Idea Brunch with Luis V. Sanchez of LVS Advisory
Luis shares his approach to building an RIA, his research process, and his top ideas
Welcome to Sunday’s Idea Brunch, a weekly interview series with underfollowed investors and emerging managers. We are very excited to interview Luis V. Sanchez!
Luis is the Founder of LVS Advisory, a New York City-based registered investment advisory firm utilizing separately managed accounts. Prior to founding LVS Advisory, Luis was a long/short equity analyst, an investment banker at Credit Suisse, and a consultant at Deloitte. LVS Advisory manages two active strategies. The Defensive Portfolio, an event-driven trading strategy focused on capital preservation, and the Growth Portfolio, a concentrated, global stock-picking strategy focused on long-term capital appreciation. The Growth Portfolio is up 81.2% net of all fees since its January 1, 2020 launch, compared to a 41% return for the S&P 500.
Luis, how has your experience been launching a small registered investment advisor, and what has contributed to your strong performance?
Quite honestly, I became an accidental fund manager. I was in between jobs at the end of 2018 and was consulting with a few larger funds. The early part of my career was spent in investment banking where I developed insight into the mechanics behind mergers and acquisitions. After leaving banking, I continued to follow M&A deals and created a personal portfolio of merger arb plays and other special situations. If you recall, 2018 was a very volatile year for equities. There was the VIX-driven crash in February 2018 and a sell-off at the end of the year due to interest rate hikes. When I looked at my special situations portfolio, it was not only up double digits but it had very little volatility. I thought, “wow, this could be a great investment strategy”. So, I seeded a new account at the start of 2019 to develop a track record.
I decided to raise outside capital towards the end of 2019. I created an email distribution with my existing network to inform everyone of what I was doing and that I was open to outside investors. I have maintained that email distribution to this day and it has been my sole “marketing strategy.” Philosophically, I’d like to spend as much time focusing on investing and let the results drive investor interest. I am extremely fortunate to say that 3 years after starting LVS Advisory, I have been able to raise enough capital to earn a comfortable living. An important caveat is that I was able to continue consulting with other investment funds as I started my firm. I continue to work with those firms to this day and view them as true partners.
I also have a passion for traditional stock picking and have always been quite involved in identifying and researching high-quality growth companies. Given that the special situations portfolio is more of a fixed income-like strategy focused on downside protection, I viewed the Growth Portfolio as a great complement. With my investment platform, most clients have exposure to both strategies as a kind of “60/40” portfolio but some clients prefer to have explicit exposure to one or the other depending on their risk profile and investment mandate.
Regarding performance, for the Defensive Portfolio, I believe I have found a niche. My bread and butter is merger arbitrage but I have also participated in SPAC arbitrage and buying preferred shares at deep discounts. I also benefit from having clearly stated goals which are 1) only invest in high-probability deals 2) target a high-single-digit/low-double-digit net return. This mandate has kept me away from investing in more speculative situations. Like high-yield credit investing, merger arbitrage is a “negative art” where avoiding dicey situations and not losing money is just as important as positioning yourself in the situations that throw off an attractive yield.
For the Growth Portfolio, our strong performance can be attributed to our unconstrained mandate and concentrated position sizing. My goal is to invest in the 15 to 20 stocks that I believe will compound our returns at the highest rate over a 5+ year period. Full stop. This has led to assembling an eclectic portfolio consisting of everything from microcaps in the US and Europe such as Avid Technologies and Naked Wines to global megacaps including Adobe and Sea Ltd. And when we find a high-quality, growing business available at an attractive price, we take a meaningful position size.
In November 2020, you published a presentation calling online gaming “an emerging e-commerce mega-category.” Now numerous online gaming companies have gone public through IPOs/SPACs and existing gaming companies have gone vertical. How do you see the sector evolving and are there any companies that are still compelling today?
Online gambling was one of our “big ideas” for 2020 which we expressed by going long both Flutter Entertainment and Evolution Gaming. It was apparent to us that the online gambling industry was set-up to perform well following the pandemic for multiple reasons. Namely, the closure of physical casinos and live sports paired with the rapidly growing state and local budget deficits led to a pull forward in legislative agendas to get sports betting and online casinos regulated. Additionally, many bettors were introduced to online gambling for the first time and developed new habits that will likely continue beyond the pandemic.
This growth theme was largely appreciated by US investors as evidenced by the surging stock prices of DraftKings, Penn National Gaming, and other domestic players; however, I was surprised to learn that the highest quality operators were all located in Europe where online gambling regulation began more than a decade ago. Despite being more experienced operators with global reach, the European operators traded for discounted valuations.
Take Flutter which owns iconic global online gambling brands including FanDuel (#1 in US sports betting), PokerStars (#1 global poker brand), SkyBet (#1 in UK sports betting), and Sportsbet (#1 in Australian sports betting). We were able to purchase shares in Flutter last summer for less than 20x EBITDA while DraftKings traded in excess of 20x revenue and was unprofitable. Flutter’s valuation is not dissimilar today but requires backing out the value of FanDuel.
I continue to be very bullish on the online gambling investment thesis and continue to own Flutter and Evolution. In our view, the growth opportunity in the US alone justifies the market cap for both companies. To focus on Flutter, it has an unfair competitive advantage because FanDuel has already been operating a daily fantasy sports business in the US for over a decade, enabling it to build a customer list and cultivate its brand and partnerships along the way. There is a misconception that US sports betting is a structurally unprofitable business; however, FanDuel and DraftKings are investing for growth in newly opened markets. If you look at more mature states like New Jersey and Pennsylvania, both FanDuel and DraftKings are now solidly profitable and have continued to gain market share despite tough competition. Flutter also has a greater customer lifetime value to invest against because it uniquely can cross-sell customers to its poker business or its more robust online casino product. In more mature sports betting markets such as the UK and Australia, Flutter achieves EBITDA margins north of 20%. I believe the US market will eventually be highly profitable as well. Finally, I believe we are in the early stages of changing cultural attitudes in the US towards online gambling, not dissimilar to how society has increasingly normalized the recreational use of marijuana. Social media platforms and websites such as Barstool Sports have brought betting into mainstream American culture. I can think of no better example of the change in attitude than Disney’s statement on its Q4 2021 earnings call that it will explore sports betting partnerships for ESPN.
The global opportunity outside of the US is massive as well. Gambling is a nearly $500 billion global industry still dominated by in-person activity (80%+). Online penetration has gradually increased from less than 10% in 2015 to approaching 20% today. In Europe, the most mature online gambling market, online penetration is approaching 40% and is still growing. The US is a microcosm for what is happening around the world. Every region is moving towards more legalization and regulation of online gambling regardless of whether you’re referring to Latin America, Asia, or Africa. Flutter Entertainment and Evolution Gaming are both extremely global and are uniquely positioned to capture this opportunity. Whereas the companies that Americans frequently associate with this trend (DraftKings, Penn National, BetMGM) are primarily domestic stories today.
What are two or three interesting ideas on your radar now?
In our Defensive Portfolio, we recently invested in Bluerock Residential Growth REIT (NYSE: BRG — $698 million) which agreed to sell itself to Blackstone for $24.25 per share in cash. In addition to selling the company, Bluerock will spin out its single-family homes subsidiary to shareholders in the form of a REIT during the first half of 2022. This was a very attractive deal for Bluerock which realized a premium of 124% over the unaffected share price and therefore, shareholders are unlikely to turn this deal down. At the same time, Blackstone is a highly reputable buyer and won’t have any trouble financing the $3.6 billion deal. In short, there is a very low likelihood of the deal not closing.