Lower-Highs: SP500 Levels, Refreshed

POSITION: No position in SPY


Consolidation or correction? Well the correction part has been solved for – at least the first 3% of one. Since the hyped-up highs that we established in the SP500 on February 18th, the US stock market looks a lot like Japan’s – struggling to convince itself that this time is different.


The best way to answer how something isn’t different is to look at what is actually happening: 

  1. Inflation is slowing global economic growth – that’s happened many times before , across many economic cycles
  2. The US Dollar Debauchery and correlation risk associated with it isn’t any different than France, Britain or Japan trying the same
  3. Asset Prices, whether they be US Homes or US Stocks, are making lower long-term highs in terms of prices 

Obviously between all of the correlation risk and storytelling about growth, no matter where you stand on the “fundamentals”, you’ll have to agree with one major birth child of all this US Government Intervention and Central Planning – volatility. Price volatility is back – and the VIX has moved back to a bullish position on both our TRADE and TREND durations with considerable support around the 18 level.


Getting above the 1316 line this morning in the SP500 has been inspirational, but we think this low-volume rally associated with dollar UP/oil DOWN will run out of steam at another lower immediate-term high of 1333.


In the immediate-term, the best way to play price volatility is to trade it. Use 1 as your intermediate-term risk management range. In the Hedgeye Portfolio, I am leaning long (15 LONGS, 9 SHORTS), but I’ll keep that exposure on a short leash.



Keith R. McCullough
Chief Executive Officer


Lower-Highs: SP500 Levels, Refreshed - 1


How will Starbucks enter the single-serve brewing market?  People continue to offer their theories on who would be the best partner for Starbucks.  Just a few weeks ago, I said that I thought Tassimo, a brand with global penetration, would be a more suitable partner than the more U.S.-centric Keurig brand.  I still don’t think Starbucks will partner with GMCR, but according to the following update on Starbucks, which is being provided on Tassimo’s website, Tassimo is an unlikely partner as well.


“As you may have read, the strategic partnership between Kraft Foods and the Starbucks Coffee Company will end on March 1. As a result, we will be unable to offer Starbucks and Seattle’s Best Coffee products for Tassimo once existing inventories of coffee are depleted. While supplies last, availability of all varieties of Starbucks and Seattle’s Best Coffee for Tassimo will vary, depending on local inventory and demand.”

SBUX’s not partnering with Tassimo makes sense, however, given the recent comments made by CEO Howard Schultz in his memo to Starbucks partners.  As I wrote in a February 17th post titled “SBUX – MY TAKE ON THE STARBUCKS MEMO FROM TODAY…”, I interpreted Mr. Schultz’s comments to say, among other things, that Starbucks is completely capable of internally developing its own innovative products to dominate every segment of the coffee market, including the single-serve brewing segment and none of the single-serve brewing systems currently available to the market are good enough to be tied to the Starbucks name.



Howard Penney

Managing Director


The U.S. shortfall is overshadowing the stronger-than-expected results in Europe and APMEA.


For the second consecutive month, MCD’s same-store sales results fell short of street expectations in the U.S. while exceeding consensus estimates in Europe and APMEA.  The company’s comps came in up 2.7% in the U.S. relative to the street’s 3.6% estimate, up 5.1% in Europe versus the street at +3.6% and up 4.0% in APMEA, much better than the street’s +1.8% estimate.


Trends in Europe have remained solid for the second consecutive month after decelerating sharply in December.  Although two-year average trends decelerated nearly 70 bps in February on a calendar-adjusted basis, this was expected after the more than 400 bp sequential improvement in January. 


MCD’s APMEA segment posted its third consecutive month of accelerating two-year average trends in February.  The company’s +4.0% comp growth was particularly impressive given the fact it was lapping a+10.5% comp from February 2010.


Despite these strong results internationally, MCD overall results are being overshadowed today by the lower-than-expected U.S. numbers.  Although MCD is a global company, MCD’s U.S. segment still accounts for about 45% of the company’s total operating income and investor sentiment still seems to be driven largely by the U.S. story.


