For those unfamiliar, Situational Awareness is (was?) a buzzy hedge fund that called the AI trade basically perfectly last summer. They rode that call to unbelievable returns; I think the reporting is they were up something like 500% in the first half of the year (and I don’t say 500% as a loose number to say they were up a lot; I believe the reporting is they were up literally almost 500%). However, as the AI and momentum trade have suffered a rough July, Situational Awareness appears to have been caught in the crosshairs. There were online rumors1 that they were down ~30% YTD, which would imply they drew down 85-90% from the peak (and in a very short time frame).

There’s plenty of reporting2 to do on the implosion of the fund, and there will be plenty of schadenfreude from people celebrating Situational Awareness’s (seeming?) demise…. and I’ll admit it’s hard not to have a little schadenfreude at someone in their mid-20s with no investing experience starting a fund and generating legendary returns3 and then imploding because they couldn’t manage risk.

But I’ll leave the reporting and schadenfreude to someone else. I wanted to talk about two intertwined angles to the Situational blowup that I can’t get out of my head: the opportunity (or lack thereof) angle, and the bubble / capital allocation angle.

Let’s start with the opportunity angle. As investors, there is nothing better than a forced seller for a very simple reason that is literally in the name: forced sellers are forced to sell at basically any price to someone who can give them liquidity. However, finding forced sellers is devilishly hard; sellers know that they’ll get destroyed if people realize they’re forced to sell, so they don’t exactly go around emailing everyone saying “we desperately need liquidity; we’ll take whatever you bid but you have to bid right now.”

Pretty much the only time you know there’s a forced seller on the other end is when it’s a big fund that’s getting margin called somewhat publicly. Unfortunately for us, Situational Awareness seems to have done a good job of keeping their liquidity problems private; if you look at some of their chunkier positions (SNDK, BE, NBIS), they were moving in lockstep over the past few days and had huge bounces today on the unwind news, so while the prices are down a little it’s hard to point to a massive dislocation.

That said, while the price dislocation in the past few days was reasonably contained given the level of blowup, a lot of these are still down massively over the past month or two. Even with today’s big pop, most of these are down 30-40% over the past month:

And it’s not just Situational driving that big sell off; a Goldman note apparently estimated there were 1.2m margin calls in South Korea over the past month, meaning a not insignificant percentage of the adult population got hit with a margin call (it works out to ~3% of the adult population, but if you assume that the average person trading on margin is overwhelmingly likely to be a male in their 20s or 30s, I think there’s a possibility that >10% of South Koreans in the target demographic got hit with margin calls).

So you’ve got a whole sector getting swamped by margin calls and forced sales. The trader in me sees that and thinks “o man, I’ve got to buy and be on the other side of that!” because there will be a big snap back once the margin calls are finished.

Maybe! But here’s where I think some history is interesting. What you have in Situational + the Korean margin calls is a giant sector unwind leading to liquidations. These types of setups are pretty rare; the last one of these I can remember was when Archegos blew up and took down the media space and some Chinese internet stocks with them.

If you had asked me on the heels of the Archegos implosion, I would have guessed that every one of the stocks Archegos had been forced out of was an opportunity. While Archegos was a little smaller than Situational is today, Archegos was much more concentrated in much smaller stocks. So Situational owned like 2-3% of stocks like NBIS and BE, while Archegos owned 10%+ of stocks like WBD and PSKY (then ViacomCBS and Discovery)…. and often more ownership on an effective float basis given large controlling shareholders! Anytime you have a 10%+ shareholder getting blown out of a stock, I’d guess there’s opportunity!

And I would have guessed wrong! Below is a chart of the majority of Archegos’s holdings when it blew up; you can see that not only did all of them fall precipitously when Archegos was liquidated in early 2021…. but they all kept falling in the weeks and months and even years after. Despite a strongly rising market, basically every one of those stocks is well below the price Archegos got when it was margin called.

That’s strange, no? If you had told me that there was a stock with a big forced seller, I would have guessed that the company’s stock was crazy weak leading into the big sale, but then rebounded as time passed and supply / demand got more equal. I’d also guess that a stock with forced selling would outperform the market from the forced selling driven bottom. Archegos is very different; you have several different companies in different industries that are all underperforming even after a massive dislocation event!

That brings me to the second point: bubbles and capital allocation. Markets are designed to send pricing signals. Prices go up, rational actors respond to incentives and create more of that thing, and thus demand equals supply. When oil prices go up, oil stocks go up, oil companies can issue stock to go look for more oil, and eventually the world gets more oil.

Bubbles represent a misallocation of capital. The market is super hot for some sector or theme, it sends a pricing signal to fund lots of that thing…. and then it turns out that we overbuild whatever that pricing signal was pointing at. A great example of this is the digital asset treasury (DAT) trade from last year: the market was pricing any and every DAT at a premium to NAV, so tons of small companies pivoted to become DAT companies. That turned out to be a horrific allocation of capital and now all the DATs trade at a discount to NAV (with one exception!).

Generally, bubbles happen because of some mania…. but what happens if a sector wide bubble is caused by one fund levering up and doubling down on a specific bet?

I am not saying that’s what happened with Situational…. but I’m also not not saying that!

Go back to Archegos a few years ago. With the benefit of hindsight, it’s clear that they squeezed the stock prices of the companies they owned…. but it was not clear in real time. You can go look at what they were saying at the time; Viacom was talking about the stock run up just being “The market recognizing our potential as a global streaming powerhouse.” Viacom used that stock run up as a signal and raised ~$3b to invest even more heavily into streaming.

Now consider Situational Awareness. Almost every company they were invested in over the past few months saw their stock prices scream higher. At the time, we thought the price movement reflected the endless demand and bottlenecks from the AI buildout, and to some extent it probably was/is! But some of that squeeze was almost certainly Situational doubling down (plus everyone rushing to front run or clone Situational’s book).

