prev

Infinitesimal Truth

This note was originally published at 8am on June 17, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Measured objectively, what a man can wrest from Truth by passionate striving is utterly infinitesimal.”

-Albert Einstein

 

What’s the truth? Greek politicians lied.

 

Market prices don’t lie; politicians do. We have politicians running countries and banks. Everyone but them realizes that most of them are market morons. Use that truth to your risk management advantage.

 

While professional politicians wouldn’t even know what Excel sheet to launch alongside a real-time market price to measure market risk, you can bet your Madoff that these people know how to manage their political career risk.

 

That’s what I expect to see coming out of this weekend in Europe. That’s why I think the Euro has an immediate-term bid this morning. That’s why I have looked at the 7th consecutive week of down Global Equities as a Short Covering Opportunity (moving to 12 LONGS, 7 SHORTS in the Hedgeye Portfolio).

 

What’s the truth?

  1. The US Dollar is finally stabilizing above our critical $74.41 support line
  2. The US Dollar going UP = Deflating The Inflation
  3. The Euro (and the Fiat Fools who back it) are perpetuating 1 and 2

To say that’s not the truth would imply that Mr. Macro Market is lying. There is Infinitesimal Truth in the market’s prices if you accept that A) uncertainty and B) interconnectedness can lead you to it.

 

What’s the truth?

  1. For June 2011 to-date, the SP500 is DOWN -5.8%
  2. For June 2011 to-date, the Russell2000 is DOWN -7.9%
  3. For June 2011 to-date, the CRB Commodities Index is DOWN -4.6%

At Hedgeye we’ve called this Deflating The Inflation (Q2 Macro Theme). It’s occurring in the price of your home, stocks, and commodities. And yes, in the end, Deflating The Inflation is going to be very bullish for Global Consumption (70% of US GDP).

 

What’s the truth?

  1. Week-to-date, the price of Oil (at $93, which was our target) = DOWN -6.1%
  2. Week-to-date, the price of Cotton = DOWN -10.1%
  3. Week-to-date, the price of Wheat = DOWN -9.9%

And the truth about Deflating The Inflation in commodity prices is that 99% of the free, socialist, and communist world likes it. As for the other 1% of us who are chasing monthly performance metrics to manage our own career risk, I don’t think God cares.

 

I’m not trying to be trite. I like God a lot – but he doesn’t owe me a return. From the day that I started this business, I have been focused on transparency, accountability, and trust. All encompassing in these principles is the truth.

 

Whether people who want to see me fail like it or not, the truth is that Hedgeye has been right on 16 of 17 closed positions (LONG and SHORT) in the Hedgeye Portfolio in June. The truth is that’s called alpha – and we want you to embrace the process that generated it.

 

We are passionately striving for Macro Market Truths. They are very different than political realities. Since the US Federal Reserve was created in 1913, the world has had to deal with the market volatility caused by Fiat Fools implementing short-term career risk policies.

 

I have been on the road talking about this chart for the last 10 weeks, so many of you who have given me some of your time will be familiar with it (see Chart of The Day attached). This is a Reinhart & Rogoff chart from “This Time Is Different” (by the way Mr. Greek Politician man, it’s not) that tracks the median inflation rate going back to the year 1500.

 

This is a Global Macro chart. And yes members of the Keynesian Kingdom, markets are now Globally Interconnected. Ever since the world allowed professional politicians to decide what the perceived “value” was for fiat currencies (the post Gold Standard period, 200 years of Global Industrialization, 1740 to WWII – see chart), we have done nothing but:

  1. Shorten economic cycles of inflation/deflation
  2. Amplify the volatility of those inflating/deflating prices

If La Bernank et La Trichet have an answer to the causality embedded in this 510 year picture, I think the 99% of us would be more than happy to hear their version of the truth.

 

My immediate-term support and resistance ranges for Gold (we are long), Oil (Goldman has been bullish; Hedgeye Bearish), and the SP500 (we have covered all sub-sector S&P ETF shorts), are now $1521-1554, $93.01-98.98, and 1260-1278, respectively.

 

Best of luck out there today and enjoy your weekend. Happy Father’s Day, Dad.

KM

 

Keith R. McCullough
Chief Executive Officer

 

Infinitesimal Truth - Chart of the Day

 

Infinitesimal Truth - Virtual Portfolio


Freaking Out About China?

Conclusion: The case for being long Chinese equities continues to strengthen by the day and as Chinese economic data starts to come in less and less bad, we expect shorts to cover on the lack of incremental catalysts and longs to dip their toes back into the water once prices start to confirm. Additionally, we touch upon key TAIL risks and reports of corporate fraud in the report below.

