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Footwear: Toning Afterthought


Reebok’s Toning settlement should be taken into context. While it never appeared to us to be a sustainable biz, it did shift share around a bit. The trend has been self-correcting for 11-months now. So we’re not concerned about it ‘going away.’  In fact, a simple look at Nike’s US order book tells us where these toning dollars are going.



Reebok’s $25mm settlement with the FTC over unsubstantiated claims on the technology behind its shoes this morning is raising questions over the ‘category’s’ sustainability. The stocks are not moving meaningfully on this, nor should they. But here’s some context to the extent that people get loud (as CNBC did – saying that there’s $1Bn at risk) on the issue. Consider the following:

  • The toning trend started with Skechers Shape-Ups in early 2009. Within 6-months Reebok joined the party with its Easy Tone shoes and hefty advertising budget, which ultimately drove accelerating demand by the Fall of ’09. From late ’09 to early ’10 there were several marginal players entering the fray (Ryka, Puma, etc.), but this was really a two horse race from beginning to end with market share for SKX and Reebok at roughly 60/40 respectively. Nike stayed out of it entirely, referring to it as a gimmick. We are in print, and on TV, in saying that “selling shoes to a person who wants a shoe to get them in shape while they walk to and from the couch to the refrigerator to get bon bons and beer is hardly a sustainable model.”
  • At its peak in mid-2010, we estimated toning to be just over a $1Bn category domestically and roughly $500mm internationally, at retail.
  • At that time, the toning category was contributing up to 4%-6% to overall footwear sales growth in the athletic specialty channel. This benefit was fleeting. By October 2010, the category was a drag on consolidated growth in the industry as demand slowed abruptly. Meanwhile, the industry excluding toning was growing at a rate from mid-single-digit to low-double-digit.
  • With Skechers and Reebok left severely over-inventoried heading into the shift in demand, the discounting began. With prices for toning shoes still now at roughly half of where they sold at the peak, the category has contracted to a what is now a ~$500mm category domestically – similar in size to categories like occupational and cold weather casual boots.
  • What is perhaps the most notable callout throughout what can now be dubbed as the ‘toning fad’ is Reebok’s ability to leverage the trend to regain relevance. Take a look at the two charts below illustrating both Reebok and Skechers’ market share gains both during, but more importantly following the toning cycle. SKX gained 4 points of share in the industry only to give it all back to ‘real’ innovation leaders like Nike and Adidas. Reebok on the other hand gained 2-3 points of share initially and has continued to take share as it rolled its success directly into its latest ZigTech offering.
  • Keep in mind that Skechers started from a larger base (6% share of the industry) with its stable brown shoe and growing kids business while Reebok represented an inconsequential 2% of the industry. For what it’s worth, they both now have about a 6% share.

At this point, there’s definitely a risk that Skechers is forced to pay a similar settlement to the FTC for its own advertising claims. Is it going to move the needle for the company, no.


From an industry perspective, we are a month away from the point when comping toning growth is an afterthought. In fact, over the last two quarters, footwear and sporting goods retailers alike have noted that the benefit of the latest lightweight running category has more than offset the impact of lost toning sales. The industry has moved on, so should we.


Footwear: Toning Afterthought - core athletic vs toning   light weight running 9 11


Footwear: Toning Afterthought - RBK Mkt Shr 9 11


Footwear: Toning Afterthought - SKK Mkt Shr 9 11


Footwear: Toning Afterthought - Toning Percent of Total 9 11


Footwear: Toning Afterthought - ToningSales Total 9 11



Casey Flavin




Goodbye China

Conclusion: Losers point fingers; winners learn from their mistakes.


Yesterday, we decided to close the books on one of our key themes YTD: Year of the Chinese Bull (2Q)/Chinese Cowboys (3Q), booking an -8.6% “loss” vs. our cost basis the Hedgeye Virtual Portfolio. Rather than blame “speculators”, Europe’s Sovereign Debt Dichotomy, or some other consensus go-to scapegoat, we thought we’d take the opportunity afforded to us in loss to demonstrate how we’re always trying to improve our ever-evolving risk management process:


What Went Wrong: From a research perspective, not much really. The key components of our call (no “hard landing”; CPI peaking in 3Q; and no more monetary tightening in 2H11) largely came in as we anticipated. In hindsight, if there’s something we chose to ignore that we shouldn’t have, it’s the sheer magnitude of the issues the Chinese banking system is set to face.


We’re fully aware of China’s property market headwinds and the pending deterioration of credit quality within local government financing vehicle debt (refer to our spate of research notes on these subjects over the past year(s)). What we misjudged perhaps was how bad things truly were, as well as how close in duration these catalysts would become. Specifically, according to a study published today by the country’s official bond clearing house, 28% of local government financing vehicles (6,576 in total) now have negative cash flow from operations, which obviously makes it difficult to stay current with their debt obligations. Additionally, roughly 22% of these entities have debt-to-asset ratios greater than 70%, which means they’ll likely face difficulty securing refinancing – certainly at higher rates, if at all. Lastly, the PBOC’s monetary tightening was largely the “straw that broke the camel’s back” as it relates to creating liquidity headwinds for this segment of the Chinese economy – which itself is levered to  fixed asset investment at nearly half of all GDP growth.