Many of Situational’s investments raised a lot of capital over the past few months. SHAZ raised $1.6b in June. NBIS raised $4b in March. And even if they weren’t raising equity (or convert) capital on the open market, many of them were raising project financing that was in part supported by their stock price (or perhaps supported by the stock price and equity financing of the customers they were building the project for!).

If you go read the earnings calls for any of the hyperscalers, they’ll talk about how their massive investments in AI are backstopped not just by the ROI they’re seeing on their internal projects but also the massive demand / offers they have from third parties to buy their compute and power… and I can’t help but wonder if a lot of that demand came from stock prices that were, in some part, inflated by Situational Awareness.

I’m not saying AI is a bubble, or any of these gains aren’t real…. but it is kind of funny to think that there’s a world where a few years from now people look back and say “damn, that tiny little hedge fund managed to inflate an entire AI bubble / cause hyperscalers to commit to literally trillions in investments that there was no end demand for.”

PS- a lot of people have suggested to me that LTCM (of When Genius Failed) has parallels here. There are certainly some similarities (smartest guys in the room blow up with too much leverage), but LTCM was much more a macro fund that was really levered up on quant trades. It did almost bring down some banks given its leverage, but I don’t think it had huge impacts on specific stocks or sectors. In contrast, Archegos and Situational both really helped companies / sectors squeeze, but they didn’t really represent contagion risk to the overall economy….. so I think they fit together much better.

(Note: Below are five bullets I try to start every write up with as I think they help frame ideas / thinki…

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This podcast is sponsored by AlphaSense.

Most AI tools are very good at sounding right; the summary is clean, but can you trace it back to the filing, the transcript, the exact passage that drove the answer? AlphaSense owns the content (over 500 million curated documents, from broker research and expert transcripts to filings and earnings calls) and the retrieval layer on top of it, so every answer links back to an exact, verifiable source.

Learn more at alpha-sense.com/YAVP.

Please follow the podcast on Spotify, iTunes, or YouTube! And please be sure to rate / review the podcast if you enjoy it, or share it with someone else who would enjoy it (more listeners is a critical part of the flywheel that keeps this Substack and podcast going!).

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Transcript for paid subs begins below (The initial transcript is AI-generated and is replaced with a professionally edited version when available)

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Football has a lot of things going for it that make it perfect for a TV broadcast (natural commercial breaks, scoring plays that are rare enough that games are naturally tense, etc.), but one of the big things is how much strategy there is. On any given play, each team is making countless strategic decisions: run or pass? Shotgun or under center? Four wideouts or two? And there is no perfect answer; the right decision on any given play is impacted by endless factors (time left in the game, score, personnel, what the other team is doing, etc.).

That strategic variety doesn’t just make for entertaining games; it creates natural storylines and discourse, so much so that there’s a name for second guessing a team’s strategy after the game (Monday Morning Quarterback).

Contrast football to, say, chess. Chess can be a lot of fun, but there’s just not a lot of discussion. The number of moves is limited, and there’s always an “optimal” move (or a few optimal moves). You wouldn’t suddenly start moving your king erratically because the game situation demanded it or something.

Investing is a lot like football in that way. Because we’re dealing with a lot of unknowns and the real world, there are no “optimal” moves. Do you want to buy great companies that are growing quickly? Sure! But price matters; Microsoft is a great company, but if you had bought them in early 2000 it would have taken you almost 15 years just to break even on your investment! It’s not like MSFT performed poorly as a business over that time; revenue grew ~10% annually and EPS compounded high single digits from 2000-20152, but it takes much more to grow into the ~70x P/E that Microsoft started the century with!

Anyway, the reason I’m writing this post is because over on Value Investors Club (VIC) someone put up a message titled “it’s the jockey, stupid” that noted they were a value investor and their biggest mistake over the years had been passing on businesses with good “jockeys” because the price was too high only to watch the business outperform as the good manager continually beat expectations. That post created a (somewhat) lively debate: some people suggested price matters, others suggested it’s better to focus on good businesses versus good management or good prices (one snarkily posted “it’s the business, stupid”), while still others chimed in suggesting focusing on founders3.

Again, nothing is guaranteed in investing. The answer to “low price versus great management versus good business quality” is generally “it depends.” How low is the price4? Something trading at 5x earnings is generally pretty cheap…. something trading at 0.5x earnings is much cheaper! How great is the management team? There’s a difference between having Steve Jobs (perhaps the GOAT CEO for his AAPL turnaround) and Eric Schmidt (who did a fantastic job at Google, but isn’t on anyone’s Mount Rushmore for CEOs). How great is the business? Home Depot is a very good business, but it’s got nothing on Google Search (the core business).

So all of those variables matter…. but industry context matters too! If you offered me the choice between a coal business run by a C+ CEO at 10x earnings and a similar coal business run by an A CEO at 50x earnings, I’m taking the cheaper one, no question (though, given we’re talking coal companies, I’d also be wondering why the multiples were so high!). That’s probably the right decision; Warren Buffett himself coined the line, “When a management with a reputation for brilliance tackles a business with a reputation for bad economics, it is the reputation of the business that remains intact,” so if you’re buying a commodity business like coal you probably just want absolute cheapness…. but switch from a coal business to a tech company, and I’m taking the more expensive business with the best management every time. Tech evolves so quickly and has such fat tails that the manager probably matters more; there’s a reason Myspace is basically defunct while Facebook is a giant today and and his name is Mark Zuckerberg.

So tech is a place where management matters more, right? Perhaps! But it’s interesting that the “tech at 50x earnings” example I laid out is basically MSFT in early 2000, and that didn’t exactly work out well. It’s also worth noting there are plenty of examples where brilliant management stepped into a tech business and failed anyway; Marissa Mayer was about as star a hire as Yahoo could have made, and all that talent couldn’t outrun the decline of the core business. And it’s not just tech! Ron Johnson looked like a genius building out the Apple Stores, and then he took over JCPenney and nearly ran the whole thing into the ground in under two years. When can a brilliant management outrun the yoke of a bad or declining business?