 

Position: Long Chinese Equities (CAF).

 

From a price and sentiment perspective, buying Chinese equities right now feels akin to catching a falling knife. Thankfully, however, we spend countless hours modeling prices, economic data, and probability-weighting certain scenarios so that we’re prepared to catch them by the handle and not the blade. Still, the overwhelming amount of negative sentiment surrounding China is hard to ignore – even from our typically contrarian seats.

 

From our vantage point, there are three key issues weighing on the prices of Chinese equities: 

  1. Growth is Slowing;
  2. Inflation is Accelerating; and
  3. Interconnected Risk is Compounding. 

If this sounds familiar it’s because it is the same three-factor setup we introduced in January 2010 when we turned bearish on China via our then-contrarian Chinese Ox in a Box thesis. Since the start of last year, Chinese equities have fallen -19.2% and at one point had lost over a quarter of their value.

 

Now, we have been sounding the bullish siren as the data supporting each of the three aforementioned factors goes from “bad” to “less bad” on a go-forward basis. What continues to differentiate our models from our sell-side “competition” is the acute focus on slopes rather than absolutes. Understanding that price is set on the margin affords us conviction in our belief that less-negative slopes are leading indicators for positives slopes – be it for prices, economic growth, etc.

 

So while it’s nice to say that our models suggests China is likely to print Real GDP growth in a range of +9.2% YoY to +10% YoY in 2Q11, the reality of the situation is that we really don’t care what China’s 2Q GDP number is so long as it falls within our range of probable scenarios. A slowdown of -50bps to +9.2% YoY is less than the -160bps decline from 1Q10 to 2Q10. An acceleration to +10% YoY would imply just that – reaccelerating growth. Either way, the outlook for Chinese GDP growth in the near term looks healthy to us. Even a continued deceleration in growth in 2H would auger bullishly should growth continue to slow at a slower rate.

 

Bottoms, like tops, are processes – not points.

 

On the inflation side, we have been vocal about two events that are explicitly bearish for Chinese inflation expectations, as well as expectations of further tightening of Chinese monetary policy. The first being our contrarian Macro Theme of Deflating the Inflation, which is supportive of our second theme – the belief that Chinese YoY CPI readings peak in June (itself supported by our models). On a go-forward basis, falling prices across the commodity complex will be a headwind to Chinese inflation statistics. Sure, there will be commodities like corn that may hang in there, but the broader trend throughout this asset class is negative over the intermediate term. The quantitative setup in the CRB confirms this:

 

Freaking Out About China? - 1

 

Lastly, from an interconnected risk perspective there doesn’t appear to be much else that could possibly go wrong in China without materially affecting the rest of the world. For example, Narrative Fallacies around the bursting of China’s alleged property bubble and a looming Local Government Financing Vehicle debt crisis are abound in the media.

 

Freaking Out About China? - 2

 

Falling prices have a certain way of making the bears loud just as rising prices tend amplify the volume of bullish sentiment.

 

We have done and will continue to do the work regarding the aforementioned risks and our conclusion remains that they are unlikely to materialize over the intermediate term. That is not to say these risks are to be ignored over the long-term TAIL; we are, however, doing our best to manage the Duration Mismatch associated with the bull and bear case for Chinese equities. Simplistically speaking, any intermediate-to-long-term investor that is using the China blow-up thesis as his or her base case should also find it hard to be long anything equity or commodity related going forward. As the world’s second largest economy and greatest source of incremental demand, a material unwinding of China and/or its banking system will have a substantial negative impact on the global economy. For reference, the Chinese economy is nearly 1.5x the size of all the PIIIGS combined (Portugal, Ireland, Iceland, Italy, Greece, and Spain).

 

Net-net, if you’re bearish on China on blow-up risk alone, we’d reckon you rethink your entire portfolio.

 

Additional interconnected risks weighing on both Chinese equity prices and sentiment in recent months are horror stories of fraudulent reverse mergers and outright fraud – particularly in the highly publicized case of Sino-Forest Corporation. Prior to a peak-to-present decline of -92.4% on the Toronto Stock Exchange, Sino-Forest used to be a $6.3 billion commercial forest plantation operator in mainland China. Now, after a painful exposition by Muddy Waters LLC in which the tree operator’s reported acreage was aggressively called into question, TRE.TO is now listed as a $483 million enterprise. The Enron-like plunge certainly raises a few questions about the validity of Chinese corporate earnings broadly, and as such, we agree with the market paying a lower multiple for that.

