment.

Natural gas prices in New York trading have averaged $2.57 per million Btu this year, the lowest since 1999. Prices reached a record high of $15.78 per million Btu in December 2005.

“These companies have enormous cash needs,” Chanos said, who tries to profit by selling borrowed shares and replacing them after they fall. “One intriguing trade might be to be long natural gas and short some of the leveraged natural-gas companies.”

PC Earnings

Earnings for personal-computer makers are being hurt by consumers and businesses favoring tablets such as Apple Inc. (AAPL:US)’s iPad. Hewlett-Packard, which reported a record loss on Aug. 23, has posted four quarters of declining sales on weaker demand.

Shares of the Palo Alto, California-based company have tumbled 29 percent this year. HP (HPQ:US) trades at a forward price-to- earnings ratio of 4.3, down from 10.45 in 2009. The company is a “value trap,” according to Chanos, who’s shorting the stock.

“Hewlett-Packard finds itself in that difficult position today, having to make pricey and risky acquisitions, just to stop itself from shrinking,” he said.

Former Chief Executive Officer Mark Hurd pushed into enterprise services with the $13.2 billion purchase of Electronic Data Systems Corp. in 2008. The company said last month that it would write down the value of its enterprise- services business by $8 billion.

“HP is better aligning our cost structure with our revenue profile to invest in innovation and quality, and ultimately deliver better returns to shareholders,” HP’s spokesman Michael Thacker wrote in an e-mail.

Coinstar Inc., operator of the Redbox movie-rental kiosks, is also among Chanos’s bearish bets as he says its business is reaching a saturation point.

Missing Estimates

Coinstar shares have tumbled 28 percent from this year’s high on July 5. The owner of the Redbox movie-rental kiosks reported second-quarter revenue growth that missed analysts’ estimates and said last month that Gregg Kaplan, the company’s president and interim chief of the Redbox DVD rental unit, plans to leave in March.

“Coinstar Inc. (CSTR:US) management is optimistic about the future of its businesses and ongoing growth opportunities,” Marci Maule, a Coinstar spokeswoman, wrote in an e-mail. “We do not comment on the views or opinions of investors.”

Bets related to China in Kynikos’s global short fund make up about 20 percent of its roughly 100 positions, he said. China’s economy grew 7.6 percent in the second quarter, the slowest pace in three years, as Europe’s debt crisis limited exports and property curbs damped domestic demand.

‘Very Good’

“China has been a very good place to be short stocks for the past three years,” he said. “People are increasingly taking a closer look at the Chinese banking system. The questions being asked are getting more granular.”

Australian iron-ore producer Fortescue Metals Group Ltd. (FMG) is also among Chanos’s shorts. He said industry capacity is going to expand globally even as demand stalls because of China’s slowdown. Iron-ore prices have fallen 29 percent this year through Sept. 12, trading at $98.1 a metric ton, according to The Steel Index Ltd.

Yvonne Ball, a spokeswoman for Fortescue, didn’t respond to an e-mail or phone call seeking for comment.

“As much as I like the story on the short side, there’s lots of things to do globally and we don’t want to be just short China,” Chanos said.

To contact the reporter on this story: Rita Nazareth in New York at rnazareth@bloomberg.net

To contact the editor responsible for this story: Lynn Thomasson at lthomasson@bloomberg.net


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Companies Mentioned

  • CHK
    (Chesapeake Energy Corp)
    • $27.2 USD
    • 0.22
    • 0.81%
  • XCO
    (EXCO Resources Inc)
    • $4.83 USD
    • 0.11
    • 2.28%
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