On the flipside, Buffett said business outweighs management…. but then how do you account for Elon Musk? Historically, you would have been better off literally lighting your money on fire than trying to do a start-up rocket or car company. Why? Because all of them would involve you losing all your money, but at least if you lit it on fire you’d do it quickly and save yourself the time and heartbreak of trying to build a business that lit all the money on fire anyway. But neither those base rates nor valuation mattered for Elon Musk… so is Elon just the exception that proves the rule?

Charlie Munger once noted that what made the market so difficult is it effectively operated on a pari-mutuel system (the better the horse looks, the worse the odds you get; in investing, the great jockey and the great business come with the price already marked up), but what’s so interesting is that the market offers you the ability to trade off so many different levers against each other. If you increase the “management” lever and demand better management, you generally pay a higher price. Ditto business quality.

So how do you decide which lever to push and how hard to push them against the others?

I’ll end this article the way I end so many of my articles: I have no good answers here! But that VIC post has wormed its way into my head and I’ve been thinking about it a lot, and I wanted to share those thoughts with you!

Second, please remember you can always reach out to me if you have questions or want to swap thoughts on any…

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This podcast is sponsored by AlphaSense.

Most AI tools are very good at sounding right; the summary is clean, but can you trace it back to the filing, the transcript, the exact passage that drove the answer? AlphaSense owns the content (over 500 million curated documents, from broker research and expert transcripts to filings and earnings calls) and the retrieval layer on top of it, so every answer links back to an exact, verifiable source.

Learn more at alpha-sense.com/YAVP.

Please follow the podcast on Spotify, iTunes, or YouTube! And please be sure to rate / review the podcast if you enjoy it, or share it with someone else who would enjoy it (more listeners is a critical part of the flywheel that keeps this Substack and podcast going!).

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Transcript for paid subs begins below (The initial transcript is AI-generated and is replaced with a professionally edited version when available)

Disclaimer: Nothing on this podcast or on this blog is investing or financial advice; please see our full disclaimer here. The transcript below is from a third party transcription service; it’s entirely possible there are some errors in the transcript.

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My style of investing leans heavily event / catalyst driven, and I sometimes worry I can be like that dog. If a certain situation or setup works for me the first time I’ll do it, I’ll get super excited every time I see it, and I worry that I’m getting excited not because the setup is actually edgy or actionable but because I “found a blueberry muffin” and got blessed by random noise / pure luck.

Now, I do hope I’m a little smarter than the dog, and if I do a situation once and “find a blueberry muffin there” (have good results) but then strike out ten times in a row after that, I think I’ll be able to course correct and realize I probably got lucky that first time rather than get excited about it for the rest of my life… but, even with that course correction, it can be a painful (and expensive) lesson to go looking for a muffin and come up empty ten times in a row!

A few areas that I’ve historically been really into but have gotten less interested after one or two initial successes and then multiple repeated losses in a row have been legal special sits, distressed equities, and levered buybacks. It’s funny I say “gotten less interested” in all three of those, because I am still very interested in all and actively looking at all of them and am currently invested in a few…. but a few years ago these were pretty much all I looked at and invested in, and today my bar for them is just much, much higher than it used to be because I’ve been hurt so many times.

Anyway, I write all of that because I just listed three buckets of historical interest (levered buybacks, distressed equities, legal special sits) and, depending on when you bought the stock, you could have gotten any of those interests filled by buying QVC (the old QRTEA). Yesterday, QVC had their bankruptcy plan confirmed, and the confirmation brought up some very old scars and a lot of questions for me, so I wanted to throw some thoughts down to deal with some old trauma.

Some quick background will be helpful: after years of struggling, QVC filed for bankruptcy in April. The plan, as filed, wiped out all equity (common and preferred); that might sound typical for a bankruptcy, but QVC had a holdco structure with no debt at the holdco and hundreds of millions of assets at the holdco. This slide (from QVC’s day 1 BK pres) lays it out well; the prefs sit at the blue “QVC group” box that had no liabilities in front of them.

Given that structure, it seems like the prefs should have been entitled to a significant recovery (in the slide below, the prefs argued they should have gotten ~24% of face as recovery)…..

…but QVC’s bankruptcy instead allowed the operating company (where all the debt sat) to raid the holdco for assets and zero out the prefs. As my buddy century egg said, the prefs got screwed. However, prefs had one last hope: a group of them got together and protested the original plan, demanding that the prefs get the assets they were rightly entitled to. That hope had sent the prefs rallying…. until yesterday, when the court approved the original plan that zeroed out the preferreds. This was a pretty shocking turn; the preferreds had been trading >$5/share and dropped ~90% on the news. Absent a successful appeal (a long shot), they’re worthless.

The purpose of this article isn’t to recap the case or the ruling (though I will bias you and tell you I think it’s an abysmal decision; I will also admit my own bias because I had a lot of friends who were involved in the prefs, and I generally think their work here was very, very good (here’s a nice VIC write up with more background on the situation and set up if interested)). The ruling and the whole preferred saga have taken up a lot of my headspace over the past few months; the purpose of this article was just to get some of those thoughts out of my head in the hopes that you’d find them interesting / they might teach you something / they might make the voices in my head go away.

I’ve followed QVC for a long time, but over the past year I’d been monitoring it because I knew of the holdco structure and thought the preferreds could get interesting. On the day the company filed, the prefs puked and I started to nibble at shares (I believe I bought like 1k shares at ~$1/share)… but I kept thinking to myself “Andrew, this is a legal / distressed angle; do you really have edge or are you just a dog going back to his muffin spot?” I quickly sold the stock on the theory that I didn’t have edge here, and I stayed out of it from some combination of the “is this really your wheelhouse” question and some version of “QVC is paying their lawyers a hell of a lot of money; can this really be this big of a slam dunk if all of these high priced lawyers think they’ll get away with it?”