 

Freaking Out About China? - 3

 

Both anecdotal evidence and historical analysis of Chinese listed enterprises confirm that reporting fraud on a broad scale has precedent in China. From 1 when a series of profitability hurdles were implemented to curb the aggregate volume of secondary offerings, the percentage of listed enterprises demonstrating a return on equity greater than the newly required 10% over three years grew +2,140bps or 25.3x to a peak of 28.8% in 1997. A similar trend emerged (albeit to a lesser extent) in 1999 when the reporting requirement was reduced to 6%.

 

Freaking Out About China? - 4

 

Net-net, it’s important to know what you own when it comes to China. The same can be said about any exposure an investor chooses to undertake, however. Doing the required due diligence is not a requirement specific to Chinese investments as some would have you believe.

 

All told, the case for being long Chinese equities continues to strengthen by the day and as Chinese economic data starts to come in less and less bad, we expect shorts to cover on the lack of incremental catalysts and longs to dip their toes back into the water once prices start to confirm.

 

Lastly, let us leave you with three legendary quotes on investing from three legendary investors. Taken in their entirety best sums up how we feel about our Year of the Chinese Bull thesis. 

  1. “Most people get interested in stocks when everyone else is. The time to get interested is when no one else is. You can’t buy what is popular and do well.”Warren Buffett
  2. “Markets are constantly in a state of uncertainty and flux and money is made by discounting the obvious and betting on the unexpected.”George Soros
  3. “The time of maximum pessimism is the best time to buy and the time of maximum optimism is the best time to sell.”Sir John Marks Templeton 

Buy low; sell high.

 

Darius Dale

Analyst

 

Freaking Out About China? - 5


UA: Shorting (Again)

 

Keith Shorted UA again today in the Hedgeye portfolio for a TRADE. No change here to our fundamental view. As high as our conviction is that UA is investing in all the right areas, the reality is that the stock likely won’t go up as margins and cash flow go the other way. If our analysis holds true, UA will work again as they begin to harvest, which is early 2012. Until then we’ll continue to watch closely for entry and exit points.

 

UA: Shorting (Again) - UA VP 6 21 11

 

HERE’S OUR NOTE FOLLOWING THE COMPANY’S RECENT ANALYST MEETING:

 

I’m sitting on an Amtrak from UA’s analyst meeting in Baltimore back up to New Haven, and have a mixed analytical read to say the least.  I’m trying to ignore the fact that I am sitting next to Ray Lewis…No joke.  The dude is completely decked out in UA from head to toe…and he wears it well. (Note to self…I gotta start working out). We’re sitting here eating our Caesar Salads, and I have the screen brightness on my mac as low as possible so he can’t see what I’m typing. If he sees me write anything negative about the brand he knows and loves, I am mildly concerned that he’ll snap my left arm like a pencil.  Heck, maybe I’ll roll the dice let him read this when I’m done.

 

The punchline out of the UA meeting was very poignant. These guys are going to grow, grow, grow. The reality is that this is not exactly a change from the plan all along. Remember that UA could have been printing an operating margin double its 10-11% over the past 8 years if it desired to do so. But instead, it has reinvested in growth. That’s why it’s growing organically today at 20-30%. It’s also why they’ll keep doing that for the next 5 years at a minimum

 

The only new target thrown out today was that the company would double sales in 3 years – that’s a 28% top line CAGR. What I like here is that it is not just coming from US apparel. Consumer direct going from 6% of sales, to 10% (now)  to 23% by 2013 and ultimately 2030 is a massively ambitious goal. But that will help UA achieve these consumer-direct ratios that are double that of other brands.

 

It’s interesting to think about it, actually. Being such a young brand is a double edged sword. On one hand, they still have a lot of money to spend to get the size and scale to compete on a global cross-gender multi-sport basis with its rivals. But on the flip side, it is not hostage to the legacy processes that the traditional brands are married  to as it relates to building a business from scratch. They can shake the Etch a Sketch clean, and literally start fresh. This is particularly an opportunity for Gene McCarthy in building the footwear business, which we think already has a turn time that rivals Nike, and will only get better on the margin

 

Despite the hyper top line, however, management made it clear that it will not be afraid to spend money to achieve its goals. That’s fine with me. This is a business where you need to spend money to make money. Also, despite what doubters may think, this company has proven to be an ardent steward of capital in recent years.

 

All that said, capital investment and realization of financial rewards are not simultaneous nor are they linear. Unfortunately, the former needs to come first.

