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Great Northern Iron Ore Finally Implodes

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April 24, 2012 – Comments (0) | RELATED TICKERS: GNI

Location: TMFDeej's CAPS Blog

Author: TMFDeej

For the most part, I don't like to short stocks in CAPS or real life.  Yes I did make money shorting things during the market collapse a while ago, but people change.  I know that many of my fellow investors will strongly disagree with me on this point and I agree with them I suppose that shorting companies has a valuable place in a free market...I just don't like rooting against companies.  I try to bring as much positive energy to my life as possible and rooting for others to do poorly doesn't mesh well with that.  I'll short things for valuation purposes in CAPS as sort of a hedge against the whole market dropping, but again I find it much more fulfilling to root for companies and the people who work for them to succeed than rooting for others' demise.

With that out of the way, onto a story about a company that I successfully shorted here in CAPS.  Nearly two years ago, May 2010, I decided to give the thumbs down to Great Northern Iron Ore Properties (GNI).  After watching the stock soar from my $88 start price all the way to an absurd $120+ (that would have been one seriously painful real-life ride) GNI has collapsed as my short thesis finally plays out.

Here's what I had to say about GNI when I initially picked against it in CAPS:

"I've seen this short idea mentioned several times over the past year or so, but I decided to shed some light on it here now that I'm officially adding it to my CAPS portfolio.

The name of the stock is Great Northern Iron Ore Properties (GNI). GNI is a trust that owns the mineral rights to a section of the Mesabi Iron Range in Minnesota. In April 2015, the mineral rights to this land will be transferred to a subsidiary of Conoco Philips and GNI and it will essentially be worth nothing. OK, not completely zero, but a little over eight bucks per share ($12.5 million final distribution / 1.5 million shares), a far cry from today's $88.

The problem is that GNI pays a hefty dividend that anyone who shorts it will have to doll out quarter after quarter after quarter (20 to be exact) until this puppy is dissolved. Assuming a dividend payment of $8.00 to $10.00/share, were talking about paying out between 9% and 11% annually to short this stock. This is not something that I'd be thrilled about doing in real life...but in CAPS where it's not my money let's do it.

Another problem with shorting GNI in real life is that it only has about a million and a half shares outstanding, of course once again that's not a problem here in CAPS.

Let's look at this trade as simply as possible, ignoring all of the IRR, present value, rigmarole. Barring an explosion in the price of iron ore, by shorting GNI today you will have to pay anywhere from $40 to $50 in dividends along the way and a $8.50 (rounded up) final payment in 2015. Add all of that up and we arrive at total cost of $48 to $58/share compared with today's share price of $88/share for GNI. That's a profit of $30 to $40/share on the short, not a killer return over five years...but a respectable one.

Not only will GNI be worth practically nothing by the year 2015, but it is entirely possible that iron ore prices will drop significantly in the future if the global economic recovery slows or if China implodes. A drop in the price of iron ore will lower Great Northern Iron's distributions to shareholders and make this trade less painful for shorts. Furthermore, GNI's stock tends to move in tandem with the S&P 500, providing protection of the recent market weakness continues. I like to sprinkle a handful of shorts in as protection for my mostly long special situations CAPS portfolio and I have chosen Great Northern Iron as one of them."

Patients paid off with this stock.  Alas, I don't believe that shares were available in real life when I decided to short GNI here so I didn't make any real money on this trade.  At least I've been able to collect 40 CAPS points and counting.  That and a couple of bucks will get me a cup of coffee at Starbucks :).

Thanks for reading everyone.  I may report back later on today if I find any interesting trades out there.  I feel like procrastinating and looking around for ideas on this late Friday afternoon.

Have a great weekend! 

Deej

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