I then watched in horror as the prefs moved from ~$2/share to >$5/share in short order:

So here are the things that have been kind of floating through my head on QVC:

1. Given the outcome here, was I right to pass at $1-2/share? Or is that resulting; the stock went to $5/share in short order… there’s nothing that says you need to hold forever, and you can buy an option too cheap and cash it in when it’s fairly valued without waiting to see if it pays off or not. Given the massive asset value at the holdco and some shot of playing spoiler in the bankruptcy, isn’t it clear the option was too cheap right when the bankruptcy filing happened? Isn’t my pass inexcusable given that? Or does the outcome justify the pass?

   1. As I go to write this, the preferreds are trading for ~$0.50/share. Even after the plan has been confirmed that zeroes them out, they have some value simply because of the appeal optionality (though, again, that’s a long shot). If that’s not an argument that the prefs were undervalued on the day of the bankruptcy filing just on optionality alone, I don’t know what is!

2. On a pure fairness basis, it’s hard to argue that the prefs were treated correctly here. But fairness doesn’t really apply in law; contract terms, precedent, jurisdiction, etc. are what matter. Those are all very specific things, and often investors on the outside don’t have the full information on them; some of them are provided to public investors, but some of them will be kept redacted or under seal. Given that knowledge gap, can an investor ever really have an edge in a legal situation? Is the answer the same for a non-lawyer (like me!) and a lawyer who should have some special skills in these areas? Honestly, I don’t know! Sample sizes are very small here; it’s very easy to make a massive return on one legal investment and think you’re a genius, but perhaps the dice just came up your way that time. Markets are insanely competitive; even if you’re a very good lawyer, why should your edge be large enough over 100 other very good lawyers to make continued alpha in legal sits?

   1. To bring this back to the title of this post: there’s an old poker saying that if you can’t figure out who the patsy at the table is, it’s you. Every investor’s worst fear is being the patsy at the poker table. Distressed and legal situations seem so compelling because they are so idiosyncratic and the rewards to getting them right can be so high…. but they’re also very easy places to be the patsy at the poker table. Can you avoid being the patsy as an individual investor without a team of high priced lawyers? Can you avoid being the patsy if you have a team of high priced lawyers on the case? I’m not sure on either!

I’ll end this post the way I end so many posts: I don’t know the answers here. In fact, I realize this post is a little rambling / all over the place! But I was shocked by the QVC ruling, and I’ve been thinking about it a lot recently. Writing can be therapeutic, and I figured it was a win/win if writing this helped me get a lot of these thoughts out of my head while providing you (the reader) with a (hopefully!) interesting case study of a quirky event as well as some thoughts to chew on!

This podcast is sponsored by AlphaSense.

Most AI tools are very good at sounding right; the summary is clean, but can you trace it back to the filing, the transcript, the exact passage that drove the answer? AlphaSense owns the content (over 500 million curated documents, from broker research and expert transcripts to filings and earnings calls) and the retrieval layer on top of it, so every answer links back to an exact, verifiable source.

Learn more at alpha-sense.com/YAVP.

Please follow the podcast on Spotify, iTunes, or YouTube! And please be sure to rate / review the podcast if you enjoy it, or share it with someone else who would enjoy it (more listeners is a critical part of the flywheel that keeps this Substack and podcast going!).

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Transcript for paid subs begins below (The initial transcript is AI-generated and is replaced with a professionally edited version when available)

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This week, I saw perhaps the strangest “dark arts” filing ever: DMRC put out an 8-K that gives their incoming CEO a shot at a >$40m payday if the stock roughly 5x’s over the next four years.... and, a few paragraphs later, discloses substantial doubt about the company’s ability to continue as a going concern. I instantly texted it to my buddy Tarot Capital (Tarot does awesome work on corporate governance setups if you’re looking for someone other than me to follow in the space!), and I’ve been thinking about it for two days straight, so I needed to put some pen to paper.

So how did we get here? In June, DMRC announced that they’d hired a new CEO. It seemed like a great hire; the press release notes the CEO turned his last company into a “Rule of 50” company, DMRC’s chair gave a ton of glowing quotes about the new CEO, and the old CEO would remain on the board1.

However, buried within the 8-K announcing the new CEO were some interesting items. First, the company noted they’d established an “at the market” (ATM) offering of their common stock. ATM offerings are never a good sign for a stock (at least in my opinion!)….. but more concerning was that the bottom of the 8-K disclosed a customer “exercising a contractual right to terminate two of its contracted projects with the Company, effective June 16, 2026, due to a change in requirements imposed by its government end-customer.” These projects represented $2.7m in ARR2, a not insignificant amount given DMRC reported $15m in ARR in their March quarter!

So you’ve got a company with a new CEO incoming and a history of maybe quietly burying bad news inside unrelated 8-Ks….. which sets the stage nicely for DMRC’s July 6th 8-K. On the surface, it appears benign, as it simply announces the new CEO officially stepping into the job. However, the fine print here carries a lot of weight, as buried in the 8-K are:

• The terms of the new CEO’s PSUs, which have the potential to be very juicy… if the stock goes up a lot

• A disclosure that the company believes its cash “will not be sufficient to fund the Company’s operations,” and that “substantial doubt exists about the Company’s ability to continue as a going concern.”

That is just a wild combination. I don’t think I’ve ever seen an 8-K that expresses so much bullishness on the top end alongside a possible going concern warning! And the mechanics make it even better: the 8-K notes the going concern disclosure is being made in connection with the company’s S-3 and S-8 registration statements. In other words, DMRC had to admit substantial doubt about their ability to survive in order to register the shares underlying the new CEO’s moonshot grant (and to keep selling stock on their ATM)!

