Why Did D. E. Shaw Follow Berkshire on NV Energy?

Every quarter, large money-managers have to disclose what they've bought and sold via "13F" filings. While Fools don't always follow what the big money does, we can often glean an idea or two by tracing their footsteps.

D. E. Shaw, the $30 billion hedge fund founded in 1988 by David E Shaw, who was central to the revolution of computerized, quantitative trading, took a 1.78 million-share stake in NV Energy  (NYSE: NVE  ) in the third quarter. The thing is, NV Energy agreed to be acquired by Berkshire Hathaway  (NYSE: BRK-A  ) (NYSE: BRK-B  ) subsidiary MidAmerican Energy for $23.75 per share back in May. And, as is typical, the share price has since hovered very close to the price Berkshire is paying, leaving very little "meat on the bone."

What can individual investors learn? What advantage can we glean from what D. E. Shaw does? Let's take a look.

$30 billion spread over thousands of holdings
When it comes to a fund like Shaw, it's important to understand exactly how it makes money. Just one look at its most recent 13F reveals that the fund moves its money around -- a lot. How much? Here's a summary of the transaction types from the Sept. 30 13F:

  • 743 new positions opened
  • 1,800 positions increased
  • 1,271 positions reduced
  • 428 positions exited

And essentially all of these trades are being executed by computers.

And you'll never outrun the computers
The reality is, when a fund this size is trading in the tens of millions or even hundreds of millions of dollars, fractions of a penny in share price can add up. And considering that shares of NV Energy closed on Sept. 25 for $23.42, that's a $587,895 profit if Shaw sells its shares at Berkshire's acquisition of price $23.75 -- so that thin spread could be worth it. However, with the deal not set to close until sometime in Q1 of 2014, that could mean keeping more than $41 million in capital tied up for as much as six months, netting less than a 3% annualized return. Is there more to the story?

NV Energy is set to pay what will probably be its last dividend on Dec. 18, dishing out $0.19 per share to shareholders on record as of Dec. 3, giving Shaw another $338,000 if the company held its stock until at least the 3rd. But this is all speculation -- little more than an academic exercise and a great reminder of why attempting to time the market via day trading or other strategies is not remotely feasible for the individual.

But the age-old strategy of finding value in the best-run businesses still works
Use the same approach that Berkshire CEO Warren Buffett and MidAmerican CEO William Fehrman took when deciding to acquire NV Energy: Find the best-run businesses, with great leaders and strong competitive advantages in a market that's profitable, and try to buy it at a reasonable price. 

Buffett had this to say about the acquisition: "Through MidAmerican, we have found in NV Energy a great company with similar values, outstanding assets, and a superb management team." MidAmerican's strength in wind and solar will add value to NV Energy's operations in Nevada, a state that has plenty of wind and sun to utilize. Considering that MidAmerican contributed more than $2.5 billion in profits to Berkshire in 2011 and 2012, the long-term value of NV Energy to MidAmerican will be significantly greater to Berkshire shareholders than whatever small profits Shaw can scrape off in the narrow window it trades in.

Another example is tech stalwart IBM  (NYSE: IBM  ) , in which Buffett famously invested back in 2011 and which is Berkshire's third-largest public holding. Over the nine quarters since, Shaw has consistently held shares, as well as put and call options, the quantity of which has changed every single quarter. Meanwhile, Buffett invested in IBM the company based on his analysis that it would continue to grow its revenue and profit and evolve with the changing landscape of its industry and the needs of its customers. Additionally, he invested in the continued shareholder-friendly policies of IBM's management -- e.g., the more than 35% reduction in shares outstanding over the past decade via IBM's exceptionally well-executed buyback program, or the dividend that has been increased every year over the same time frame.

Final thoughts
Simply put, it's a matter of finding things that can be measured and predicted and acting upon them, rather than playing a game you just can't win. Buffett talks about staying within one's "circle of competence." There's nothing wrong with having limitations. We all do. It's when we refuse to acknowledge them -- especially as investors -- that we can cause real harm to our personal wealth. For individual investors, following Buffett into IBM probably makes more sense than NV Energy, as Buffett's long view is probably more aligned with our own goals than Shaw's computer-driven, short-term trading schemes. 

What do you think? Share in the comments below.

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