 

We continue to contend that UA is in an investment period today – in SG&A (Tom Brady, Cam Newton – current charges plus off balance sheet liabilities), cape (building store count to 80 by end of year), and working capital (building a footwear business and filling retail stores with product.)

 

People focus on sales momentum and EPS growth with this name, but another key stock driver is the cadence of SG&A combined with Capex and Working Capital. When all are headed in the same direction, the stock almost always goes the other way. 

 

Again, to say this brand is killer would be a massive understatement.  To say that the management  team has grown in breadth, depth and maturity is as well. My confidence level walking out of the meeting into the 100 degree Baltimore sun was quite high that this is one of those unique Consumer companies that will defy growth projections time and time again and will threaten Adidas as the #2 global athletic brand.

 

But we know that this is a punitive market. As working capital squeezes, our sense is that the stock will trade down on the margin.

 

The sentiment on the name is close to all time highs (78x), the stock is still peaky, and management stock sales have accelerated. (See our sentiment chart below).

 

When we put on our TAIL duration hat (3 years or less), we absolutely want to own this name. But holding true to our risk management framework, the TREND and TRADE don’t look compelling. We’ll hold on and look to buy this great company at a better price.

 

 


Attention Students...

Get The Macro Show and the Early Look now for only $29.95/month – a savings of 57% – with the Hedgeye Student Discount! In addition to those daily macro insights, you'll receive exclusive content tailor-made to augment what you learn in the classroom. Must be a current college or university student to qualify.

R3: TGT, WMT, BBY, AMZN

 

R3: REQUIRED RETAIL READING

June 21, 2011

 

 

RESEARCH ANECDOTES

  • According to a Consumer Report study, the Simple Touch Nook has scored above the Kindle for the first time since inception. In addition to a longer battery life, one of the key features that give it an edge is that it supports e-book loans from public libraries something other e-book readers provide as well. With another line from Sony expected later this month, the pressure is on Amazon to not only match, but surpass its competition when the e-book loan friendly version arrives sometime “later this year.”
  • An increase in online grocery shopping has spawned a new service from Nielson Research called Online Basket View. The research giant noted that online shoppers now account for ~2% of total consumer packaged goods in the U.S. a category that’s expected to double in size by 2014 to $24Bn. With both Amazon and Wal-Mart testing new delivery services with “Amazon Fresh” in Seattle and “Wal-Mart To Go” in San Jose that will expand the number of goods they offer, legacy grocers are faced once again with an increasing threat from online competitors. While consumers are likely to expand the scope of buying online from diapers alone, there is something about picking out your own produce that will likely limit just how much share online concepts can capture from legacy grocers.
  • After this weekend’s performance, expect to see more in the way of endorsement announcements involving Rory McIlroy who became the youngest player to ever win the U.S. Open. With current deals including only hotel operator Jumeirah, Titleist, and Oakley, the young star some have already dubbed as the next Tiger Woods has undoubtedly attracted the attention of higher profile endorsers albeit at what is now a considerably higher price tag.

OUR TAKE ON OVERNIGHT NEWS

 

Supreme Court Nixes Class Action Against Wal-Mart - The U.S. Supreme Court ruled in favor of Wal-Mart Stores Inc. on Monday, stopping what would have been one of the largest gender discrimination class action lawsuits in history from moving forward. The high court ruled that the case cannot advance as a class action, which could have potentially encompassed 1.5 million current and former female Wal-Mart employees and exposed the nation’s largest retailer to billions of dollars in liability.  Gisel Ruiz, executive vice president of people at Wal-Mart, said of the ruling, “The Court today unanimously rejected class certification and, as the majority made clear, the plaintiffs’ claims were worlds away from showing a company-wide discriminatory pay and promotion policy.”<WWD>

Hedgeye Retail’s Take:  WMT did not only dodge a bullet here, but they dodged a full scale biological warfare onslaught.

 

No Union Victory for Target Workers - Employees at Target Corp.’s Valley Stream, N.Y., store on Friday voted to reject the United Food & Commercial Workers International Union by a margin of 137 to 85, the Minneapolis-based retailer said. “The results of Friday’s union election loss are being contested by the UFCW Local 1500,” said Bruce W. Both, Local 1500’s president, adding that the union plans to begin a campaign, “Target: Democracy,” at the 26 other New York metro-area Targets. The vote was closely watched by retail and labor experts because it was Target’s first union election in 14 years. Regardless of its outcome, it is predicted to have far-reaching implications. A union victory could embolden workers at other big-box chains, retail experts said. According to the UFCW, publicity surrounding the Valley Stream Target sparked interest from workers at other area stores. Local 1500 represents 23,000 retail food workers in the New York metro area.<WWD>

Hedgeye Retail’s Take: This was a pretty wide margin against unionization. We find that surprising, yet encouraging, for the retailers. Combine this with Macy’s peaceful resolution to the NY Union  contract, and the Supreme Court striking down the gender discrimination suit at Wal-Mart, and it gives the impression that labor relations in US retail is in its ‘happy place.’