The going concern warning explains the bearish side all by itself, so let’s quickly dive into the CEO’s pay package to see the bullish side of things.

If you go back to the early June 8-K, you can see the CEO will make $500k/year in salary with a target bonus equal to his salary. So call it $1m/year in target cash comp. He also got ~300k shares that vest over the next four years (DMRC’s stock closed that day at ~$13.50/share, so at grant this was worth >$4m if they vested), and up to ~750k more shares that vest “on achievement of certain stock price goals.”

The July 8-K laid out the stock price targets; a table will probably show them best:

DMRC’s stock closed at ~$7.65/share on July 6th (the day the 8-K was filed), so those targets were wildly aggressive. You’re talking ~40% IRR to hit the 2028 and 2029 tranches, while the 2030 tranches would require the stock to do ~50% IRR and go up ~5x over the next four years!

Now, you could argue that DMRC’s stock has been on a bit of a roller coaster:

So perhaps DMRC and the new CEO were negotiating when the stock was in the teens in early June and thus the targets didn’t look quite that aggressive at the time, and they just didn’t readjust the targets for the new (lower) share price when he joined. There certainly could be something to that…. but I’d push back and note that even from a mid-teens share price the 2030 tranche still requires the stock to perform extraordinarily well (~30% annualized over 4 years; a ~3x in that time frame).

More importantly, I’d just note the sheer size of the upside… if the CEO could hit those share price targets, he’d be richly rewarded. Including the time-based vesting shares, his contract would have him earn >1m shares, resulting in a >$40m payday. All equity awards need to be put in perspective, but I mentioned at the top that the CEO would make ~$1m/year in cash comp. With a $40m payday on the line, I think it’s fair to say this is a contract that puts a heavy emphasis on getting the stock price higher!

Which is why this is such a strange contract / 8-K. The CEO is signing on for basically parabolic upside on the equity (again, the stock needs to 5x within four years for him to hit the top end payouts!), but he’s stepping into a company that’s filing a going concern warning? That’s quite the paradox!

What’s going to happen here? I have no idea. Could DMRC just be facing a short term liquidity crunch but the long term upside the CEO signed up for is still very much there? Sure! Could the CEO have been sold a bill of goods and be stepping into an epic disaster? Also sure! I’m no expert on the company…. but I have spent a lot of time on corporate incentives, and I don’t think I’ve ever seen one where the upside executives are playing for so clearly diverges from the short term realities of the financials.

This podcast is sponsored by fiscal.ai

Fiscal AI is a modern data terminal built for investors who want an institutional-grade platform without the complexity. I use Fiscal AI to research my holdings, find new investment ideas, and deepen my analysis. It’s fast, intuitive, and has genuinely helped my research process. Check it out at fiscal.ai/yav —for two weeks free, plus 15% off any of their paid plans.

Please follow the podcast on Spotify, iTunes, or YouTube! And please be sure to rate / review the podcast if you enjoy it, or share it with someone else who would enjoy it (more listeners is a critical part of the flywheel that keeps this Substack and podcast going!).

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Transcript for paid subs begins below (The initial transcript is AI-generated and is replaced with a professionally edited version when available)

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I kind of feel that way about Strategy (MSTR; disclosure: I have a small MSTR short, but am long several of their preferreds as well as IBIT against it). It seems clear to me that the entire capital structure is, to put it politely, royally screwed, and that the stock is broken…. yet the company continues to defy gravity and trade above NAV. I recently wrote a post about things that will be “obvious” in a few years; it seems “obvious” to me that in a few years MSTR will trade at a large discount to NAV and we’ll all wonder why it traded at a premium when it had so clearly already broken.

Let me start with the proximate reason for this post; on Monday, MSTR filed an 8-K noting they’d sold ~$216m in BTC over the past ~10 days.

Now, that’s a small amount of selling versus MSTR’s holdings of ~$64B in BTC, so you might be wondering what the big deal is.

Well, MSTR took that money and parked it on their balance sheet; they now have ~$2.55B in a “USD reserve”. That USD reserve is intended to support MSTR’s prefs and debt. There’s ~$22B of prefs + debt outstanding, so MSTR is supporting their prefs + debt with >10% cash coverage.

I have done distressed investing before. When a company needs to keep 10% of their debt on the balance sheet as cash, it is not a good thing. That’s a sign lenders really don’t trust the company. And you can see that in the price of MSTR’s preferreds: STRD (MSTR’s most junior preferreds) trade for ~60% of face value.

So, on the one hand, you have the preferred market that’s massively skeptical of MSTR. On the other hand, you have MSTR still trading for a premium to NAV.

Now, MSTR is only trading at an ~8% premium to NAV. You might wonder why a mere 8% premium to NAV gets me fired up enough to write a full blog post comparing myself to a prophet on the hero’s journey.

The answer is (aside from me admittedly being a little excitable in general) that it just seems insane to me. Every rationale for owning MSTR seems dead at this point.

• Did you own MSTR to get bitcoin exposure? A few years ago, that made some sense as it wasn’t easy to buy bitcoin. Today, that argument is insane; you can buy bitcoin in a few seconds with basically any brokerage account, or you can buy a bitcoin ETF like IBIT.

• Did you own MSTR because DATs (digital asset treasury companies) are the future? A year ago, there were a ton of DATs getting raised, and all traded at big premiums to NAV. I was hyper skeptical, and I think that skepticism has proven accurate: today, basically all of the DATs trade at a discount; MSTR is pretty much the only one I’m aware of that trades above NAV.

