News broke recently about the promotion of Pershing Square Holdings (LSE:PSH) to the FTSE 100 index. This isn’t an unusual event, as businesses swap in and out of the FTSE 100 and FTSE 250 in a similar way to football teams getting promoted or relegated from a league. The move is justified, as the Pershing Square share price doubled in value from March onwards. But there’s some controversy about the business being in the FTSE 100, considering that it’s a hedge fund.
What does Pershing Square do?
Bill Ackman is the billionaire investor behind Pershing Square. Along with his investment team, the fund buys and sells stocks using available money. If you’ve got a portfolio of stocks, you essentially do the same thing as Pershing Square. The difference is that Ackman has a substantially larger amount of money to invest! Further, as a large fund, Pershing Square has access to some investments that people like you and I couldn’t get access to.
The Pershing Square share price has performed strongly, as the underlying stocks the firm owns also performed well. Ackman bought stocks such as Starbucks and Chipotle, and is currently up over 60% this year. In a perfect world, the Pershing Square share price should match the exact movements of the value of the stocks owned within the fund. We call this value the Net Asset Value (NAV). But due to various reasons, the share price often trades at a premium or discount to the NAV.
The current share price trades at a discount of over 20% to the NAV. This is one reason why I’m thinking of buying the stock now. This difference should reduce over time to a much smaller percentage. The fairer value would see the Pershing Square share price move higher.
Could the Pershing Square share price continue to rally?
A stock must be doing well to double in value within a year. The beauty of Pershing Square is that there’s no upside limit if you believe the investment team is good. With a conventional company, growing profits 10% every year is a tough ask. Certain sectors may hit a limit to how many customers it can supply, or how much product can be manufactured. Pershing Square is a hedge fund that doesn’t have these restrictions. As long as the business invests wisely, there’s no reason why profits can’t continue to grow.
One element that does worry me about the stock is the concentration risk. Pershing Square only owned 10 stocks as of November. For a normal investor, this is quite diversified. For a FTSE 100 hedge fund, I don’t think it is. I’d like to see 50+ stocks owned, to reduce the risk of one company dragging the performance down within the portfolio.
Added to this is the key man risk of Bill Ackman. Sure, his calls this year have been great. But you only have to do some research into investments on Herbalife and Valeant to know that some calls can go very badly wrong.
Yet overall, I’m still excited to see where the Pershing Square share price goes from here, and am seriously considering getting on board.
jonathansmith1 has no position in any of the shares mentioned. The Motley Fool UK owns shares of and has recommended Chipotle Mexican Grill and Starbucks and recommends the following options: short January 2021 $100 calls on Starbucks and short January 2021 $100 calls on Starbucks. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.