 

Best Buy Expands Cloud-Based Online Music Platform - Best Buy Co., the world’s largest consumer-electronics retailer, is expanding a U.K. online music platform to the U.S. to challenge Amazon Inc. and Apple Inc. (AAPL) in so-called cloud-based offerings, the technology supplier said. Best Buy’s U.S. Music Cloud service, powered by Catch Media Inc., is available for mobile devices such as Research In Motion Ltd.’s BlackBerry smartphone and those using Android technology, Catch Media Chief Executive Officer Yaacov Ben-Yaacov said today in a phone interview. The platform, marketed as My Music Anywhere in the U.K., is designed allow users to stream content they have purchased to a computer, mobile phone or tablet, eliminating the need to transfer and store computer files, Beverly Hills, California- based Catch Media said in a June 14 statement. The service is similar to Amazon’s Cloud Player, introduced in late March, and Apple’s iCloud platform, which will be rolled out this fall. <Bloomberg>

Hedgeye Retail’s Take: Seems to us that we’re simply talking data storage here. As we see with external hard drives on computers, brand name is irrelevant. Our sense is that there will be three deciding factors; 1) Price, 2) Ease of uploading huge amounts of data to the server (Amazon’s Cloud is not perfect in this regard), and perhaps most of all, 3) Trust. 

 

China Planning to Reduce Taxes on Luxury Goods - China is planning to reduce or possibly even eradicate taxes on imported luxury goods, state media reported Monday.  The finance ministry will introduce a new tariff system for overseas products, including high-end goods, by the beginning of October, the 21st Century Business Herald said. The newspaper did not outline any specifics of the new plan, only reporting that taxes will be lowered or removed on cosmetics, perfumes, watches, bags, shoes and watches.  The aim of the new plan is largely to boost domestic consumption. The Chinese are now among the biggest consumers of luxury products globally, however millions of domestic consumers travel to Hong Kong and Europe to avoid taxes on luxury products on the Mainland that can be as high as 60 percent. <WWD>  

Hedgeye Retail’s Take: The interesting slant here is that its moves won’t account for production moves by luxury goods manufacturers. Technically speaking, there’s no reason why China cannot produce most luxury items --- yet they are looking to boost imports. Our sense is that they boost Consumption while they incrementally incentivize local factories to build up their own capacity. Then in another 2-3 years, we’ll have a luxed-out Chinese consumer with deflating local prices due to better manufacturing costs.

 

Chinese Sports Industry Sets Five-year Target - The General Administration of Sport of China has recently released the 12th Five-Year Plan (2011- 2015) for the sports industry, aiming to increase the added value of the industry up to RMB400 billion, accounting for over 0.7% of the total GDP, sources reported. The group set a target for the industry's industrial added value to increase over 15 percent annually. By 2015, the sports industry, including the apparel, footwear and accessories sectors, should hire a total of over 4 million employees. And the industry should become one of the important growth points of China’s economy, according to the report. <FashionNetAsia>

Hedgeye Retail’s Take:  China is not just talking production; it’s also research, design and marketing of the content we see today. But keep in mind that it also includes local branding and retail distribution of local brands, which we think, on the margin, are as big a threat to the broader industry as anyone.

 

Pressure Mounting for Taxes on E-tail - Shopping the Internet tax-free may soon be a luxury of the past. A string of states is pushing legislation to require online sellers to collect sales taxes, while the U.S. Congress also may enter the fray as soon as this month with a bill to do the same. The controversy surrounding the issue pits Internet-only retailers, and other so-called “remote sellers” like catalogue companies, against traditional brick-and-mortar storefronts, including those with e-commerce sites that typically are required to collect sales taxes in states in which they have stores. The controversy often is misidentified as being focused on small Main Street retailers struggling against e-commerce behemoths. However, large multistate stores are on the side of small retailers in complaining that they are at a competitive disadvantage when consumers calculate the added cost of sales tax before shopping with tax-free, Internet-only Web sites. <WWD>

Hedgeye Retail’s Take: Our stance on this has been clear. Internet taxation is something you can take to the bank. It will happen. More of the questions surround how the States will claim to the Federal government what they view to be their fair share. As they see that bucket go up to very large numbers – which it will – then everyone will want a piece. We’d be surprised to see them get a single dime.