• Did you own MSTR for the “amplification” (leverage)? MSTR has frequently made the argument that you should own them because they provide bitcoin amplification. Basically, because they raise debt and prefs to buy bitcoin, they provide investors with amplified returns. I’ve always thought this argument fails because investors can leverage bitcoin on their own if they choose, but I think this argument is dead now too…. MSTR just sold down bitcoin to raise cash. Amplification (and bitcoin per share) is coming down!

• Did you own MSTR for their trading acumen? Saylor was crazy early in spotting the opportunity in bitcoin; perhaps you owned MSTR because you wanted them to trade bitcoin (kind of like buying into a macro fund2). MSTR’s cost basis in bitcoin is >$75k, and they took out leverage to buy bitcoin up there. They’re currently selling bitcoin at ~$60k. That’s buy high / sell low if I’ve ever seen it; not exactly the stuff trading legends are made of.

• Did you own MSTR for their brilliant investor decks? Honestly, this one is still alive. MSTR’s decks are only rivaled by SoftBank’s for their sheer audacity and creativity. It’s hard for me to call out just one of their tweets3 / slides as particularly awesome, but there is something about comparing the BTC behind all of their different prefs (which often trade well below par!) to the BTC behind IBIT that strikes me as just particularly creative / audacious.

Altogether, it just seems kind of crazy to me. If I told you that there was a pile of liquid assets sitting around in a controlled company (Saylor has close to effective control of MSTR through super voting stock) with a management team that had a history of pro-cyclical trading (buying and levering up as the asset went up; selling and delevering as the asset went down) and with a bungled capital structure where some pieces of it were yielding >15% (again, STRD is trading just over 60% of face and with a >16% current yield), what would you guess it traded at?

I’d probably guess 70% of NAV, but I could go as low as 50% or as high as 90%.

There’s no world where I could see that company trading for a premium. Heck, unless the company had suggested they were open to liquidation, there’s no way I could see them trading around NAV.

Yet that’s where we are with MSTR4.

Is it just me, or has the world gone crazy5?

But of all the things I love about the stock market, perhaps my three favorite things are insider incentives (so much so that I just finished a whole 12-part series on the corporate dark arts insiders can use to enrich themselves when their stock is cheap!), quirky situations, and the Liberty complex.

So, try as I might, I just couldn’t hold off on writing about the current quirky situation that’s happening over at LILAK. It’s just too fascinating not to! The setup involves an abandoned related party deal, a distribution of preferred stock, some massive insider buying.... and an eerie rhyme with a Malone deal that just ended in bankruptcy court. On top of the fascinating setup, I think the LILAK situation raises some interesting questions. Namely, if insiders have been consistently bullish and wrong for years, is there ever a time you can trust their bullish signals?

But I’m getting ahead of myself with that question. Let’s rewind and set the stage for the situation.

The LILAK story itself dates back years. It’s one of the greatest widow makers / fund killers of small cap value and event investors over the past two decades. I know it seems crazy to say now given what the stocks have done over the past five years, but investors used to like both the cable business model and John Malone. LILAK offered investors a pure play on emerging markets telecom in a John Malone vehicle with a long growth runway. On top of all that…. LILAK was a spinoff! Toss all of that together and it seemed like a no-brainer idea at the time; instead, it’s been a complete death trap.

But I’ll refer you to some past writing for more background. For the purposes of this post, the story starts in early May. That’s when GCI Liberty (another Malone vehicle!) announced plans to buy >$100m in LILAK stock (~6% of the company) from Searchlight for $8.63/share. In addition, GCI was in “good faith” discussions to exchange Malone’s LILAK shares (including the super voting class B shares Malone owned) for GCI common stock.

This was an insane transaction on a host of levels. To start, let me just show you a map:

Who looks at that map and thinks a merger is a good idea (even ignoring the cross border complexities)?

But, on top of the obvious lack of geographic fit, the deal itself carried several issues. First, GCI was buying a huge slug of stock from Searchlight for $8.63/share. The (potential) transaction was announced on May 6th, when LILAK’s stock was trading ~$8/share. Generally, a seller with a block that big of non-voting stock would need to take a big discount to unload it. Why was GCI instead paying a premium to buy out a block of non-voting (or low vote) shares from Searchlight?

Then there was the Malone factor of the whole thing. Malone controls both LILAK and GCI; I’m not sure how shareholders could look at GCI paying a premium to take out Searchlight, see Malone negotiating directly with GCI to swap stock, and think that GCI would get the better side of whatever deal was struck. It’s worth noting that one of the original sins of LILAK was buying CWC at a big multiple in 2016; Malone was on both sides of that transaction too, and it’d result in LILAK taking hundreds of millions of impairments on the acquired assets over the next few years.

There were some other issues with the deal, but those were the major ones. And the market instantly hated the deal; GCI stock was down ~35% on the month… and that’s despite GCI cancelling the whole transaction a few days later.

Here’s where things get interesting; again, the market hated the GCI / LILAK deal, so a few days later GCI reverses it completely by selling the LILAK shares they purchased from Searchlight to Malone at the same price they paid for them. No harm, no foul I suppose (other than the fact GCI investors now aren’t sure if they can trust the company and the stock is down more than a third!).

Now, alongside the announcement of the GCI deal (and their Q1 earnings), LILAK had announced an intention to distribute a set of preferred stock to shareholders. A week after the GCI deal was reversed, LILAK confirmed they were dividending out pref shares and noted that all of their key execs (Malone, Exec Chair Mike Fries, CEO Balan Nair) intended to be long term shareholders of the preferred stock. The prefs were officially paid out on June 17th.

