Wall Street Earnings Season: Insights Into Billionaire Seth Klarman’s Investment Moves

Earnings season is officially underway on Wall Street, with a significant portion of S&P 500 companies set to reveal their latest quarterly results. This timeframe is crucial as it provides valuable insights into the state of the U.S. economy and consumer behavior.

However, earnings reports are not the only critical financial data available to investors each quarter.

On August 14, institutional investors managing assets of at least $100 million were required to file Form 13F with the Securities and Exchange Commission. This form is crucial as it reveals what major investment managers bought and sold during the recent quarter.

It’s important to note that while 13Fs are informative, they are not without limitations. They can be up to 45 days old when filed, which means they may contain outdated information for active hedge funds. Nevertheless, 13Fs illuminate which stocks and market trends are garnering attention from significant asset managers.

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The quarter ending in June saw notable activity from billionaire Seth Klarman, CEO of the Baupost Group. Known for his value-focused investment style influenced by Benjamin Graham, Klarman currently manages $3.6 billion across nearly 24 holdings.

One of Klarman’s most significant moves during the recent quarter was the substantial reduction of his holdings in Alphabet (NASDAQ: GOOGL)(NASDAQ: GOOG), which he considers among the “Magnificent Seven” stocks. In contrast, he shifted his focus to an often-overlooked but attractively priced pharmaceutical stock.

Baupost Reduces Stake in Alphabet Significantly

Klarman’s Baupost Group initiated a position in Alphabet’s Class C shares (GOOG) during the COVID-19 crash in the first quarter of 2020. As of March 31, the fund held over 2.9 million shares. However, by June 30, the firm sold off 1,888,064 shares, marking a 64% decrease in its stake.

While profit-taking could explain the reduction, there may be other underlying reasons. Firstly, Klarman’s team could be cautious about the currently high stock market valuations. The S&P 500’s Shiller price-to-earnings (P/E) ratio has climbed to 37.70, significantly above its historical average of 17.16 since 1871. Even though Alphabet’s forward P/E ratio stands at a relatively low 19, a market downturn could still impact its stock.

Moreover, Alphabet’s valuation may have influenced Baupost’s decision. Although its stock trades below its five-year average forward P/E, it is pricier compared to its historical book value. Klarman often prioritizes traditional value metrics, and Alphabet may no longer seem like a bargain in that context.

A possible third reason for the significant selling of Alphabet’s shares could be the looming risk of a U.S. recession. Notably, the first decline in M2 money supply since the Great Depression and the longest yield-curve inversion in history suggest economic challenges ahead. Since Alphabet derives 76% of its sales from advertising, it could face difficulties if economic growth stalls.

Lastly, Klarman and his team might be anticipating potential legal issues for Alphabet, including a possible breakup due to its dominant position in the internet search market. Such uncertainties can deter investors and lead to cautious decisions.

Some speculate that Klarman may regret this decision in the future. However, given his focus on value investing amidst a robust stock market, the reduction in Alphabet assets appears strategically sound.

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Klarman Makes Strategic Move in Inexpensive Pharma Stock

Conversely, during the second quarter, Klarman and his team expanded nine of Baupost Group’s existing positions, with Jazz Pharmaceuticals (NASDAQ: JAZZ) standing out significantly.

Klarman’s fund added 440,552 shares of Jazz, raising its stake by 53% to a total of 1,274,248 shares. As of mid-2024, Jazz Pharmaceuticals ranked as Baupost’s ninth-largest investment, valued at $136 million.

Jazz’s oxybate product line, which includes Xyrem and Xywav (two treatments for sleep disorders), is key to the company’s success. Xyrem has been a top seller for narcolepsy, while Xywav is a newer treatment option with much lower sodium content, making it suitable for patients with heart concerns. Revenue forecasts from the first half of 2024 suggest Jazz’s oxybate products could generate around $1.6 billion this year.

Additionally, Jazz’s CBD-based therapy, Epidiolex (known as Epidyolex in some regions), is on a path to potentially achieve blockbuster sales. This product, acquired during Jazz’s $7.2 billion buyout of GW Pharmaceuticals in May 2021, treats rare epilepsy forms and has limited competition, aiming for nearly $900 million in annual revenue by 2024.

Furthermore, Jazz’s oncology segment exceeded $1 billion in sales for the first time in 2023, thanks to the successful launch of Rylaze, a treatment for acute lymphoblastic leukemia. Enhanced cancer screening and strong pricing power position the oncology segment for at least $1.1 billion in sales this year.

Despite sustained growth across its drug portfolio, concerns linger about Avadel Pharmaceuticals, which may threaten Jazz’s stronghold in the sleep disorder market.