Two-year average trends in the U.S. moved slightly higher in February, up nearly 20 bps to about 1.7% (on a calendar-adjusted basis).  Although some investors may be encouraged by this sequential improvement, I continue to think people are too bullish about MCD’s momentum in the U.S. as evidenced by the company’s posting another monthly comp result below expectations.


I continue to believe MCD’s comp trends will slow as we progress through the year and the reported March same-store sales result will likely turn negative as the company faces its first difficult monthly comparison of the year.  In March 2010, MCD reported a +4.2% comp relative to -0.7% in January and +0.6% in February of 2010.  Even if the company can maintain its two-year average trend from February, it would imply a -1.6% comp in March.  For reference, MCD has not posted a decline in monthly same-store sales growth since January 2010.


The comparisons will remain difficult for the balance of the year, particularly in the summer months when the company laps its initial smoothie/frappe rollout.  MCD has said that 2-3% comp growth is necessary in the U.S. to maintain margins in 2011 as a result of commodity inflation.  If the company can maintain two-year average trends for the remainder of the year, it implies a 0.5% decline in FY11 same-store sales growth in the U.S. and I would not be surprised to see two-year average trends decelerate from current levels.  Either way, I would expect MCD’s U.S. comp results to fall short of investor expectations in FY11.








Howard Penney

Managing Director



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R3: JWN, COST, URBN, and India


March 8, 2011


  • Add Costco to the list of retailers looking to increase their presence in the bridal business.  Costco is collaborating with designer Kirstie Kelly to offer six wedding dresses priced from $700 to $1400.  Word has it that the dresses will be merchandised in a shop-in-shop manner via special four-day trunkshows.  The roaming sale events will come complete with fitting rooms, bridal consultants, and a lounge. 
  • URBN outfitters is one of the first US based retailers to note a negative impact from the increased VAT in the UK along with broader austerity measures.  While US comp momentum has improved to pre-January levels so far in 2011, Europe remains slightly below early 4Q trends.
  • Innovative marketing can still work, as evidenced by Kimberly Clark’s social sampling promo for Kleenex.  The brand shipped 1 million mini-boxes of tissues to consumers as part of its “Softness Worth Sharing” campaign.  The social media driven program let people send samples to friends and family via  Overall market share is up 3.9 points since the campaign began.



New Balance Takes on Nike in Commercial -  In one of the commercials for its new "Make Excellent Happen" campaign, New Balance Inc. makes a relatively rare move of comparing one of its shoes to its largest competitor, Nike. The Nike Lunarglide is shown on digital scale weighing 11 ounces while New Balance's new 890 is shown on a scale next to it initially weighing 11.1. After a bunch of nuts and bolts are literally dumped from the New Balance shoe, the weight of the 890 is shown reduced to 9.7 ounces. In the 16-second commercial, the narrator first intones, "Introducing the New Balance 890 with Revlight." A hand then pours out a clank of screws out of the 890 to reduce the weight from 11.1 ounces to 9.7 ounces. The narrator then continues, "It weighs practically nothing...It's about to change everything...New Balance. Let's make everything happen." <SportsOneSource>

Hedgeye Retail’s Take:   Marketing aside, it’s the powerful combo of fresh marketing of fresh product that continues to keep us enthused with the athletic footwear and apparel space.


HauteLook kicks off SoleSociety - Flash sale retailer HauteLook launched today, a membership site that offers personalized recommendations and sends shoppers a new pair of shoes each month for a set price of $49.95. First-time visitors to take a quiz that uses celebrity and runway images to determine their “StyleBio.” Shoe selections are then personalized based on the bio and highlighted in the shopper’s “Closet.” Members then choose from the styles offered on the site each month. Registration and shipping are free and members have the option to purchase as many shoes as they’d like or skip buying in any month. Members have until the fifth day of each month to decline the shoe selection on the web site; otherwise the shoe selection will be shipped and the member’s credit card charged. <InternetRetailer>

Hedgeye Retail’s Take: Clearly an innovative proposition that combines fashion with replenishment.  We do wonder however how many people will buy-in for a new pair of shoes each month as well as what the return rates will be given sizing inconsistencies between brands.