 

Tory Burch Unveils Madison Avenue Flagship Plans - Tory Burch’s Madison Avenue flagship, which is slated to open in September, is already making quite an artistic statement. On Thursday evening, a 60-foot-high hoarding went up at the store’s location at 797 Madison Avenue, unveiling a collaboration between the designer and street artist James De La Vega, which will extend into product in time for the opening of the 8,135-square-foot, four-story flagship. Madison Avenue will become the 54th Tory Burch store to open in the world. “It’s a big deal for the company, and for me personally,” Burch said of the Madison Avenue location. “Having a presence uptown was very important for us. We launched on Elizabeth Street in 2004 and it’s nice to come uptown now. I live uptown, and I used to eat at the Gardenia coffee shop [the site’s previous occupant].” <WWD>

Hedgeye Retail’s Take: Tory  Burch’s name is in the press every other week. The brand is hot – though to its credit, it has been managed since its 2004 launch in a way that is somewhat Ralph Lauren-esque. Our bet is that she becomes part of a bigger company within 12 months.

 

 


European Risk Monitor: Breath Holding Ahead of Greek Confidence Vote

Positions in Europe: Long Germany (EWG); Short Spain (EWP)

 

All eyes and ears are waiting for Greece’s confidence vote on PM Papandreou’s current government, scheduled to be announced by midnight local time, or 5pm EST tonight.

 

An expert on the Greek political state recently stated on a JPMorgan conference call that the probability that Papandreou’s leading PASOK party wins the confidence vote is around 75%. We think the number is realistic and expect, despite a few PASOK party dissenters in recent weeks, parliamentary heads to vote along the party line to secure their jobs.

 

Concerns over party defection should be put in context. Over the last 10 days 2 PASOK deputies resigned, meaning their seats were turned over to new PASOK members, and two members defected, meaning they refuse to vote for the party but don’t give up their seats. Currently PASOK has 155 seats in the 300 seat chamber, or a majority of 5 seats. While the party had as much as a 10 seat majority in 2009, history has shown that a party can rule with as little as a 1 seat majority.

 

The main opposition party, New Democracy (under the leadership of Antonis Samaras), currently polls around 30% approval, or around 10% higher than PASOK if elections were held today, awaits tonight’s vote. Commentators criticize New Democracy’s anti-austerity position and lean to renegotiate bailout terms with troika (ECB, IMF, EU) as short-sided and unrealistic for their positions are squarely against troika’s mandate that bailout monies will only be provided if the €78 billion austerity package [€28Bill in spending cuts and tax hikes and €50 billion sale of private assets by 2015] is passed. 

 

Risk, as reflected by Greek sovereign CDS spreads and bond yields, has come in over recent days reflecting the likelihood that Papandreou wins the confidence vote tonight and Greece receives future bailout funds (see chart below).  That said, risk in Ireland and Portugal continue to trend higher, and indicate once again that fiscal imbalances across the periphery are far from rear-view (see second chart below).  

 

European Risk Monitor: Breath Holding Ahead of Greek Confidence Vote - b. risky

 

European Risk Monitor: Breath Holding Ahead of Greek Confidence Vote - b. risk2

 

We expect to see EUR-USD support around $1.42 and trade up to $1.44 over the immediate term, bouncing on headline news, but ultimately finding support as big brother Troika steps in to aid Greece over the intermediate term.

 

 

Greece’s Timeline

If Papandreou wins the Confidence vote tonight, here’s a timeline of important events over the next weeks to keep ahead of:

 

Thursday, June 23-Fri June 24 – Summit of EU leaders to assess the 18-month-long debt crisis.

 

Thursday, June 30 – Greece votes on a €78 billion austerity package, the passing of which is a precondition, as defined by the European finance ministers, to get its next quarterly (€12 Bill.) installment of bailout money from Troika in July.

 

July 3 – Eurozone Finance Ministers meet.  Assuming the Greek parliament votes to pass the austerity/privatization measures, the next tranche of IMF money would be formally released following this Jul 3 gathering. 

 

July 11 – European Finance Ministers meeting.

 

 

Banks Indicate Risk

 

As is typical for our weekly European Risk Monitor, our European Financials CDS Monitor shows that bank swaps in Europe were wider last week, week-over-week.  35 of the 38 swaps were wider and only 3 tightened. The move is in line with the rising risk premium to own the perilous financial state of the periphery.