The next day, LILAK’s CEO spends ~$1m buying both common and preferred stock. A director joins him with a ~$500k buy. The next week, another director buys $200k of stock, and John Malone buys >$10m of common plus >$20m of preferred stock. The whole thing wraps up with the CLO buying ~$100k of prefs:

That is a wild amount of insider buying, and the excitement has driven LILAK’s stock much higher. LILAK closed yesterday at ~$7.62/share…. it closed at $7.79/share on June 16th, so the stock today is trading at basically the same price it was trading before it paid out $2.50/share in preferred stock. That’s a massive rerating in a few weeks. There’s been no fundamental news or anything; just a little financial engineering and some insider buying have sent the stock screaming higher.

Ok, that’s the setup. Now here’s what I think is interesting.

First, I’d note that Malone’s recent history of financial engineering is, to put it kindly, disastrous. I won’t detail all of the issues here, but I will call out one specific one: the LILAK deal today almost perfectly mirrors what QRTEA did in late 2020, right down to the quote in the PR from John Malone (and Greg Maffei) indicating “their intention to be long-term holders of the preferred.” Not only did that bit of financial engineering end poorly for QRTEA, but it carries a massive warning for the LILAK preferreds: QRTEA preferreds sued the bankruptcy estate for stripping them of assets almost the exact same day LILAK announced the preferred distribution. Caveat emptor indeed!

But what’s more interesting to note is the signaling here. The market is clearly rerating LILAK up because it sees the massive insider buying and thinks it’s a bullish signal. And that is probably correct; insiders only buy this much stock if they think it’s going up…. but I will note that the same insiders on this buying spree have an awful track record of insider buys over the past decade, and that this whole GCI / LILAK merger saga started because Searchlight (who had been an investor here for over a decade) had their founding partner resign from LILAK’s board and then sold all of their stock.

The Searchlight side probably speaks for itself, so let’s dive into the insider buying. Here is a non-exhaustive list of insider purchases at LILAK:

Again, that list is non-exhaustive. Insiders here have been consistently bullish on LILAK, and they have been consistently wrong. Just to single one out: Brendan Paddick bought ~$500k of LILAK shares after the pref distribution. He bought over $7m of stock in 2024 (average price >$9/share), and he swung for over $10m of stock in November 2019 (average price ~$19/share). All of those purchases were clearly misguided…. so is the third time really the charm here?

Here’s another interesting question: if we’re going to use the LILAK purchases as signaling, should that apply to other companies insiders here are involved in? Balan Nair (LILAK’s CEO) bought a bunch of LILAK recently….. he also bought a bunch of Charter (where he serves on the board and clearly has deep ties given the Malone and Searchlight relationships) recently. Does that Charter purchase have signal value? Or is Balan just a hopeless cable bull who is overvaluing the whole sector (and I say this as a beaten cable bull myself)?

Heck, it might be worth asking: is Balan someone we should even be following? Perhaps he’s a good operator (though his performance at LILAK suggests that might be a stretch), but he’s been filing Form 4s for almost 20 years thanks to his directorship at ADTN (here’s his first Form 4, a small open market purchase in June 2007). Incredibly, I count 24 open market purchases from Balan over the past ~20 years. He is underwater on all but a handful of them, and all of them have massively underperformed the stock market (for example, he’s up ~30% on this purchase of ADTN at $9.19 from November 2019, but given the S&P is up ~175% in total return over that time I think it’s fair to say that wasn’t a great purchase). It’s almost impressive how badly his open market purchases have performed.

Anyway, I have no real dog in this fight (though you can probably tell the shine has really come off Liberty and late stage Malone for me over the past few years!). But it’s a fascinating and strange situation (the exact type I love), and I do find it kind of incredible that the market is so quick to reward this financial engineering (which I view as extraordinarily low quality) and this aggressive insider buying (which is a real signal, but comes from people with an awful track record).

PS- speaking of misguided insider purchases, it’s probably worth noting that GCI (the company that was going to buy the Searchlight LILAK stake) has seen a spate of insider buying. Malone bought a ton, another insider joined him in November, and I believe they all participated in the rights offering at $27.20/share in late November. With GCI currently in the low $20s, all of those buys are underwater as well!

Historically, if you had told me something was obvious, I’d have told you it’s more than priced into the stock. Yes, we all know America is aging and there are a ton of structural beneficiaries of an aging population (healthcare, senior living, etc.)…. but everyone knows that, so the related stocks tend to trade with a “structural tailwind” premium and there’s not really alpha to be made in placing such obvious bets. Now, if you wanted to bet that America ages faster than consensus, or that healthcare spending amplifies for some reason…. well, that’s the type of large scale bet you could get paid for!

Twelve months ago, if you had said “AI is going to be huge; buy everything AI related,” you’d be reading this post from a beach despite reaching what I think was a pretty obvious conclusion (from the moment ChatGPT was launched and became the fastest growing app in history it was pretty clear AI would be massive). Now, that trade probably benefitted from AI inflecting (I think even AI bulls from ~12 months ago are surprised at how quickly coding and agentic tools are getting adopted), so perhaps you could say the insight caught a windfall…. but, still, it’s a generational trade on an “obvious” insight!

I’ve been thinking about trades that worked well / look obvious in hindsight. I mentioned my friend’s Apple / iPhone trade from the early 2010s in part 1; if you want that trade on a more institutional level, Buffett’s Apple investment in the late 2010s probably qualifies. Apple was really cheap at the time, and the iPhone was still the dominant smartphone. If you put those two together, you could have bought Apple without knowing anything else and made a generational return (25%+ annualized over almost a decade with >10% outperformance over the S&P is the stuff of legends!).

So I’ve been pushing myself with two different questions:

1. Where is the line between a trade that is so obvious that it’s priced in and an insight that actually generates alpha?

2. What are some things that, three to five years from now, will have generated massive alpha and seem “obvious” with the benefit of hindsight?

