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GDP REVISION - UNSUSTAINABLE TRENDS

Conclusion: No change to our view that the pillars supporting the US economy are weakening. 

 

Here are some key factors to consider in the outlook for U.S. GDP growth:

  1. The boost to growth from the fiscal stimulus is fading.
  2. State and local governments will be a significant drag as they cut spending and employment. 
  3. The boost from the inventory cycle will also weaken.
  4. While exports continue to rise, imports are also increasing and the trade deficit is widening.
  5. Global growth is slowing and the sovereign debt crisis will exacerbate this weakness.

Today, the Bureau of Economic Analysis announced that the U.S. economy grew at a rate of 2.5% in the third quarter, 0.5% more than previously calculated.  The upward revision in U.S. GDP for the third quarter was due to upward revisions to consumer spending, exports, and state and local government spending.  Our view is that the trends in consumer spending and state and local spending are not sustainable.  One supporting anecdote pertaining to consumer spending is the Redbook news today that retail sales were 0.0% for November month-to-date versus October.  That compares to +0.1% month-to-date reported in the week prior.

 

In 2011, GDP growth will be increasingly dependent on the internal demand drivers: consumer spending and the corporate sector driving investment.  While corporate profits have returned to their pre-recession levels, confidence needs to improve.  The hoarding of cash by Corporate America underlines their reluctance to hire and invest in long-term fixed assets.  The political volatility in Washington, and the lack of predictability that goes with it, has been cited by several major CEO’s as a cause for concern. 

 

The most significant downside risk is the continued weakness in the labor market, which is needed to sustain continued improvement in consumer fundamentals.  Under an optimistic scenario, 1-2% GDP growth will prove to be inadequate in an effort to reduce the unemployment rate.  Add to this slowing global growth and the European sovereign debt crisis and it seems that we are far from seeing a significant acceleration in GDP.  Downside risk for the economy is still alive and well.

 

Howard Penney

Managing Director

 

GDP REVISION - UNSUSTAINABLE TRENDS - contribution to 3Q gdp


The Korea Boy King Rattles His Saber . . . Does It Matter?

Conclusion: While North Korea’s actions shouldn’t be taken lightly, the nation’s wherwithal to actually accelerate military activity is limited and this appears to be another attempt to get the nation noticed and make themselves relevant.  We’ve posted a replay of our May call below.

 

Overnight North Korea fired artillery shells at a South Korean island near their border, killing two soldiers and setting houses on fire. South Korea responded by firing 80 rounds at its Northern neighbor, in addition to dispatching F-16 fighter jets to the area and raising the military alert to its highest level. Tensions on the peninsula haven’t been this high since North Korea sank the South Korean warship Cheonan back in March – an attack that killed 46 sailors. Unlike the March attack, however, this attack was on a civilian-occupied island and could be considered the most serious provocation in at least two decades.

 

Back in May, when the struggle was expected by many pundits to escalate into a full-blown war, we hosted a conference call with our subscribers with renowned Yale Historian Charles Hill. On the call, Professor Hill discussed in great detail the likelihood of an outbreak of war on the peninsula, while masterfully weaving in the history of the relationship and his first-rate knowledge of North Korean leaders and psychology to deliver an actionable roadmap for navigating this geopolitical risk.

 

Some key takeaways were:

  • North Korea’s leadership and military is more divided than most pundits believe;
  • North Korea has a history of creating skirmishes to get attention/get what it wants via negotiations, be it food, humanitarian aid, etc.; and
  • North Korea’s ailing economy forces its administration to use its sovereign powers to run a large-scale “criminal organization”.

For a replay of the call, please copy and paste the following link into the URL of your browser:

https://www.hedgeye.com/promos/podcasts/36697-3-8059-Korean_Risk_and_Global_Markets__with_Professor_Hill

 

Yours in risk management,

 

The Hedgeye Macro Team

 


THE M3: VISITOR ARRIVALS; S'PORE INFLATION; MALAYSIAN GAMBLERS

The Macau Metro Monitor, November 22nd, 2010


 

VISITOR ARRIVALS FOR OCTOBER 2010 DSEC

Total visitor arrivals rose by 7.5% YoY to 2,092,343.  Visitors from Mainland China increased by 6.7% YoY to 1,124,061 (53.7% of total), with 479,516 traveling to Macau under the Individual Visit Scheme (up 3.9% YoY).  Visitors from Hong Kong (629,233), Malaysia (27,454) and Republic of Korea (21,931) grew by 14.0%, 5.9% and 59.8% respectively, while visitor arrivals from Japan (29,637) held stable compared with that of October 2009; however, those from Taiwan (98,674) decreased by 6.8% YoY.    

