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IT’S THE HOUSING, STUPID: PART DEUX

Proving that housing was actually the dominant variable in driving gaming demand was an important revelation. We posted “IT’S THE HOUSING, STUPID” on July 17th and the data has continued to confirm our thesis. At the time, employment levels were thought to be the number one driver but, statistically speaking, housing renders the employment variable to almost insignificant status. Brian McGough’s recent analysis in “STATE OF THE CONSUMER: HISTORY 101” provides more evidential back up and a terrific explanation of the wealth effect. It now seems so obvious why we all thought gaming wasn’t cyclical. The overall economy and employment levels have ebbed and flowed but housing prices have risen consistently since the mid 1990s.

So have gaming revenues. I’m looking at the chart and I’m not getting a peaceful, easy feeling.


STATE OF THE CONSUMER: HISTORY 101

Below I’ve re-posted an excellent consumer piece by my partner, Brian McGough. I’d also like to use this as a follow-up to my 7/17/08 post “IT’S THE HOUSING, STUPID”. In that analysis I found housing prices to be the most significant driver of gaming revenue; more than employment levels, GDP, the alignment of the stars, etc. I think we’ve found the answer to why gaming is cyclical this time. Keep that in mind as you read through Brian’s consumer treatise that follows. Scary stuff.

tj


STATE OF THE CONSUMER: HISTORY 101
One thing I’ve learned at Research Edge is how to be a student of history, and understand how the sins of the past shaped the challenges we face today. The evolution of the wealth effect is classic.

One of the biggest drains on the consumer today is the fact that the personal savings rate is hovering near zero. Yes, we debate academically as to how it is calculated, and how it could technically go below zero (which it has). But let’s look at the big picture here. The chart below says it all.

1. Starting in the Regan/Volcker years and all the way through the end of the Clinton era (when the tech bubble burst), we had a 20-year uber-bull market for equities driven in part by systematic cuts in interest rates to drive consumer spending and keep the economy cranking forward.

2. Once we saw George W. come into office, the equity markets took a pause, but the housing market went parabolic.

3. Put those two together and what do you get?? What I’d consider a 27-year wealth effect. By the way, that’s within 5 years of the average age of a Wall Street analyst. Sad.

4. While this freight train rolled on, the consumer took down the savings rate from the peak of 11.2%, to less than 1% today. As a frame of reference, China’s savings rate is near 40%.

5. Now what? Housing values are deflating, and equity markets do nothing but go down. My sense is that consumers take whatever they can and actually save a bit for once. In fact, it was fascinating to see that the tax rebate checks that hit this summer went almost entirely to beef up savings (the rate temporarily bumped to 2.5%) and repay debt.

As sure as the sun will shine, this savings rate needs to head higher. The order of operation will need to be 1) survive (buy essentials, etc…), 2) pay down debt/save money, 3) buy a $500 cashmere sweater at Saks.

Brian McGough
President and Director of Research


DEAL OR NO DEAL

While there will always be issues around the use of discounting, the difficult economic environment leaves few other options. Recent NPD data suggests that discounting has been driving traffic in this tough economic environment, particularly when gasoline prices reached $4.00 a gallon. The key issue to watch - can restaurant companies develop promotions that consumers find attractive while maintaining margins?

It comes as no surprise that consumers are looking for savings in these tough economic times and some restaurant operators have responded by offering very attractive price points. Over the past three months, 23% of all visits to restaurants included some form of discounting. According to NPD, deal visits were up 9% versus last year. During the same period, non-deal traffic declined by 1%. For the past three quarters, all of the industry’s traffic growth has been driven by the resurgence of value positioned promotions.

While increased dealing can be found in both the Quick Service and Casual Dining segments, most of the increase in deal activity has taken place in the Quick Service arena. Over the past 3 months, QSR deal traffic was up 10% versus last years. During the same time, deal traffic was up 6% at Casual Dining restaurants. For both segments, non-deal traffic was negative.

In this environment, positive same-store sales can be a misleading indicator of a company’s health. Those companies that are discounting heavily today will pay the ultimate price in the end.


Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.64%
  • SHORT SIGNALS 78.59%

Loonie? Buying th Canadian Dollar...

We're looking to get long another currency other than the US Dollar. The Rydex Canadian Currency Shares (FXC) is likely where we’ll make a currency investment. The FXC has lost -13% of its value since the last week of October, and it also pays a 2.6% yield. Below is our chart and our levels.

BUY for a "Trade" = $82.10
SELL that "Trade" = $86.28

This is simply another way for us to express our investment idea that the US Federal Reserve will de-value the US$ again by cutting interest rates to negative (on a real basis). This will be inflationary, for a "Trade", and countries (Canada) levered to commodity price strength should benefit.
KM

Eye On Trust: Korea, Don't Ask, Don't Tell...

Article in bloomberg on Korean companies blowing up because of toxic “hedging” products. Here is the line that caught my eye:

“Most Korean lenders bought the products from overseas banks then resold them to local companies, leaving them liable for their clients' losses in case of bankruptcy, says Hanwha's Mo. Banks haven't disclosed the identities of counterparties.”

Which Wall Street bank did these trades? I wonder… Koreans will likely think they were played for fools or worse.

Bloomberg article link:
http://www.bloomberg.com/apps/news?pid=20601109&sid=aGUX1AEq1RUU&refer=home

Andrew Barber
Director

OIL: weekend thoughts from KM and DJ

Below are our collective thoughts, in response to some thoughtful client questions:
---
The immediate term “Trade” in Oil is up from where we bought it ($69). The intermediate “Trend” is as nasty as anything I see in macro right now. The challenge is to maintain those 2 opposing thoughts in your melon, and remain sober enough to make money.

There are two major “Trend” lines in Oil to keep on your screen, $93, then $114.

My summary point of DJ’s fundamental outlook on the “Trend” is simply that scarcities become surpluses during global recessions.
KM

  • Here’s my simplistic take on oil, the demand side will continue to be weak in the U.S. and weaker than expected globally probably into the back half of 2009 (potentially much longer). This is obviously not unprecedented. From 1978 to 1983, Oil demand in the U.S. was down for 5 years in a row for an aggregate peak to trough decline of 19.1%. I’m not saying that will happen again, but there is a reasonable scenario where U.S. demand is weak for awhile and if you see U.S. demand drop by 19% over the next five years, China better be growing more than expected to sustain the price of oil.

  • On the production side, while I totally buy the long term supply constraint argument, in the short term and this is very simplistic, if OPEC has to cut production to maintain price than scarcity value should not be priced into Oil anymore (I think that was part of the argument that people were making when Oil was on its way to $140 i.e. there is a premium above marginal cost for scarcity), thus Oil should trend towards its marginal cost . . .$60/$65?
  • From a trading perspective, we have been watching Oil futures fairly closely and, as I’m sure you know, they are solidly in contango. Which means in the short term, it pays to store oil and we will likely see inventories building, which is a negative fundamental data point. In support of this, while the weekly IEA data doesn’t show inventories that are well above their historical average, days of supply is now close to 24 days versus 21 days a year ago (inventory is normal but supply is down 5%+ y-o-y), which suggests inventory will continue to build in the U.S. in the short term, which will lead to incrementally negative data points.
  • In terms of interest rates, our macro view is that the “Trend” will become higher, and perhaps dramatically, into 2009, which should strengthen the U.S. dollar and, obviously, act as a cap on the price of Oil into 2009 as well.

    From quant perspective, and I’ll let Keith weigh in, Oil is oversold, no doubt there, and there is a potential short term catalyst in the Fed cutting rates again, but even the Fed Rate must be at least partially priced in since the fed futures, last I looked, are close to fully discounting a 50 bps cut.
  • So, in summary, I have a hard time getting excited about Oil in the next 6 – 12+ months. KM likes it, but I can see him unloading it on price in 6-12 days! If that’s what it takes for us to keep outperforming in this market, so be it. Obviously the bearish “Trend” side of oil is no longer a contrarian view at this point, but facts are facts.
  • Daryl Jones
    Managing Director

Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.

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