“Emerging markets today are not what the developed markets were in their infancy.”
That’s a very simple, but often misunderstood, Global Macro investment point from a book I have recently cited about India’s Macro Consumer market: “We Are Like That Only”, by Rama Bijapurkar (2007).
Simple is as simple does - and this morning those who are still storytelling about China’s pending collapse are going to learn that lesson the hard way. China’s Q2 GDP report was outstanding.
Hedgeye isn’t a perma-bull on China. I personally don’t aspire to be perma-anything other than permanently managing risk. Risk lives and breathes through a vacuum of expectations. After seeing its stock market down -14.3% in 2010, expectations for Chinese stocks are low and short interest is high.
Before I get into what the short sellers of China have wrong, let’s rattle off what the bulls have right in this morning’s GDP report:
- China Q2 GDP beat our already bullish expectation of 8-9%, coming in at +9.5% (we care about buy-side expectations)
- Fixed Asset Investment growth in Q2 was up +25.6% year-over-year; that’s big – China can print government spending too
- June data reports (Retail Sales and Industrial Production growth) were big sequential accelerations versus May
Now, back to the short sellers…
On two critical leading indicators, Mr. Macro Market has warned the shorts that Chinese growth was not going to be the train wreck that US unemployment has become:
- Chinese stocks (Shanghai Composite Index) are up +6.6% since bottoming on June 20th, 2011
- Copper prices (highly correlated to Chinese demand) are up +12.5% since bottoming in mid-May
Hedgeye bought China (CAF) on June 16th.
Bottoms are processes, not points – we get that. Whether or not we bottom-ticked buying China isn’t the point. The point is that managing risk on a globally interconnected basis works both ways. Being Too Bearish at bottoms can carry a short seller out.
As a credibility check, we were long Chinese Equities in 2009 and short them in 2010. It’s actually amusing to get emails (from some of the same people who were accusing me of being “too bearish” on China in Q1 of 2010) insinuating that now I’m “too bullish!”
Thankfully, that’s the institutionalized business that we are paid to manage expectations in – a business where career risk management often trumps risk managed research – a business where plenty chase the rabbit, rather than being the rabbit.
Sometimes the rabbit gets eaten. We get that too. But Wall Street is smart enough to know that the weaponry of these 3 factors working in one direction is something that they need to manage career risk around:
- Bullish data
- Rising stock prices
- High short interest
Bullish data and the prices that support it are crystal clear for everyone to see this morning (China was up +1.5% on the “news”). What you can’t see are the shorts squirming. So here are a few more things to consider on that score:
- Short interest in Chinese stocks has almost doubled since the beginning of January 2011 (4.8% versus 2.9% of total shares)
- At $961M YTD, outflows in the FXI (China ETF) were the highest of ANY COUNTRY ETF in the 140 countries in XTF Inc’s database
- Moody’s (the ultimate lagging indicator) put China “bank debt concerns” on their radar on July 5th
Now those 3 factors aren’t exactly contrarian indicators of a “fresh new best idea” someone wants to present on the short side at the Ira Sohn conference (although someone did). Maybe they should be bucking up for some insurance research and read Hedgeye.
On Friday, our Macro Team will be making our 2ndslide presentation on being China Bulls with our launch of the Q3 Hedgeye Macro Themes. We’re calling one of our Q3 Themes “Chinese Cowboys.”
My immediate-term support and resistance ranges for Gold, Oil, and the SP500 are now $1, $94.11-99.79, and 1, respectively. Manage your risk around the ranges.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
TODAY’S S&P 500 SET-UP - July 13, 2011
Managing risk in a European vacuum won't work - the world is much bigger than that. China, Copper, and UST yields matter. As we look at today’s set up for the S&P 500, the range is 29 points or -0.96% downside to 1301 and 1.25% upside to 1330.