 

THE M3: VISITOR ARRIVALS; S'PORE INFLATION; MALAYSIAN GAMBLERS - macau111

 

OCT INFLATION HITS 3.5% Strait Times, RTT News

Oct CPI of 3.5% was lower than the market's forecast of 3.7%.  Month-on-month, CPI rose 0.5%.

 

S$96M 'LOST' IN SINGAPORE Asia One

MCA national organizing secretary Tee Siew Kiong believes Malaysians gamble away about RM230 million (S$96 million) a month.  His calculation is based on 3,200 people crossing over in buses or cars to gamble in the two S'pore IRs, spending an average of S$1,000 (RM2,400) every day.  The casinos have been giving free meal vouchers and free return trip for those who bought a minimum token of RM240 to gamble.  Also, transport operators get a RM900 bonus if they bring in a busload of passengers to the casinos.


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THE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP - November 23, 2010

As we look at today’s set up for the S&P 500, the range is 51 points or -2.16% downside to 1172 and 2.10% upside to 1223.  Equity futures are trading lower as uncertainty prevails over the Irish bailout and following reports of North Korea firing artillery shells on a South Korean island.

 

In important MACRO data today: Q3 GDP (first revision), Oct Existing Home Sales and Nov FOMC Minutes.

  • Brocade Communications Systems (BRCD US) sees 1Q adj. EPS, rev. below est.
  • Hewlett-Packard (HPQ) boosted FY adj. EPS forecast above est.
  • La-Z-Boy (LZB) 2Q sales missed est. 
  • Oxford Industries (OXM) prelim. 3Q adj. EPS above est.
  • China Xiniya will start trading today on the New York Stock Exchange under the ticker XNY. Zogenix will list on the Nasdaq
  • Stock Market under the ticker ZGNX.

 PERFORMANCE

  • One day: Dow (0.22%), S&P (0.16%), Nasdaq +0.55%, Russell +0.41%
  • Month-to-date: Dow +0.54%, S&P +1.23%, Nasdaq +0.98%, Russell +3.41%
  • Quarter-to-date: Dow +3.62%, S&P +4.96%, Nasdaq +6.9%, Russell +7.57%
  • Year-to-date: Dow +7.2%, S&P +7.42%, Nasdaq +11.58%, Russell +16.3%
  • Sector Performance: Tech +0.59%, Consumer Discretionary +0.33%, Utilities +0.24%, Materials +0.16%, Healthcare (0%), Consumer Staples (0.08%), Telecom (0.31%), Industrials (0.33%), Energy (0.39%), and Financials (1.41%)

 EQUITY SENTIMENT:

  • ADVANCE/DECLINE LINE: 58 (-476)  
  • VOLUME: NYSE: 918.82 (-16.60%)
  • VIX: 18.37 +1.83% - YTD PERFORMANCE: (-15.27%)
  • SPX PUT/CALL RATIO: 2.21 from 1.09 +102.44%

CREDIT/ECONOMIC MARKET LOOK:

  • TED SPREAD: 15.56 -0.406 (-2.544%)
  • 3-MONTH T-BILL YIELD: 0.15% +0.01%
  • YIELD CURVE: 2.31 from 2.36

COMMODITY/GROWTH EXPECTATION:

  • CRB: 298.02 -0.29%
  • Oil: 81.74 -0.29% - NEUTRAL
  • COPPER: 376.20 -2.09% - BEARISH
  • GOLD: 1,358.43 +0.33% - BEARISH

CURRENCIES:

  • EURO: 1.3588 -0.62% - NEUTRAL
  • DOLLAR: 78.682 +0.23%  - BULLISH

OVERSEAS MARKETS:

European markets:

  • FTSE 100: (0.62%); DAX (0.19%); CAC 40 (0.95%)
  • Indices are trading firmly lower as concerns over the state of the European debt crisis and North Korea shelling South Korean positions triggers risk aversion.
  • A stronger dollar keeps Basic Resources shares lower, while banks stay below the gain line reeling from uncertainty amid the economic crisis.
  • Eurozone Nov preliminary Manufacturing PMI 55.5 vs consensus 54.4 and prior 54.6
  • UK Oct mortgage approvals for home purchases 30,766 vs consensus 31,000 and Sep 31,058
  • Germany Nov Flash Manufacturing PMI +58.9 vs consensus +56.8 and prior +56.6
  • Germany Nov Flash Services PMI +58.6 vs consensus +56.0 and prior +56.0
  • Germany Q3 Final GDP +3.9% y/y vs preliminary +3.9%
  • France Nov preliminary Manufacturing PMI 57.5 vs consensus 55 and prior 55.2
  • France Nov preliminary Services PMI 55.7 vs consensus 54.8 and prior 54.8.
  • France Nov Business Climate +100 vs consensus +102 and prior +102
  • Spain sells €2.09B 3-mth t-bills, bid-to-cover ratio 2.3 vs 2.8 in last auction, average yield 1.743% vs 0.951% last auction  

