Special Situations Real Money Portfolio September 2010 Update

The Special Situations Real Money Portfolio ended the third quarter on September 30, 2010 with a total value of $38,517.76.  That is up 2.9% since I last reported the value of the Special Situations Real Money Portfolio at the end of August. As you probably recall, the Special Situations Real Money Portfolio is actually my son’s Coverdell Education Savings Account that I set up on October 19, 2004 as an experiment. I wanted to see if an individual investor could earn stable returns from special situations and arbitrage opportunities similar to the opportunities Benjamin Graham called “stock workouts.” The experiment has been a huge success and was the motivation for me to create my premium service, Fat Pitch Financials Contributors Corner.

While I was happy to see that my Special Situations Port was up 2.9% in September, that performance lagged the S&P 500 last month.  The S&P 500 was up a whooping 8.9% last month. According to Standards & Poor’s, large-cap issues posting their best September gain (+8.76%) since September 1939 (+16.46%), with 47% of the stocks posting double-digit gains.

Year-to-date the Special Situations Port is up 24.50% as of the market close on September 30, 2010.  That still dramatically better than the S&P 500 return of 3.9% over the same period. I expect that while the major indices may surge on news of an economic recovery, the Special Situations Real Money Portfolio will under perform. However, over the long run, I expect the Special Situations Real Money Portfolio to continue to outperform. This is basically the tortoise versus the hare situation. Slow and steady arbitrage opportunities will likely still beat out growth investing over the long haul.

Since the inception of this portfolio, my total return is now 220.98% as of the end of the third quarter of 2010. The compound annual growth rate for the Special Situations Real Money Portfolio is a rock solid 31.27%, and it has been around this number for many months now. I think there are very few other bloggers that are reporting such high returns for a real portfolio as far back as 2004 as I have.

September was a pretty busy month for the Special Situations Real Money Portfolio. The month started off on a positive note as I received $38.00 per share for the 99 shares Caseys General Stores Inc (CASY) $38.00 that I tendered back in August.  I bought those 99 shares on August 11, 2010 for $37.81.  I ended up with a net loss of $13.14 on that tender offer. I was hoping that this Dutch auction tender offer would have come in closer the the $40 upper end of the offer range. However, the tender offer was oversubscribed and came it at the minimum offer price of $38.00. In retrospect, I probably should have required a larger margin of safety on that deal, but there was slim pickings among the available opportunities at the time.

Then on September 3rd, I sold 1,000 shares of Southwest Water Co. (SWWC) for $10.99 per share. I originally picked up the 500 shares of Southwest Water on April 12, 2010 at $10.46 per share and then I followed up with another purchase of 500 shares at $10.38 on May 19. 2010. My net return on this merger arbitrage trade came to 5.26%. If I annualized those transactions, the internal rate of return comes to 16.07%. That’s a pretty good return for a fairly low risk merger arbitrage opportunity.

On September 15th, I was cashed out of an odd lot tender offer position in WebMD Health Corp (WBMD) for $52.00 per share. I bought those shares for $50.93 on August 26, 2010. That tender offer netted the portfolio a 1.5% return.

I reinvested those returns on 900 Occam Networks (OCNW) on September 16, 2010. I bought those shares for $7.16 per share. I was a bit hasty in placing my order, so I didn’t realize that the offer Occam Networks was not an all cash offer.  I quickly decided to sell these shares since I discovered this error in my reasoning.  Luckily, I was able to sell those 900 shares of Occam for $7.29 on September 24, 2010 and was able to net a 1.6% return.

Finally, I bought 500 shares of Bowne & Co. (BNE) at $11.05 per share on September 22, 2010, and then I bought another 500 shares at $10.88 on September 23rd.  The price of BNE shares rose dramatically on September 30th, so I decided to sell half my position at $11.32 per share.  I plan on retaining the remaining 500 shares until Bowne & Co. shares are bought out at $11.50 or the price of the shares gets real close to that price.

The Special Situations Real Money Port has $15,178.42 in cash at the moment. The current market conditions are making it difficult to find reasonable returns in tender offers and merger arbitrage opportunities. Given that the portfolio is only up 24.5% year-to-date and the difficult market conditions for special situations, I don’t expect to be able to match the 50.5% return of 2009.

Disclosure: At the time this article was posted, I owned a long position in Bowne & Co. (BNE). I no longer own shares of Caseys General Stores Inc (CASY), WebMD Health Corp (WBMD), Southwest Water Co. (SWWC), and Occam Networks (OCNW).

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