On the first question, I think the answer probably lies in the second question. A lot of these trends seem “obvious” to talk about with hindsight…. but in the moment they weren’t so obvious. For every Apple that smashes it over the next ~decade, or AI trade that delivers generational alpha as AI continues to accelerate, there is a counter example. Buffett’s Apple trade has mirrors of his disastrous early 2010s investment in IBM; IBM was cheap at the time and Buffett was very much betting on brand + financial engineering. The AI trade now certainly has mirrors of the dotcom bubble; in the same way that it’s obvious now that AI will be massive, it was obvious in the late 90s that the internet would be huge….. but if you bought basically anything internet related in the late 90s you had your face ripped off if you didn’t sell into the huge rally / bubble. Not saying that will happen with AI from here, but the parallels are striking. And some of the AI bottleneck trades now certainly have rhymes with historic squeeze plays (to name one, oil in 06-07 or again in ~2013, though you can basically pick any commodity).

Again, not saying any of those are clean parallels or are what will happen here, but just pointing out perhaps the “obvious” trades that worked are just obscuring the obvious ones that did not.

That said…. I have been thinking hard about some things that might do well from here that will seem obvious a few years from now. I’ve tried to limit these to really large companies / big themes; it’s hard to say a $200m microcap that does incredibly well was “obvious” in hindsight in the same way that Apple (roughly the largest company in the world) was “obvious” when Buffett was buying it in the late 2010s!

The themes / companies I’ve settled on are:

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EJ Karobath, Craig Larkin and Bob McGrane walk through why MSA’s owned-sensor hardware is hard to copy (Blackline got taken private, and its devices break if you drop them), how winning a tier-one fire department like LA or Memphis pulls the surrounding towns along on interoperability, and why 50-plus years of dividend growth and a record $500 million buyback point to real capital-allocation discipline. I push back on the obvious tension: this is a roughly 20x compounder that does not scream alpha, the CFO is guiding mid-single-digit growth, and most of the thesis only pays off in 2028 to 2030. Is the market that inefficient, or is this just a very good business priced about right?

(Note for the OGs: this was recorded in early June but got held up between production, so it is podcast 398 but just posting way out of order!).

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Transcript for paid subs begins below (The initial transcript is AI-generated and is replaced with a professionally edited version when available)

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In general, I’d be pretty damn skeptical. I’d think they were missing something; in fact, I remember a few years back a bunch of (largely retail) traders thought they’d found a free alpha hack by shorting the VIX or buying inverse VIX products (e.g., XIV)…. but they were dealing with incredibly complex products that eventually led to massive blowups.

So I’d be skeptical of the “free alpha” idea…. yet that’s exactly the thought process that led to my “free alpha” 2x levered short idea last week.

Quick refresher if you missed it: the table below is in the prospectus for every 2x levered ETF. Given how awfully the 2x levered product does (when the underlying is up 50%, it’s down 17% if vol is 100%), I thought there was “free alpha” in shorting a 2x levered ETF.

I was wrong. Some work with Claude suggested that the “structural decay” alpha I thought I was getting was actually just me picking up pennies in front of a steamroller: if the stock went parabolic, the 2x levered ETF would substantially outperform the underlying. (You can read last week’s piece for all my thinking on the trade, and why it was wrong.)

So if I already wrote up that trade and how wrong it was, why am I writing about it again now? Because I’ve been thinking a lot about the psychology of that trade.

On the podcast, I try to lead most conversations off by asking for an overview of the company we’re going to talk about. Then my second question is generally “the market is a competitive place; what are you seeing that the market is missing that makes this a risk adjusted opportunity?” And the whole “free alpha in a structural decay / prospectus” thing has me thinking: how deep does your knowledge / insight need to be to generate alpha?

Is it just enough to be right? I distinctly remember my first day at a consulting firm ~15 years ago talking to a guy who was in my incoming class. He had just gotten his PhD in computer science, and he told me he’d put 100% of his portfolio in Apple because their smartphone was so much better than the competition. I was already pretty interested in stocks, and I thought that was a silly thesis. The thesis seemed too obvious, and history suggested tech leads got squandered quickly (Apple became the king by killing BlackBerry / Nokia).

Well, my colleague’s “obvious” thesis resulted in a >21x over the next 15 years, slaughtering the indices. I hope he held on the whole time!

Saying “the iPhone is better than peers” back then was probably an easier / more simple observation than reading the 2x levered prospectus and looking for decay is today. Benefit of hindsight, it worked…. but was that just an n=1? Was it real, sustainable alpha? Does having real world observations generate alpha in a way that reading prospectuses does not?

If you’re saying reading prospectuses does not have alpha, aren’t you basically saying reading SEC filings doesn’t have alpha? If that’s the case, how are we as investors supposed to generate edge? I’m not saying reading SEC filings is that only way to generate edge, but most investors I know spend a substantial amount of time in SEC filings. Is that just wasted time if it can’t generate alpha?

If you’re saying that the structural decay component / mechanical nature of the 2x levered trade doesn’t have alpha, perhaps that is correct…. but there’s apparently tons of alpha to be made on polymarket by reading and interpreting the rules correctly (as mentioned in my June ramblings). How do you explain that alpha? Is it just prediction markets are immature and that will get arbed away over time?

I will be honest: I don’t have firm takeaways or anything. I’m just always pushing myself to think about edge and the type of edge that will get rewarded, and the structural levered decay piece has been a jumping off point for me to think about it a little harder. I have come up with a few “obvious” trades that could fit the bucket, and I’m planning on writing them up in the near future…. but if you have any obvious ones, I’d love to swap notes (particularly if they’re going to be a multiyear 20-bagger a la Apple!).

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Transcript for paid subs begins below (The initial transcript is AI-generated and is replaced with a professionally edited version when available)

Disclaimer: Nothing on this podcast or on this blog is investing or financial advice; please see our full disclaimer here. The transcript below is from a third party transcription service; it’s entirely possible there are some errors in the transcript.

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Second, please remember you can always reach out to me if you have questions or want to swap thoughts on any…

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