Asian markets:

  • Nikkei (closed); Hang Seng (2.7%); Shanghai Composite (1.94%)
  • Asian markets went down today on worries about European debt. Sentiments were further dampened when news broke of military hostilities on the Korean peninsula just after South Korea closed. The news caused investors to run to the US dollar, adding pressure to commodities prices and resource shares.
  • In sluggish trading, South Korea fell. Hyundai fell 3% on worries about labor disputes; Kia Motors declined 2% in sympathy.
  • Australia weakened on concerns about European debt and weaker demand for metals from China. Banks and miners fell.
  • Commodities stocks were the biggest drag on China, though the market did recover more than a third of its loss in the late afternoon. Energy and mining shares were hit when the National Development and Reform Commission ordered coal miners to stabilize their prices after recent rises.
  • Hong Kong Exchanges and Clearing fell 3% despite announcing it will extend its trading hours in March. Li & Fung fell 2% after saying it would buy Oxford Apparel. Large property stocks gave up 2-3%, and CNOOC lost 3%.
  • Japan was closed for Labor Thanksgiving Day.

Howard Penney

Managing Director

 

THE DAILY OUTLOOK - setup

 

THE DAILY OUTLOOK - S P

 

THE DAILY OUTLOOK - VIX

 

THE DAILY OUTLOOK - DOLLAR

 

THE DAILY OUTLOOK - OIL

 

THE DAILY OUTLOOK - GOLD

 

THE DAILY OUTLOOK - COPPER

 


Global Shakedown

“No matter what you do I'm gonna take you down.”

-Bob Seger

 

Bob Seger is a 65-year old American singer-songwriter from Detroit, Michigan. In 1987, he released “Shakedown.” It eventually became a #1 hit on the Billboard Hot 100. Most movie-soundtrack buffs will recall this song from Beverly Hills Cop.

 

This morning the Fun Cops of global risk management have apprehended the perma-bulls. Lest the bulls who don’t do mean-reversion forget that the SP500 is still up +77.1% from the March 2009 lows and, as Seger sings, “everybody wants into the crowded line.”

 

This morning’s headlines are multi-factor, multi-duration, multi-risk:

  1. Korea sees both civil and military casualties overnight as a 27-year old boy-king in the North makes a statement to the South.
  2. Asian stocks continue to breakdown with China closing down another -1.9% overnight, taking its cumulative decline since 11/8 to -10.5%.
  3. Sovereign yields 3-mth Spanish debt rocket to the upside in a terribly received bond auction yielding 1.74%! versus 0.95% prior.

What does this mean? What do we do? I think those of us who have seen the confluence of the following Top 3 global macro factors colliding for the last month are already positioned:

  1. Global growth is slowing
  2. Global inflation is accelerating
  3. Interconnected risk is compounding

There are plenty of other risk factors causing a Global Shakedown in the immediate term TRADE lines across our interconnected global risk management model (Quantitative Guessing, Financials freak-out, Yield Spread compressing, etc.),  but before we revisit the aforementioned Top 3, let’s look at those breakdown lines in some of the major country indices:

  1. SP500 Index = 1,997
  2. Dow Jones Industrial Avg = 11,199
  3. China’s Shanghai Composite = 3,008
  4. Hong Kong’s Hang Seng = 23,902
  5. India’s BSE Sensex = 20,386
  6. UK’s FTSE = 5,792
  7. Spain’s IBEX = 10,591
  8. Italy’s MIB = 21,181
  9. Brazil’s Bovespa = 70,929

In risk management speak, we call this Geographical Risk Factoring. Weakness in one country doesn’t always interconnected risk make in others. However, sustained weakness across geographies on our most immediate-term risk management duration (TRADE) is usually a very early signal for global risks to compound. These risk factors include: Style Factoring, Size Factoring, Liquidity Factoring, etc…

 

I’m not saying this market is going to crash today. I’m simply saying that the probability of a correlated and compressed-crash continue to climb. To a degree, this has already happened in Chinese and Spanish equities (down -10.5% and -9.5%, respectively, from their recent peaks in very short order). Again, these are equity market signals. But the equity bulls will have a hard case to make that the Mr. Macro Bond Market has been flashing anything bullish for the last three weeks.