SECTOR AND GLOBAL PERFORMANCE
- ADVANCE/DECLINE LINE: -482 (+1686)
- VOLUME: NYSE 924.46 (+11.46%)
- VIX: 19.87 +8.05 YTD PERFORMANCE: +11.97%
- SPX PUT/CALL RATIO: 2.24 from 2.88 (-22.28%)
CREDIT/ECONOMIC MARKET LOOK:
- TED SPREAD: 22.36
- 3-MONTH T-BILL YIELD: 0.02%
- 10-Year: 2.92 from 2.94
- YIELD CURVE: 2.55 from 2.57
MACRO DATA POINTS:
- MBA mortgage applications index fell 5.1% week ended July 8; Refis down 6.2%, 4th declining week; Purchases declined 2.6%; rose last week; Avg. 30-yr fixed rate 4.55% vs prior week’s 4.69%, biggest drop in 3 months
- 8:30 a.m.: Import price index M/m, est. (0.6%), prior 0.2%
- 9:10 a.m.: Fed’s Rosengren speaks on economic outlook
- 10 a.m.: Bernanke speaks to House on semi-annual economic outlook
- 10:30 a.m.: DoE inventories
- 11:30 a.m.: U.S. to sell $5b 14-day cash management bills
- 1 p.m.: U.S. to sell $21b in 10-yr notes reopening
- 1:20 p.m.: Fed’s Fisher speaks on economy in Dallas
- 2 p.m.: Monthly budget statement
WHAT TO WATCH:
- U.K. coalition govt. will today side with Labour Party in calling on News Corp. to withdraw bid for control of BSkyB; Rupert Murdoch now facing at least six investigations
- Senate Republican leader Mitch McConnell proposed yesterday granting President Obama unilateral power to raise debt ceiling as “last-choice option” to avoid default
- Secretary of State Clinton meets with Russian Foreign Minister Sergei Lavrov in Washington
- Irish PM says it is time for Europe to respond comprehensively to debt crisis adding that there is no point having a leaders' meeting on Friday that doesn't come up with a conclusive solution. Ireland's problem is with Europe he said
- Bullish sentiment increases to 44.1% from 40.9% in the latest US Investor's Intelligence poll; Bearish sentiment decreases to 22.6% from 24.9%
COMMODITY HEADLINES FROM BLOOMBERG:
- Seven-Month Wait for Aluminum From Detroit Drives LME to Review Warehouses
- Corn Imports by China Seen Doubling to Cool Fastest Inflation Since 2008
- Copper Gains for a Second Day as Chinese Economic Growth Exceeds Estimates
- Gold Climbs, Nears Record as Europe’s Sovereign-Debt Crisis Fuels Demand
- Oil Trades Near Highest in Three Days in New York on China Economic Growth
- Corn Drops as Shortage Concern Ebbs; Rice Reaches Highest Price Since 2008
- Gold Investment in India Seen Extending Advance to Record as Incomes Surge
- Coffee Rises on Concern Vietnamese Supplies May Be Limited; Cocoa Gains
- Copper, Aluminum Production in China Gain to Records in June, Bureau Says
- Aluminum’s Two-Year Advance Is ‘Intact’ Above $2,300: Technical Analysis
- Gecamines’ Undisclosed Sale of Congo Copper Mines May Threaten Share Offer
- Fuel-Oil Loss in Asia Set to Double as Supply Surge Looms: Energy Markets
- Sri Lanka Seeking to Catch Singapore With Help From China: Freight Markets
- EUROPE: important recovery by the DAX- TREND line support (7136) -see if it holds; Italy was immediate-term TRADE oversold yesterday; here's the bounce
- ASIA: outstanding GDP print by the Chinese at +9.5% (beats our number and we are the bulls); China up +1.5% on news > 2732 TRADE breakout line
the macro show
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In preparation for MAR’s Q2 2011 earnings release tomorrow afternoon, we’ve put together the pertinent forward looking commentary from MAR’s Q1 2011 earnings release/call and subsequent conferences/releases.
June 28: Timeshare Form 10
- Royalty Fees, paid quarterly in arrears
- A vacation ownership business royalty fee equal to: a fixed fee of $12.5 million per quarter or $50 million per year, plus two percent of the gross sales price paid to us or our affiliates for initial developer sales of interests in vacation ownership units, plus one percent of the gross sales price paid to us or our affiliates for resales of interests in vacation ownership units, in each case that are identified with or use the Marriott Marks.