J. Crew Sale Completed - J. Crew Group Inc. said Monday that its acquisition by affiliates of TPG Capital and Leonard Green & Partners for $2.86 billion has been completed. The affiliates, Chinos Holdings Inc. and Chinos Acquisition Corp., paid $43.50 a share in cash. The transaction was approved by J. Crew’s stockholders at a special meeting of shareholders on March 1. The stock, which had traded under the symbol “JCG,” will be delisted. The deal spawned a lawsuit by investors against J. Crew in Delaware Chancery Court hoping for a higher price per share as shareholders complained that chairman and chief executive officer Millard “Mickey” Drexler held discussions with the private equity firms about a deal before telling the retailer’s board. The two sides reached a $10 million settlement in January, but then the shareholders tried to renege on the agreement. Meanwhile, the lawsuit is still on the court’s docket. A Delaware judge is expected to rule on the validity of the settlement. <WWD>

Hedgeye Retail’s Take:  Unfortunately this means a less exciting conference circuit with one of retail’s more animated and brutally honest CEO’s no longer having to cater to the Street.  Of course there will be a road show at some point.


Frey Wille Opens in New York - Viennese fine jeweler Frey Wille tiptoed into the American market with the opening of its first New York flagship on Monday, on Madison Avenue. The 900-square-foot space is being subleased from handbag brand Furla. Frey Wille chief executive officer Frederich Wille said the firm was drawn to this location as it offered a four-year lease, as opposed to the standard 10-year investment.Though Frey Wille has 85 boutiques worldwide, this is only its second flagship in the U.S. The first opened in Santa Monica, Calif., in November 2005. <WWD>

Hedgeye Retail’s Take:  For those less familiar, Frey Willie is primarily centered on hand-decorated enamel designs at the higher end of the fashion jewelry pricing spectrum.


Apparel Retailers' Pricing Power is Tested - While some retailers are starting to let clothing prices rip, others are still trying to avoid further cuts. Aeropostale, for example, is expected on Thursday to post a year-on-year drop in earnings per share for its January quarter. Surging costs on everything from cotton to fuel and overseas labor are creating headaches up and down the retail supply chain and leaving many companies with little choice but to start raising prices. That is plenty risky in the current environment, however: Morgan Stanley estimates U.S. apparel-sales volume could fall 2.2% this year if prices rise 4%. The hit could be worse for some retailers than others, as a number of earnings reports this week from specialty stores like Aeropostale and AnnTaylor Stores are likely to show. Best-positioned are chains like Lululemon and, to some degree, AnnTaylor that have pricing power: strong brands and financially sound customers willing and able to pay up. <WallstreetJournal>

Hedgeye Retail’s Take:  Hard to believe Ann Taylor has pricing power since the company adopted a fairly aggressive promotional strategy a few years.  Yes the brand is being turned around, but pricing power is something we normally associate with true differentiated content such as Ralph Lauren or Nike.


Microsoft Partners with Dealmap, Gets into Social Shopping - Microsoft Corp. is getting into social shopping.  Thursday, the software giant said it was partnering with The Dealmap, an aggregator of local and national deals, a move that would allow it to use its 13.1% share of the search market to offer vendors bigger audiences than they currently reach. The alliance will allow advertisers to reach both desktop and mobile users of the software giant's Bing search engine. Partnering with The Dealmap, owned by Menlo Park, Calif.-based Center'd Corp., pushes Microsoft into the newly emerging group-shopping business. Social shopping allows businesses to reach larger pools of customers by offering discounts on goods and services to people who sign up for the bargains.  <WallstreetJournal>

Hedgeye Retail’s Take:   Yet another player (and late adopter) to the social buying world.  With so many offers being pushed at the consumer we wonder how long this deal-spam will ultimately last.  As soon as the deals become overly restrictive or laden with fine print, we’re pretty sure the consumer will smarten up.