 

Back to my Top 3 fundamental risks:

  1. Global Growth Slowing – After seeing broad based slowdowns in Asian Q3 GDP reports yesterday (Indonesia, Malaysia, Thailand), this morning South Africa reported a sequential slowdown in Q3 GDP to +2.6% (vs +2.8% last quarter).
  2. Global Inflation Accelerating – The good news here is that post Bernanke’s QG = INFLATION experiment taking plenty of commodity prices at or above all time highs, prices have come down in the last 2 weeks. The bad news is that the global inflation genie is out of the bottle and she’s hard to stop. Consider this Bloomberg News quote from a Chinese noodle shop dude this morning: “Standing near his 12-table noodle shop on Beijing’s Yonghegong Avenue, ower Liu Heliang says meat and vegetable prices have climbed 10% in a year and staff wages are up 40%.”
  3. Interconnected Risk Compounding – review all of the factoring I have gone through so far. In the US we think it all equates to Jobless Stagflation.

Now a bull could say that Germany’s GDP growth of +3.9% for Q3 was outstanding on both a relative basis to the EU (and the US) and on an absolute basis as the Germans continue to drive exports into a friendly Chinese relationship (Exports up +2.3%). I’ll agree with that. That’s why we have a 6% position in our Hedgeye Asset Allocation Model to German Equities (EWG).

 

While we have plenty of short positions to express the Global Shakedown risk (see my Early Look Note from November 8th titled “Tightly Squeezed” where we published our top 15 short ideas across asset classes), there are some things that we really like on the long side (alongside Germany) on a day like today:

  1. Long the US Dollar (UUP)
  2. Long the Chinese Yuan (CYB)
  3. Long Gold (GLD)

From yesterday’s price levels, I also think a 64% position in Cash is the right position to be in. Most asset managers will quibble with that for obvious reasons that are structural to their business models, but I really think the better benefit of the doubt this morning should go to the Thunder Bay Bear.

 

“Shakedown… Breakdown…Takedown… Everybody wants into the crowded line…”

 

My immediate term support and resistance lines  for the SP500 are now 1172 and 1197, respectively.

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Global Shakedown - fire


JACK - IN A DEEP HOLE WITH NO LADDER

Conclusion: While the company conference call may shed some light on how management is going to turn things around, right now what JACK is doing is not working.

 

For 4QFY10 Jack in the Box company same-store sales declined 4.0%, with the same excuse of the concept continuing to be impacted by high unemployment in key markets for the key customer demographics.

 

One a two years basis same-store sales improved only 20bps as the company strategy of quality improvements to signature products are not gaining traction.  The strategy for 2011 will include a substantial completion of the restaurant re-imaging program, which will continue to penalize EPS in 2011.  The company is currently guiding to same-store sales of -1% to +1% at Jack in the Box company stores for 1QFY11, which implies things get worse on a 2yr basis from 4QFY10.

 

Yet management hopes that these initiatives will increase the customer appeal of the Jack in the Box brand and provide a catalyst for sales growth when unemployment and consumer spending begin to improve.  Additionally, getting the system to look good is getting incrementally more expensive too.  Diluted earnings per share guidance of $1.41 to $1.68 (consensus at $2.01) includes approximately $0.10 to $0.12 of incremental re-image incentive payments to franchisees in fiscal 2011 as compared to fiscal 2010.

 

It’s expensive to hope and pray things get better?

 

Consolidated restaurant operating margin was 12.5% in 4Q10 versus 15.8% last year - sales deleverage negatively

impacted margins by approximately 110 basis points in the quarter. 

  1. Food and packaging costs were 90 bps higher - overall commodity costs were approximately 3% higher, driven by higher beef, cheese and pork costs which were partially offset by lower costs for poultry, shortening and bakery products.
  2. Payroll and employee benefits costs were 29.9% vs. 29.6% the same quarter one year prior. 
  3. Occupancy and other costs increased 210 bps primarily to sales deleverage, higher depreciation resulting from the company’s ongoing restaurant re-image program, increased repairs and maintenance, and additional costs relating to guest service initiatives.

I completely understand why the company wants to refranchise the store base down to 20% company owned, but getting from A to B continues to be a struggle.  The 4Q10 gains on the sale of company-operated restaurants included the sale of an entire market with lower-than-average sales and cash flows.  To get the sales done, the company provided $23.1 million in financing during the quarter for two of the six refranchising transactions, including the entire market sale.  Importantly, $18.7 million has been repaid thus far in the first quarter of 2011.

 

The penalty the company is paying right now to fix the business and get the business model is a big drag on EPS and the confidence level that things will improve is low.  To make my point I have included the matrix chart for JACK and for MCD.  When there is any expectation that JACK can get to Nirvana, with positive same-store sales and expanding operating margin, the stock will move accordingly.

 

JACK - IN A DEEP HOLE WITH NO LADDER - jack sss

 

JACK - IN A DEEP HOLE WITH NO LADDER - JACK MATRIX

 

JACK - IN A DEEP HOLE WITH NO LADDER - MCD MATRIX

 

Howard Penney

Managing Director

 

 


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