 

European Risk Monitor: Breath Holding Ahead of Greek Confidence Vote - b. risk 3

 

 

We do not currently see the weakness in Greek capital markets as a buying opportunity. For reference, Greek equities are down -27% since a high in February, and finished 2010 down -36%. We’d get short Spain or Italy at the right price. We’re currently short Spain via the etf EWP in the Hedgeye Virtual Portfolio.  We remain long Germany (EWG), despite a more cautious view given slowing high frequency data points over the last months, the newest data including ZEW’s 6-month forward looking economic sentiment survey that plunged to -9 in June versus 3.1 in May.

 

Matthew Hedrick

Analyst


CCL 2Q CONF CALL NOTES

Solid pricing.  Better than expected guidance.

 

 

"Our North America brands' revenue yields increased 3 percent in the second quarter while yields for our Europe, Australia and Asia brands were up slightly (constant dollars), having been affected by the geo-political events which unfolded in the Middle East and North Africa, as well as the earthquake and nuclear disaster in Japan.  The revenue yield improvement was more than offset by higher fuel prices which cost the company approximately $150 million, or $0.19 per share. Our North America brands continue to perform well, benefiting from the gradual economic recovery, with strong yield growth expected in the second half of the year. We expect lower yields for our Europe, Australia and Asia segment in the second half of 2011 as a result of the significant deployment changes in Europe. Despite the considerable challenges we have faced this year, the long-term fundamentals of our business remain sound."

 

-Carnival CEO Micky Arison

 

 

HIGHLIGHTS FROM THE RELEASE

  • 2Q2011 results:
    • EPS: $0.26 (consensus $0.22)
    • Current $ net revenue yields: +6% (above guidance of +4.5% to 5.5%)
    • Constant $ net revenue yields: +2.3% (higher end of guidance +1.5-2.5%)
    • Gross revenue yields: +5.8%
    • Constant dollar net cruise costs (ex. fuel): +2.7% (higher-end of guidance +2-3%)
    • Gross cruise costs: +10.3%
    • Fuel: +35% YoY to $673/metric ton (higher than guidance of $659), costing $0.19 in EPS
  • 3Q2011 guidance
    • Constant dollar net revenue yields: +1% to 2% (+5.5% to 6.5% on current dollar basis vs guidance of 5.9%)
    • Constant dollar net cruise costs (ex. fuel): +2.5-3.5% (+7.0% to 8.0% on current dollar basis)
    • Fuel: $670/metric ton; 860K metric tons
      • Fuel costs for Q2: $170MM or $0.21 EPS drag
    • EPS: $1.60-1.64 (Consensus: $1.74)
  • FY2011 guidance:
    • Reiterates implied guidance on June 13
      • Diluted EPS: $2.40-2.50
      • Constant dollar net revenue yields: +1.5% to 2.5% 
      • Previously announced, 15 cent (1% yield) adverse geopolitical impact from previous guidance (already includes the 5 cent cost benefit (fuel/FX) from Q2)
    • Current dollar net revenue yields: +4-5% (lower than guidance of +4.5 to 5.5%)
    • Constant dollar net cruise costs (ex. fuel): flat to +1% (unchanged from guidance)
    • Fuel: $639/metric ton (higher than guidance of $631/metric ton)
    • Fuel consumption: 3,415K (lower than guidance of 3,440K)