Retailers on Strike in India - More than 10,000 retailers of branded apparel — including small shops in markets and in bigger malls — shut their doors throughout India Monday in an act of solidarity with fashion manufacturers. Producers in India have been protesting since the government unveiled a 10 percent increase in excise duty on branded apparel last week. On Friday, more than 100,000 factories closed in a protest orchestrated by the Clothing Manufacturers Association of India. “We have to encourage consumption and not discourage it,” said Kumar Rajagopalan, chief executive officer of the Retail Association of India. The strike is estimated to have caused the loss of about $38 million worth of business in a single day. <WWD>

Hedgeye Retail’s Take:  Certainly an odd set of events and timing with the impending rise in manufacturing costs likely to hit India as hard as any cotton producing nation.  The backlash from such a move is sure to continue beyond the protests.  Petitions to repeal the bill have already been floated.


Supply of Ultrafine Leather Runs Short in China- Due to the strong growth in the consumption of ultrafine PU leather in China, the sector has been experiencing a short supply, reported the China Leather Industry Association. Over seventy million square meters of ultrafine PU leather were consumed in China in 2009, it is estimated the consumption will reach 110 million square meters in 2011 and 129 million square meters in 2012. The growth rate will be above 20%, said the Association. Despite the twenty million square meters of the production capacity will be added to the industry, it still is hard to meet the increasing demand in the next two years. <FashionNetAsia>

Hedgeye Retail’s Take:  For those less familiar, “Ultrafine Leather” is not leather at all .  It’s actually synthetic leather, albeit a higher quality version of vinyl.


Notable news items/price action from the past twenty-four hours.

  • SBUX will begin selling instant coffee in China next month.   The stock gained 1.4% yesterday, outperforming QSR peers, on accelerating volume. 
  • SONC was upgraded to Neutral from Negative at Susquehanna.  Yesterday the company announced its estimate that second fiscal quarter same-store sales increased 1.0%-1.5% for the quarter, continuing the improving sales trend from the first quarter.
  • EAT gained 4.3% on strong volume following yesterday morning’s upgrade from UBS on stabilizing Chili’s trends.
  • DIN declined 5% on accelerating volume.  DIN spoke at the RJ conference yesterday.
  • CMG was downgraded to Underperform from Hold at Jeffries.  Rising food cost inflation was cited as the reason behind the change and the price target provided was $198.
  • CBRL gained 50 basis points on accelerating volume but will likely underperform if oil trends higher. 
  • MCD U.S. comps came in at +2.7% versus the estimate of +4.0%.  I will have a more detailed post on this later this morning.
  • TAST trading up on accelerating volume - Burger King gaining some traction?
  • An interesting story on highlights growing scrutiny restaurant companies are being placed under about the legal status of their workers.  Pei Wei Asian Diner is the latest target of investigation in this regard following the (ongoing) investigation of CMG that came to light recently.



Howard Penney

Managing Director


“Tis one thing to be tempted, another thing to fail.”

-William Shakespeare


I sold my long positions in oil (OIL) and Brazilian oil giant Petrobras (PBR) on yesterday morning’s opening market strength. This doesn’t mean I am not bullish on either (in the Hedgeye Portfolio we are still long China National Offshore –CEO, and Suncor -SU). This simply means that my risk management model was calling them both out as immediate-term overbought.


Overbought is as overbought does. Sometimes my risk management signals are wrong. Most of the time they aren’t. Temptation is always there to violate my investment process. Most of my big mistakes are a direct function of giving in.


What if I gave into consensus on February the 18th and bought the SP500 at 1343? What if I gave into the Temptation of The Flows into US and Japanese Equities that peaked in the same week? What if I saw the hedge fund community’s highest net long position in bullish oil contracts yesterday (highest since 2006) and decided to ignore my risk management signal on the oil price?