- The fixed fee will be increased every five years by 50 percent of an inflation rate index, compounded annually.
- A residential real estate development business royalty fee equal to: two percent of the gross sales price paid to us or our affiliates for initial developer sales of units of accommodation in our residential real estate business, or “residential units,” plus one percent of the gross sales price paid to us or our affiliates for resales of residential units, in each case that are identified with or use the Marriott Marks.
- Marriott anticipates the receipt of an IRS private-letter tax ruling in September, confirming that the distribution of shares of Marriott Vacations Worldwide common stock will not result in the recognition, for U.S. federal income tax purposes, of income, gain or loss by Marriott International or Marriott International shareholders
June 23: Amended Multi-currency Revolving Credit Agreement
- Reduced the facility size from $2.404 billion to $1.75 billion
- Extended the agreement's expiration from May 14, 2012 to June 23, 2016
May 6: Revision to dividend/stock repurchase
- Increased quarterly dividend by 14.3% to $0.10 from $0.0875
- Increased stock repurchase program by 25M shares
- When combined with the approximately 9M shares remaining from the previous authorization, the company's total outstanding repurchase authorization is approximately 34M shares.
- Year-to-date through May 4, the company has repurchased approximately 15M shares for slightly more than $540M.
Post Earnings Business Commentary (GS Lodging, Gaming, Restaurant and Leisure Conference; Robert W. Baird & Co Growth Stock Conference)
- [Leisure vs. business trends] “Yeah, I think both are reasonably strong. I think the leisure is consumer-driven, broadly consumer confidence is going to be relevant to that and I think there’s more reason to be cautious about that than there is about business travel.”
- [Development financing] “Well, if you compare it to the deals that were being done in 2009, we are seeing a higher level of development activity, but it’s all relative. So, I think we were doing 25, maybe 20 – 20 to 25 limited service deals a month in 2007; these are U.S. numbers. I think we probably fell to 5 or 6 a month in the depths and maybe we’re starting to climb out of that, coming back towards 9 or 10 or 11 a month. So, we’re still down 50% to 60% where it was in 2007.”
- [US Market share] “According to Smith Travel, Marriott has about 10% market share in the United States.”
- [Timeshare inventory] “Timeshare right now has about $1.5 billion of inventory. About $600 million, $700 million that is finished inventory, another $400 million, $500 million is under construction and will be finished soon, and then $100 million or $200 million that’s land. So it’s got lots of runway. It doesn’t have to go out and raise all kind of capital to build assets to sell. It’s got lots of inventory to sell over the next couple of years.”
- [Fees/EBITDA] “Based on room growth of about 35,000 rooms and worldwide system-wide RevPAR our growth of about 6% to 8%, we would expect fees to grow to somewhere between $1.3 billion and $1.33 billion, 10% to 13% increase. We would think EBITDA to be around $1.2 billion, about 11% to 16%, just a little bit more than that. And even after spending $500 million to $700 million on capital, we would expect to have approximately $1 billion of free cash flow remaining at the end of the year and we use that cash flow either for opportunistic investments, not contemplated in the $500 million to $700 million, or we’ll return it to shareholders in the form of dividends and share repurchase.”
- [G&A] “You look at our cost structure, it’s G&A, and our G&A is up about 3% to 5% this year. It was up in the first quarter. There was a lot of noise in the first quarter but for the full year we think it will be up around 3% to 5% and if history holds true, it will be closer to the 5% than the 3%.”
- [No change in 6-8% guidance] “Yeah, our guidance for as we announced, Dave, and we haven’t changed anything there was 6% to 8% worldwide system-wide. We think that’s what we would expect for this year. And there is really nothing other than that.”
YOUTUBE from Q1 earnings release and call
- [Profit margins] “We expect domestic house profit margins will increase 100 to 150 basis points and international house profit margins will increase about 100 basis points for the full year.”
- [Timeshare earnings] “We launched some special promotions near the end of the quarter to accelerate sales and expect better segment earnings for the full year than previously guided in February ($35-40MM).”
