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Did Hedge Funds Drop The Ball On The Timken Company (TKR) ?

Reymerlyn Martin

Hedge funds are known to underperform the bull markets but that's not because they are bad at investing. Truth be told, most hedge fund managers and other smaller players within this industry are very smart and skilled investors. Of course, they may also make wrong bets in some instances, but no one knows what the future holds and how market participants will react to the bountiful news that floods in each day. Hedge funds underperform because they are hedged. The Standard and Poor’s 500 Index ETFs returned approximately 27.5% through the end of November (including dividend payments). Conversely, hedge funds’ top 20 large-cap stock picks generated a return of 37.4% during the same period. An average long/short hedge fund returned only a fraction of this due to the hedges they implement and the large fees they charge. Our research covering the last 18 years indicates that investors can outperform the market by imitating hedge funds' consensus stock picks rather than directly investing in hedge funds. That's why we believe it isn't a waste of time to check out hedge fund sentiment before you invest in a stock like The Timken Company (NYSE:TKR).

Hedge fund interest in The Timken Company (NYSE:TKR) shares was flat at the end of last quarter. This is usually a negative indicator. The level and the change in hedge fund popularity aren't the only variables you need to analyze to decipher hedge funds' perspectives. A stock may witness a boost in popularity but it may still be less popular than similarly priced stocks. That's why at the end of this article we will examine companies such as Cedar Fair, L.P. (NYSE:FUN), ICU Medical, Inc. (NASDAQ:ICUI), and NuVasive, Inc. (NASDAQ:NUVA) to gather more data points. Our calculations also showed that TKR isn't among the 30 most popular stocks among hedge funds (click for Q3 rankings and see the video below for Q2 rankings). Video: Click the image to watch our video about the top 5 most popular hedge fund stocks.

5 Most Popular Stocks Among Hedge Funds

So, why do we pay attention to hedge fund sentiment before making any investment decisions? Our research has shown that hedge funds' small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the Russell 2000 ETFs by 40 percentage points since May 2014 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter. Even if you aren't comfortable with shorting stocks, you should at least avoid initiating long positions in stocks that are in our short portfolio.

[caption id="attachment_343254" align="aligncenter" width="600"] Alexander Roepers of Atlantic Investment Management[/caption]

Alexander Roepers of Atlantic Investment Management

Unlike the largest US hedge funds that are convinced Dow will soar past 40,000 or the world's most bearish hedge fund that's more convinced than ever that a crash is coming, our long-short investment strategy doesn't rely on bull or bear markets to deliver double digit returns. We only rely on the best performing hedge funds' buy/sell signals. We're going to take a look at the latest hedge fund action surrounding The Timken Company (NYSE:TKR).

How have hedgies been trading The Timken Company (NYSE:TKR)?

At the end of the third quarter, a total of 26 of the hedge funds tracked by Insider Monkey were long this stock, a change of 0% from the second quarter of 2019. By comparison, 29 hedge funds held shares or bullish call options in TKR a year ago. With hedge funds' sentiment swirling, there exists a select group of key hedge fund managers who were boosting their stakes considerably (or already accumulated large positions).

TKR_dec2019

More specifically, AQR Capital Management was the largest shareholder of The Timken Company (NYSE:TKR), with a stake worth $75.7 million reported as of the end of September. Trailing AQR Capital Management was Atlantic Investment Management, which amassed a stake valued at $38.1 million. D E Shaw, Millennium Management, and Adage Capital Management were also very fond of the stock, becoming one of the largest hedge fund holders of the company. In terms of the portfolio weights assigned to each position Atlantic Investment Management allocated the biggest weight to The Timken Company (NYSE:TKR), around 13.39% of its portfolio. Beddow Capital Management is also relatively very bullish on the stock, setting aside 3.18 percent of its 13F equity portfolio to TKR.

Judging by the fact that The Timken Company (NYSE:TKR) has experienced declining sentiment from the smart money, it's safe to say that there exists a select few hedgies that elected to cut their full holdings by the end of the third quarter. At the top of the heap, Gregg Moskowitz's Interval Partners cut the largest stake of the 750 funds followed by Insider Monkey, valued at an estimated $11.5 million in stock. Robert Polak's fund, Anchor Bolt Capital, also sold off its stock, about $11 million worth. These bearish behaviors are important to note, as total hedge fund interest stayed the same (this is a bearish signal in our experience).

Let's go over hedge fund activity in other stocks similar to The Timken Company (NYSE:TKR). These stocks are Cedar Fair, L.P. (NYSE:FUN), ICU Medical, Inc. (NASDAQ:ICUI), NuVasive, Inc. (NASDAQ:NUVA), and Companhia Paranaense de Energia (NYSE:ELP). This group of stocks' market values match TKR's market value.

[table] Ticker, No of HFs with positions, Total Value of HF Positions (x1000), Change in HF Position FUN,13,99639,5 ICUI,15,234605,0 NUVA,21,253261,-3 ELP,8,61388,-1 Average,14.25,162223,0.25 [/table]

View table here if you experience formatting issues.

As you can see these stocks had an average of 14.25 hedge funds with bullish positions and the average amount invested in these stocks was $162 million. That figure was $208 million in TKR's case. NuVasive, Inc. (NASDAQ:NUVA) is the most popular stock in this table. On the other hand Companhia Paranaense de Energia (NYSE:ELP) is the least popular one with only 8 bullish hedge fund positions. Compared to these stocks The Timken Company (NYSE:TKR) is more popular among hedge funds. Our calculations showed that top 20 most popular stocks among hedge funds returned 37.4% in 2019 through the end of November and outperformed the S&P 500 ETF (SPY) by 9.9 percentage points. Hedge funds were also right about betting on TKR as the stock returned 21.5% during the first two months of Q4 and outperformed the market by an even larger margin. Hedge funds were clearly right about piling into this stock relative to other stocks with similar market capitalizations.

Disclosure: None. This article was originally published at Insider Monkey.

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