“What if” may be an acceptable strategy for someone living in the theoretical. In this globally interconnected game of decision making however, there are no “what ifs.” There are players and pretenders. There are wins and losses.


Subliminally, I may have learned this risk management process from my Dad. Whether it was in his profession as a firefighter or in the game of life that he coached me – somewhere along the line I learned that we are all accountable for the decisions we make in this life and how those decisions affect others.


While I highly doubt that the US Federal Reserve is going to be sourcing risk management lessons from a few Canadian Bears on the topic of accountability, maybe they’ll re-read this quote about Temptation from their Maestro of ideological groupthink gone bad:


“The temptation is to step on the monetary accelerator or at least to avoid the monetary brake until after the next election… giving into such temptations is likely to impart an inflationary bias to the economy and could lead to instability, recession, and economic stagnation.”

-Alan Greenspan, 1993


Again, like any good Fire Chief or Global Macro Risk Manager, you should re-read that quote slowly. And read it again. While there is a Temptation to scan for headlines about some Libyan nut-job as opposed to understanding the long-term structural underpinnings of the The Inflation, it always pays to take the time to make the highest probability decisions based on the best information you have.


That Greenspan quote was highlighted by the late Austrian economist who I have cited recently - Murray Rothbard. Later on in his book, “The Case Against The Fed”, this is what Rothbard had to say in order to contextualize The Inflation that the Fed perpetuates:


“We are now so conditioned by permanent price inflation that the idea of prices falling every year is difficult to grasp. And yet, prices generally fell every year from the beginning of the Industrial Revolution in the latter part of the 18th century until 1940, with the exception of periods of major war.” (page 21)


Interestingly, Rothbard published this book in 1994 and passed away in 1995. Since, the American financial system has learned virtually nothing from these types of risk management perspectives. That’s because the modern day US Empire of Fiat Finance is grounded in a policy to inflate the stock market (see the inflation chart below dating back to the year 1500).


Can our industry or America’s conflicted and compromised politicians handle a deflation of inflated prices? Can they handle a reflation of the price of a Debauched Dollar? I think the answer to those questions is as clear as Americans living on entitlement goodies - many have a patriotic answer about debts and deficits, but they lack a pragmatic plan; particularly if the plan hits them in the wallet.


To be crystal clear on this, if I was damned into the job of Chief Central Planner in this country, this is what I would do:

  1. Raise interest rates
  2. Cut entitlement spending
  3. Strengthen the US Dollar

Points 1 and 2 address both monetary and fiscal policy head on. Point 3 would be the effect. Going back to the following experiences:

  1. 1950’s-1960’s France and Britain
  2. 1970’s United States of America
  3. 1990’s Japan

There hasn’t been a modern economy that has devalued its way to prosperity by debt financed deficit spending.


The Temptation is to create massive US Dollar denominated correlation-risk (USD inverse correlation to the price of oil is currently -0.93) that all interested inflation policy parties can blame on the Middle East or “global supply and demand imbalances” if unwound.


But be careful on that Temptation because it creates expectations. We Expect Price Volatility, not Price Stability. That’s why small business owners like me won’t jump in with both feet and start hiring aggressively. Anyone who has to meet a payroll in this country gets it – our medical and employment costs are rising as economic growth slows. As Greenspan reminded the Keynesians in 1994, that’s what The Inflation does.


Thankfully, one voting member of the Federal Reserve had the political spine to call this like it is yesterday. Dallas Fed President Richard Fisher told the Institute of International Bankers in Washington, DC that “the liquidity tanks are full, if not brimming over.”


Indeed Mr. Fisher. Indeed. That’s what printing money with an inflation policy achieves. It’s time to get out of the way, let the US Dollar strengthen, and the price of oil deflate.


My immediate term support and resistance levels for WTI Crude Oil are $101 and 107, respectively. My immediate term support and resistance levels for the SP500 are now 1297 and 1315, respectively.  


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Temptation - c1


Temptation - c2

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