Published on November 29, 2021
In August 2019, Muddy Waters (MW) released a short report on Burford Capital (BUR) claiming it had turned ‘Enron-esque mark-to-model accounting into the biggest stock promotion on the AIM market’. BUR’s market value declined 80% peak-to-trough and still trades ~50% below the pre-MW price per share.When discussing BUR with investors, questions relating to the short report immediately come to mind. We will share insights to each investor's concern to explore both sides of the story.Burford Management post-Muddy Waters As investors, a history of owning the stock can create an emotional relationship with the company. Especially for companies under attack, previous and prospective shareholders can interpret information in completely different ways based on their prior emotional experience owning the equity. This was an interesting comment by one investor during our IP Dialogue:"It is similar to most other things that I invest in where you can’t affirmatively prove that something isn’t a fraud. For example, I couldn’t prove to you that Blackstone isn’t a fraud; it depends on how you frame it. Post Muddy Waters, especially if one lived through it and had an emotional relationship with the investment, you frame it as if you need proof and that’s impossible. If you don’t frame it like that, it looks pretty similar to a lot of things that are out there and I am invested in, so I’m comfortable."The emotional relationship we have with portfolio holdings can often warp our interpretation of the facts at hand. The emotional rollercoaster of an 80% drawdown can distort one’s view of a company relative to those looking with fresh eyes.Existing shareholders may feel like they need a 100% complete short rebuttal to maintain their position in companies under attack. As we live in a world of incomplete information, especially with great storytellers such as Carson Block on the other side, this is near impossible. It’s even more difficult for Burford given the company cannot legally discuss the ongoing performance of underlying cases.This leads to a bifurcation in the investment community between existing BUR shareholders who require complete information to rebut the short thesis and new investors with the luxury of no prior emotional relationship with the stock.What makes this particularly interesting is the fact that such situations often provide the best risk-to-reward setups. And it’s those existing BUR shareholders that are typically in the best position to understand whether the short thesis is credible. However, often the pressure and career-risk of holding a potentially fraudulent stock leads to a mass exodus in the shareholder base.