Whenever you’ve got a stampede of hedge funds buying up some lesser-known stock that’s fallen so far off its peak, you might have a deep-value kind of play on your hands that could be worth keeping tabs on. Indeed, it’s tempting to follow the smart money crowd into a stock, but, of course, investors should know what they’re getting into because you won’t know when a hedge fund sells until well after the fact. In any case, there is one second-quarter hedge fund buy that I think ought to grab value investors’ attention.
Norwegian Cruise Lines is a mid-cap value gem and new hedge fund favorite in Q2
With shares continuing to tread water in the third quarter, those looking to ride on the coattails of their favorite hedge funds might have the opportunity to do so with Norwegian Cruise Lines Holdings (NYSE:NCLH | NCLH Price Prediction), a $7.7 billion company that had a rough going in the past week, tanking just north of 14%. Shares remain well off — around 72% — from those pre-COVID all-time highs of around $60 per share.
Indeed, the end of lockdowns and the rise of the experiential economy, especially among younger crowds, haven’t really done shares of Norwegian Cruise many favors. The stock is getting quite close to its 2020 depths, which, in my humble opinion, makes very little sense, especially when you consider all the progress that’s been made in these past six years.
While it’s impossible to know what the wave of hedge funds will do after buying in the second quarter, I do think that it only makes sense to double down and add to a position as the price of admission moves even lower.
Star hedge fund manager Seth Klarman, the man who runs the show over at Baupost and the author of one of my favorite investment books, Margin of Safety, was one of the most notable buyers last quarter. The very well-respected Elliott Investment Management’s Paul Singer was another buyer. And the list goes on.
Taking the steps to return to those pre-COVID heights?
The pandemic-era dilution really hit hard, as did the debt pile, which really started climbing. While it’s discouraging to see Norwegian’s rivals sail along to higher seas (please forgive the pun) in the years following COVID, I do think that the new management team is on the right track. And if they can execute on their game plan, perhaps Norwegian shares can cruise higher again.
While the firm can’t control where oil or interest rates go next (they do move the needle for the cruise lines, especially the smaller Norwegian), management can deliver the value that consumers have come to expect. Of course, Norwegian Cruise Line (NCL) is perhaps best-known for its reasonably-priced Millennial-friendly freestyle cruises.
With its Oceania and Regent Seven Seas cruise lines in the mix, though, it’s clear that Norwegian also knows how to deliver a premium, upscale cruising experience as all, and the big question is if the luxe factor can carry over to Norwegian’s flagship banner. Indeed, striving to be just a bit more like Royal Caribbean Cruises (NYSE:RCL), which has seen shares soar 267% in five years, is something worth shooting for.
With much of the market leaning heavily into ultra-luxe mega-ships, which are pretty much moving cities on water, Norwegian only has so many levers to pull with all that debt and its relatively small size. Given the constraints, I think the firm has made all the right moves by prioritizing expanding its fleet towards higher-end ships, which may very well be able to help Norwegian steadily sail towards an eventual re-rating as the premium shift scores bookings.
Of course, such ambitious, ultra-luxe new ships do not come cheap. And for a $7.7 billion firm competing with a rival like Royal that’s nearly 10x its size, it’s a real challenge.
Norwegian is sailing in the right direction
Any way you look at it, the company is taking steps to cut costs, chip away at debt, and free up enough financial flexibility to take those bold risks that could accompany significant rewards. Personally, I’m a fan of the new leadership team that’s trying their best to rebuild the “top of the funnel.” In cruising, marketing can pay real dividends, especially for those unaware of the cruise lines’ latest and greatest ships (the new Aqua and Luna ships really are a thing of beauty) or the must-have deals of the season.
If they can gain better control of costs (it’s not easy to do in the capital-intensive world of cruising) amid rampant inflation while also repairing the balance sheet, I do think the firm can set a charter for substantial positive free cash flows as the wind returns to the back of experiential consumer discretionary. The company has already put in orders for a handful of new fully-loaded premium ships. And, in my view, I think it’s a “build it, and they will come” kind of proposition as the mix of ships skews modern and just a bit more towards the premium end.
In my view, Norwegian is on the right track. It’s prioritizing fixing the balance sheet while also moving towards the segment of the market where the big money is (classy luxe ships). With strong new managers running the show, I can see why hedge funds are interested in the name at these depths despite the high fixed costs and heightened recession risks.
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