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Thursday, September 12, 2013 - 14:30

How To Invest Like David Einhorn

Thursday, September 12, 2013 2:30 PM

"Sticks and stones may break my bones, but words will never hurt me."

Try telling that to a company that has just been "Einhorned."

Hedge fund billionaire David Einhorn has the ability to crater a company's share price with the mere mention of its name in one of his closely followed investment presentations. That ability has turned his name into a verb, spawning the expression that a company is being "Einhorned" when targeted by short sellers.

Einhorn's forensic approach to research has enabled him to sniff out some of the most publicized and successful shorts in the past 10 years. That includes one of the earliest calls and moves on Lehman Brothers' bankruptcy and a short on Green Mountain Coffee (Nasdaq: GMCR) that netted his firm hundreds of millions.

That has turned Einhorn into one of the most popular figures on the Street -- but also one of its most polarizing. Some call him a genius; others oppose his ability to profit from struggling companies. But there is no disputing that Einhorn's Greenlight Capital boasts one of the best performances in the past 20 years, averaging a market-crushing annual return of 20%. That makes Einhorn one of the most influential and closely followed hedge fund billionaires on the Street.

David Einhorn's Bio
Einhorn isn't a stereotypical fund manager like Carl Icahn, Warren Buffett or George Soros. Although he's already a hedge fund Hall of Famer, Einhorn is only 44 years old. His youthful looks belie an incredible intellect and competitive fire that have pushed him to the top of one of the world's most competitive industries.

Einhorn's attention to detail and expertise with numbers showed up early in life, leading him from high school in Wisconsin to the Ivy League at Cornell University, where he graduated with highest honors in 1991. After graduation, Einhorn developed his analytical chops with a four-year run at an investment bank and hedge fund. By the age of 27, he was ready to set out on his own, launching a fund in 1996 with just $1 million under management.

Einhorn quickly produced a couple of monster years, including a 58% return in 1997 and a 32% in 2001 when the S&P 500 index was crashing. As Einhorn's reputation began growing within the hedge fund community, he took his reputation to another level with a string of amazing shorts that dazzled the Street before and during the financial crisis. That has propelled his net worth to $1.2 billion while his firm's assets under management have grown to $4 billion.

Einhorn is also a noted poker nut, with some serious skills to match. In July 2012, Einhorn finished third at the World Series of Poker, pocketing $4.35 million in prize money that he quickly donated to one of the many charitable foundations he supports.

David Einhorn's Investment Philosophy
Einhorn's rock-star reputation was built on the short sale, which is how he rose to prominence and scored some of his biggest victories. But Einhorn is no one-trick pony. He has also seen big gains playing the long side of the market, including positions in Apple (Nasdaq: AAPL) and Microsoft (Nasdaq: MSFT) that both produced outsize returns. But in either case, whether long or short, Einhorn is known for producing copious amounts of research and incredibly detailed analysis.

When searching for his next big short, Einhorn likes to dig deep into a company's financial statements and business model. He then relies on his forensic approach to research and analysis to identify accounting inconsistencies, unsustainable leverage ratios or unsustainable growth. These are the tools Einhorn used to nail two of his biggest trades, shorting Allied Capital and Lehman Brothers.

But when playing from the long side, Einhorn's approach looks a lot like Buffett's, placing value among his highest priorities. He also likes to invest in industry leaders that enjoy high barriers to entrance, which insulates them from new competition and margin compression. These were the driving forces behind two of Einhorn's biggest longs in the past few years with Microsoft and Apple.

David Einhorn's Big Wins
That scientific approach to numbers and analysis has produced some big victories for Einhorn.

Einhorn's reputation took a quantum leap forward in 2002 after he was invited to speak at a presentation where investors pay to hear leading hedge fund managers discuss their best investment ideas. Einhorn unleashed an attack on Allied Capital, a mid-size private-equity firm, suggesting the company was manipulating its accounting standards and valuing its debt incorrectly. Shares opened 20% lower the next morning, and the legend of Einhorn as a short seller was born.

But it wasn't until a few years later when his reputation as a remarkable analyst and short seller was sealed with what is still considered the best call of his career. That distinction came on Einhorn's early warnings and move on Lehman, using his forensic accounting skills to spot another company that was hugely vulnerable to any kind of weakness in the economy or housing with an overleveraged balance sheet. At the time, that was a hugely contrarian opinion, leading many to think Einhorn was crazy. But those are the trades with the most potential, and in the end, Einhorn netted billions shorting Lehman.

Einhorn followed up that legendary call with another huge short position in 2011, this one in Green Mountain Coffee Roasters, right before shares cratered from more than $100 to less than $20. It was another incredible call where Einhorn placed huge bets on a company directly before its share price cratered. It also added to the growing belief that Einhorn is the most potent short seller on the Street.

That incredible string of winners helped Einhorn's Greenlight Capital Management to deliver an average annual gain of 20% since 1996, one of the best track records in the history of the hedge fund industry.

David Einhorn's Portfolio: What's He Holding Now?
As one of the youngest players in his field, Einhorn remains plenty active in managing his fund. But right now, he is more focused on the long side of the market, with no outstanding shorts that the market is closely watching. His largest position remains Apple, where Einhorn has invested close to $1 billion, accounting for 18% of his portfolio. Einhorn also owns a big stake in General Motors (NYSE: GM) with a stake valued at $568 million, occupying 11% of his portfolio.

Action to Take --> Einhorn is going to be on the hedge fund scene for many years to come, in position to continue capitalizing on his detailed research and analysis from both the long and short side of the plate. But since hedge fund managers are not required to report short positions, it is best to follow Einhorn's buys. Right now, his two biggest positions are Apple and General Motors, which mean this hedge-fund billionaire sees plenty of upside in both companies.

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Michael Vodicka does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.