Are the investors following hedge fund manager John Paulson into the casino stocks betting with their heads or over them?
Casino stocks rallied Tuesday, a day after a regulatory filing showed Paulson bought big positions in gambling halls MGM Mirage and Boyd Gaming . The filing suggests Paulson is extending his bullish bet on a U.S. economic recovery beyond the big banks to casinos.
Paulson’s latest filing shows his firm bought 40 million shares of MGM Mirage, the Las Vegas-based operator of 15 casino resorts. The purchase, valued at $532 million a quarter-end, makes Paulson & Co. the firm’s biggest shareholder with a 9% stake, according to Lionshares.com.
Paulson also bought 4 million shares of Boyd Gaming, a smaller casino company also based in Vegas. His firm is now Boyd’s second-biggest shareholder after Legg Mason Capital Management, the mutual fund giant run by Bill Miller.
Shares across the casino sector rallied, with Boyd up 8% and MGM up 3%. Also rising were Las Vegas Sands , Wynn Resorts and Hong Kong-based Melco Crown .
Securities and Exchange Commission rules dictate that money managers with $100 million in stocks must make their holdings public within 45 days of the end of each quarter. The filings are avidly followed by investors seeking to keep abreast of what the so-called smart money is buying.
Still, skeptics warn that there is much these filings may not disclose — particularly in the case of hedge fund managers who bet both for and against various stocks and industries. Paulson, of course, made a fortune with bearish bets against housing.
Notably, the 13-F filings don’t show whether an investor holding a big stock position is simultaneously betting against the company by buying derivatives known as credit default swaps.
Yet that is just what Tim Backshall, the chief strategist at Credit Derivatives Research, says Paulson may be doing in the case of MGM. He contends that Paulson’s purchase of MGM may be part of a strategy that would let him make money both if MGM’s business recovers and if it crumples under the weight of a massive debt load.
“We posit that perhaps this is a well-masked capital structure trade that benefits short-term from equity outperformance (exactly what will happen when the 13F appears to show he is loading the boat on MGM) but inevitably will perform extremely well if MGM defaults,” writes Backshall, whose firm doesn’t have any positions in MGM or the other casino stocks.
Backshall argues Paulson may have bought $1 billion worth of credit default swaps at a time when the flood of investor funds into high-yield debt had pushed down credit spreads. Buying CDS at those low prices could give an investor a profitable position now that spreads have widened with the euro crisis, and if held could show a much larger profit should MGM default.
Armel Leslie, Paulson’s spokesman at Walek & Associates, said the firm doesn’t comment on positions in its portfolio.
It may strain credulity to argue that Paulson would take a huge position in a big name company just to bet against it. He made no bones about his bearishness on housing before the market collapse of 2007 and 2008, after all.
He has likewise been telling investors recently that he expects to see a V-shaped recovery in the U.S. that will send house prices higher. That seems to argue that the bet on the casinos is genuine.
Still, the prospect of a default at MGM Mirage is very much on investors’ minds. The firm lost $97 million in the first quarter and is straining under a $13 billion debt load. A deal with lenders allowed extended some repayment deadlines, but “MGM still faces significant debt maturities over the next two years,” Moody’s said in a March report.
And as long as investors can bet in derivatives markets without having to disclose those positions to investors, people will continue to have second thoughts about what might really be going on behind the scenes.
“Just thinking out loud,” Backshall writes in a note to clients Tuesday, “but it is always worth considering the ‘rest’ of positions that many of the 13F filings do not have to expose.”