- [International REVPAR] “Our international REVPAR growth is likely to slow from the first quarter pace. The 2010 World Expo will be a tough comp for our Shanghai hotels later this year. For our 31 hotels in the Middle East and 10 hotels in Japan, we expect REVPAR to remain weak although we also expect modest improvement over the current levels later this year. As a result, for the second quarter and the full year, we expect international REVPAR growth to total 5% to 7%. Excluding the Middle East and Japan, we expect international REVPAR will increase by 8% to 10% in the second quarter and 6% to 8% for the full year.”
- [Group/transient] “Today, we have significant group business on the books for 2011 and special corporate rate negotiations are complete with rates increasing consistent with our expectation. We see strength in transient business demand and continue to estimate 6% to 8% REVPAR growth for our North American system-wide hotels for the second quarter and the full year.”
- [ME/Asia/Europe] “Compared to our full year guidance in February, today we expect our fees in Asia will be better than earlier anticipated, but will be more than offset by weakness in the Middle East. On the owned, leased and other line, we expect to benefit from stronger performance among our European owned and leased hotels as well as a higher termination fee, but we also expect a $10 million decline in profits from Japan.”
- [G&A] “In the second quarter, we expect G&A will be impacted by higher costs in international markets as well as higher workouts and legal costs.”
- [Interest income] “Interest income for the full year is likely to be a bit lower than we anticipated as we expect we will be repaid early on an outstanding loan. Our share count is coming down quickly as we continue to take advantage of recent share price weakness to repurchase shares.”
- [Maintenance spending] “For 2011, $50 million to $100 million in maintenance spending.”
- [Market share] “We’ve been in the Washington market for over 50 years and today we have a 33% market share of upper upscale and luxury rooms in our hometown. We’ve been in New York for over 40 years and today we have a 21% market share of the upper upscale and luxury rooms there. But our share of upper upscale and luxury rooms and other global gateway markets has reached impressive levels in much less time…. Today in a highly fragmented industry, we have a 9% share of the upper upscale and luxury market in Paris, 16% share in London, 20% share in Hong Kong, 20% share in Beijing, 21% share in Shanghai and a 40% share in Moscow, and we continue to grow our share in these valuable markets.”
- [Japan/ME] “Generally, I would say that our expectations ex-Japan and ex-Middle East are higher than they were a quarter ago, modestly, and that’s basically on strength in Asia and strength in Europe. And so under the company guidance we gave you, you get to the next level of detail. And basically we, compared to a quarter ago, we’re losing probably a full $0.03 a share something like that based on the Middle East and Japan.”
- [Spin cost] “One thing we have not put in our guidance, the incremental cost of the timeshare spin. Our intention on that was to, as those numbers become material or meaningful, we’ll point those out as we give you our earnings, because as you can imagine there will be onetime cost just related to the transaction itself.”
- [Incentive fee forecast] “So, the numbers are not huge, but we’re talking about $10 million or so of incentive fees that compared to a quarter ago we could not achieve in 2011 because of the turmoil in those markets, and you can do the math on what you would expect the full-year number to be, but that’s a number of points of growth year-over-year…. We mentioned in the first quarter Washington, D.C. was soft, and we do earn incentive fees in Washington, D.C. So that – and we would expect that to grow back as the year goes along. And so given the Middle East that Arne talked about and little bit on Washington, D.C. we’ll probably be between 15% and 20% up in incentive fees.”
- [Slowdown in international markets in 2H] “Shanghai would be the most significant, I think. I suppose on average you’ve got comps that get a little tougher as the year goes along I expect to be a piece of it. But generally, we’re not building in an expectation of moderating economic performance in those markets.”
- [Booking window] “I think generally we are seeing still not much of a lengthening in the booking window. So, I think group customers, some big meetings maybe are coming back on the books that wouldn’t have been booked certainly a couple of years ago but compared to a few months ago, I wouldn’t say that there’s anything that’s meaningful shift.”