CONF CALL

  • 4 cent 2Q EPS beat: 2 cents from net revenue yields, 2 cents from misc. non-operating items
  • 2Q Capacity: +5%;
    • EAA brands up 9%; NA brand up 3%
  • 2Q Net yields: similar increases in net ticket and net onboard/other revenues
    • NA ticket yield: +3%
    • 2Q: flat Caribbean itineraries
      • On track with easing of pricing pressure as 2011 progresses
    • All other itineraries up except Europe (impacted by ME unrest)
    • EA ticket yield: +1%
      • Itineraries outside of Europe were higher
    • Net onboard and other yields:+2%
      • Driven by NA brands as EAA brands impacted by MENA itinerary changes
  • Net Cruise costs: saw inflation in food costs, travel, and rooms.
  • 10% change in price of fuel for rest of 2011 represents a $0.14 EPS impact
  • 10% change in FX for the rest of 2011 represents a $0.16 EPS impact
  • 2Q more challenging than expected, esp. European brands
  • Fleet-wide reduction will cost $0.20: $0.17 per share related to MENA, ~$0.02 NA brand reduced pricing, $0.01 for Japan
  • Significant increase in Mediterranean capacity was a factor in lower pricing
  • UK: recently, consumer confidence has rebounded and sees stables booking patterns 
  • 2H 2011
    • Fleet-wide pricing higher YoY (more higher in NA than EAA)
    • Occupancies are lower
      • Slightly lower for NA; lower for EAA
    • Looking at trailing 6-wk bookings show improvement
  • NA brands continue to perform well despite slower growth in US economy; this bodes well for 2012 bookings.
  • 3Q 2011
    • +4.8% capacity (NA: +3.3%, EAA: +7.2%)
    • Occu. a little lower
    • Local pricing nicely ahead YoY, despite Europe
    • NA brands: 36% in Caribbean, down YoY; 25% in Europe (17% last year); 23% all others (unchanged YoY)
    • NA pricing: "well ahead of last year"
      • Alaska pricing: higher YoY
      • Caribbean pricing: a little higher
      • Europe pricing: lower
      • Trailing 6-wk NA Booking volumes: "very little inventory left"
    • EAA brands: 83% in Europe
    • EAA pricing: slightly ahead
    • EAA occ: lower
    • Trailing 6-wk EAA booking: strong, with lower prices
  • 4Q 2011
    • +5.8% capacity (NA: +3.2%, EAA: +10%)
    • Pricing nicely higher
    • Occu: lower-- slighty lower for NA, lower for EAA
    • NA brands: 42% in Caribbean down from 50%; 14% in Europe vs 9% last year; 10% in Pacific (unchanged from last year)
      • NA Bookings strong
    • EAA brands: 71% in Europe vs. 64% last year
      • Pricing higher
      • Lower occu
      • Expect EAA pricing to continue to decline 
      • Bookings should pick up
  • 1Q 2012
    • +5.5% capacity (NA: +4.5%, EAA: +7.2%)
    • Pricing higher, occu slightly lower
    • Bookings encouraging
    • NA brands: 65% in Caribbean (unchanged YoY)
      • Caribbean pricing nicely higher with slightly lower occu
      • pricing for all others higher at slightly lower occu.
    • EAA brands: 22% in Caribbean; 20% Europe (23% last year); 18% in South America (16% last year)
    • EAA pricing slightly higher at slightly lower occupancies

Q&A

  • No visibility for summer 2012, which is normal around this time
  • 2012 NA capacity : +3.5% ; EAA: +8%; 
  • 2012 NA industry capacity: +3%; EAA: +6%
  • Not sure about Greece but hasn't been a significant problem yet
    • 8-9% of capacity in Greece in 2H 2011
    • Seabourn has major presence in Athens
    • Most of Greek islands not impacted
  • Relatively more exposure to MENA in Q4 but have already guided yields lower;
  • Conservative on Q4 outlook
  • Historically when Europe weakens, Alaska does well as an alternative destination
  • Thinks people who canceled MENA bookings went to book other itineraries at lower prices
  • The Q2,Q3,Q4 itinerary changes "have settled down"
  • Q2 five cent cost savings: improvement in fuel efficiency, nonoperating items
  • Onboard spending guidance: expected nomralized basis (up 2% for 2011); relatively stable
    • Up across all categories except casinos; nothing changed since previous guidance
  • Non-operating items:
    • Ships lease benefits
    • FX gains
    • May pick up another cent or two next year
  • No impact from Chilean volcano for Australia and New Zealand Cruises
  • Europe Q2 and beyond repositionings: nothing changed for MENA right now but will change if needed
  • Stopped calling in Israel in Q2 but will restart in the fall
  • No update on fuel hedging
  • Had a significant cost in 4Q 2010 due to fire on Carnival Splendor
  • Going forward on costs: 1/2 of inflation; long-term goal: 0-0.5 of inflation
  • Northern Europe doing well
  • UK brand capacity down slightly
  • Customer deposits: +$400MM (May to May), # has currency benefits
  • Will stop some calls in Tunisia
  • No change in dividend/repurchase decisions
  • Mexico situation--Princess pulling out--seems to be okay
  • "If you price fuel where it is today and we're off to a good start in 2012"
  • NA: premium, luxury Cruises and contemporary all strong 
  • Egypt elections in September could impact Europe redeployment decisions

get free cartoon of the day!

Start receiving Hedgeye's Cartoon of the Day, an exclusive and humourous take on the market and the economy, delivered every morning to your inbox

By joining our email marketing list you agree to receive marketing emails from Hedgeye. You may unsubscribe at any time by clicking the unsubscribe link in one of the emails.

next