Positions in Europe: Long Sweden (EWD); Long Germany (EWG)
Conclusion: Swedish economic fundamentals remain strong (despite being off 2010 levels) and the Riksbank sends a clear message of interest rate tightening to head off inflation. We’re bullish on Sweden’s growth profile, sober fiscal policy, and sovereignty outside of the Eurozone.
We bought Sweden via the etf EWD on 8/9 in the Hedgeye Virtual Portfolio and despite the hit that most European country etfs have taken over recent days on incremental news of Italy’s sovereign debt concerns, we like owning Sweden for a few concise reasons:
GDP – The country has a healthy growth profile of 4.5% this year. While off 2010’s growth rate of 5.4%, Sweden should continue to run a healthy trade surplus and find strong global export demand, especially considering that ~45% of its exports are destine to markets outside of the EU and therefore not tied to the region’s sovereign debt contagion threats. [For comparison, Eurozone 2011 GDP is estimated at 2.0%].
Interest Rates — The Riksbank has proactively raised the benchmark repo rate seven times since July ‘10 to combat inflation, in particular to cool the housing sector. While we haven’t ruled out another 25bp hike into year-end, at 2.00% the Bank has room to cut and maneuver around additional economic headwinds, should they arise.
Inflation – CPI stood at 3.1% in June Y/Y, above the 2.0% target rate, yet the strength of the SEK has helped mitigate imported price inflation, while the statistical office continues to report that domestic cost pressures remain low. As our Q2 theme of Deflation of the Inflation plays out, in particular for food and energy prices, we expect Swedish inflation to move closer to the target; CPI comparisons will also get more difficult as we move in the latter half of 2H2011, which should help to bring down the level.
SEK/Exports — The actions of the Riksbank have strengthen the SEK vs major currencies, and like the CHF, the SEK has provided a safe haven trade as the EUR remains mired in sovereign debt worries. [That said, the SEK has weakened versus the EUR and USD since early March ‘11 and early May ‘11, respectively. YTD the SEK-EUR is down -2.4% and the SEK-USD is up 2.3%]. In general we like the investment profile of a country with a strong currency. While a strong currency is a worry for exporting nations like Sweden, Swedish central bank Governor Stefan Ingves recently stated that the 22% surge in the Krona vs the USD over the past year marks a “normalization” that won’t harm exporters. [We’ve seen a similar positive outcome from Swiss exports despite a white hot CHF vs EUR and USD].
Unemployment – The unemployment rate stands at 7.9% in May, above the 6% level seen before the great recession, but below the Eurozone’s 9.9% or the US’s 9.2%. We think the rate made a top in January of this year and expect the rate to slowly trend lower into year-end.
Risk Metrics – Risk as assessed by sovereign CDS and bond yields is incredibly tame in Sweden, with 5YR Swedish CDS at 32.5bps (vs Germany at 54.3bps, or Greece, Portugal, and Ireland all above 1000bps!). The 10YR yield on Swedish government bonds is 2.686% (vs Germany at 2.711% or Greece, Portugal, and Ireland all over 12%!). Debt as a percentage of GDP is 40% versus 79% in Germany and 144% in Greece. Finally the country is not running a budget deficit.
Despite our bullish outlook on Sweden, it’s clear that growth and optimism are off levels seen in 2H2010. In particular, Sweden’s strong manufacturing sector has slowed, with PMI Manufacturing narrowing to 52.9 in June versus 56.1 in May and Consumer Confidence has dipped, falling to 16.7 in June versus 17.9 in May according to a survey from the National Institute of Economic Research.
Household Credit borrowing also deteriorated, falling to 6.9% in May Y/Y versus 7.2% in April and has trended lower year-to-date. And Retail Sales have declined over the last two months, most recently at -1.1% in May Y/Y.
While we see an independent Swedish bank and currency as a positive, Sweden is not immune to Europe’s sovereign debt contagion, but perhaps just better sheltered. We’ll have to see how sentiment moves on the fiscal imbalances of Italy and Spain, economies far larger with far great banking counterparty exposure than Greece, Portugal, or Ireland.
Below we chart GDP, CPI, and the Riksbank Repo rate for reference.