What We Learned: We re-learned that consensus can remain correct a lot longer than one expects. It’s in our competitive nature to be contrarian as risk managers, but, as always, there’s a fine line between being contrarian and being too early/wrong. Recall that we initially authored our bearish view of Chinese equities back at the start of 2010 via our then-contrarian Chinese Ox in a Box theme. Fading that view, which had since played out in spades in market prices, economic data, and in financial media coverage, was one of the reasons we decided to get long Chinese equities earlier in the year. Bottoms are processes – not points.


What We’ll Do Better Next Time: It’s safe to say that we need to have our catalysts much closer in duration – particularly given the negative beta imposed on equities as an asset class globally in the YTD. When the quantitative setup of an asset class (in this case, Chinese equities) is bearish TREND or bearish TAIL, we’d do better to have our bullish catalysts much closer in duration vs. when the quantitative setup is bullish TREND or bullish TAIL – a setup that allows for extending the duration of said storytelling.


Chinese equities, which had not sustainably broken out above their TREND line at any point in this process, were telling us all along that things weren’t “ok” in China. That’s not to say our quantitative model is 100% accurate all the time; it is, however, suggesting that it has repeatedly served us quite well over the past 3+ years in making a bevy of accurate calls across asset classes. In terms of risk management, we’re no doubt at our best when we’re able to marry our bottom-up, fundamental research view with our top-down, quantitative analysis:


Goodbye China - 1


Goodbye China - 2


All told, we’re not happy about being wrong on China here. We are, however, not going to dwell on the loss or allow ourselves to succumb to thesis drift and pitch “valuation” like your average sell-side strategist would. There’s a lot more risk to manage in the weeks and months ahead.


Darius Dale



Here are a few thoughts from my trip yesterday in Singapore.  I will follow up with Macau comments later in the week.


  • No visibility on junket approval
  • Underground junkets not a major factor for Genting anymore.  Been cracking down from government pressure.  May explain some of the market share loss that is sure to be sustainable.
  • Genting seriously thinking about becoming more transparent.
  • Singapore economy still strong but little growth from local population expected and may even be difficult to maintain.  Approximately 30% of visitors are local.
  • Genting thinking they can hold 50% market share in Q3 but we’re not so sure.
  • Junkets think they can grow volumes by at least 20%.

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Notable MACRO data points, news items, and price action pertaining to the restaurant space.




As I posted yesterday for the MACRO team my thesis on the consumer is consistent with a fundamentally-weak economy: no job growth, declining real income, Bernanke-inspired price volatility, declining stock prices, falling house prices, sticky gasoline prices, and zero confidence.


Overall, the MACRO data out yesterday on consumer trends is consistent with the factors listed above.  Yet, there are silver linings!  Well, maybe…


Yesterday, the high frequency – ICSC chain store sales index – confirms the decelerating thesis, as the index fell 0.2% last week.  This is consistent with the painfully slow downward trend (the index is now down 6 of the last 8 weeks.)  On a year-over-year basis, growth dipped to 2.7%, the slowest pace in three weeks, though consistent with the trends of 1H11.  Is there a silver lining here?


Also bouncing along the bottom is the Richmond Fed survey, which contracted for the third consecutive month in September. The pace of decline moderated from August, as the composite index rose 4 points to -6.  Looking at the details, new and unfilled orders remained on downward trends but employment growth accelerated and input cost pressures eased.  The increase in employment month-over-month is the first silver lining in the overall sluggish environment


Lastly, after plunging 14 points in August, the Conference Board Confidence Index was virtually unchanged in September (rising only 0.2).  Last month saw a slight 0.7-point upward revision to the August print.  The improvement was led by better employment expectations, which is the second silver lining.


If the economy were to accelerate confidence should recover, but given the excessive debt burden domestically and in Europe, it’s unlikely that growth is going to accelerate.  Our 3Q GDP estimate is 1.1 to 1.4% year-over-year; the risk to the downside is that the low confidence results stay on a continued downward trajectory in sales trends, and causes further economic weakness. 


The third silver lining is not one from today’s data, but one that economists often cite as a reason to buy equities here: that corporate America is flush with cash.  That cash waiting in the wings coupled with pent-up demand could lead to a quick improvement in the jobs picture and an acceleration of growth.


Hope springs eternal, but is not an investment process!




Deflating the Inflation - is great for the Food Processing sector and not so good for food retail. 






PNRA & DNKN were notable decliners on positive volume studies


Domino’s Pizza downgraded to hold from buy at Peel Hunt


Domino's Pizza UL & IRL interim management statement: says on track and confident that it'll finish the year in line with market expectations - For 2Q11 - SSS up +3.9%(605 stores) vs year-ago +9.9% (553 stores); UK only SSS+ 4.1% vs year-ago +11.5%; Republic of Ireland SSS in Euros fell (4.4%) vs year-ago (0.5%); E-commerce accounted for 46.6% of UK delivered sales vs year-ago 39.7% and Total online sales up +36.4% to £45.0M vs year-ago £33.0M


CMG initiated outperform with $400 target - Wedbush


PNRA initiated neutral with $116 target - Wedbush


COSI holder Blum Growth Fund calls for new board of directors and has also offered to serve as Chairman and CEO for a salary of $1 for the first year. Also, stated that would be attempting to influence the future of the company through changes to the board and management.


SONC - initiated equal-weight at Stephens






BWLD - had a strong day yesterday on positive studies - initiated outperform with $82 target - Wedbush


BJRI had a strong day yesterday on positive studies - initiated neutral with $45 target - Wedbush


DRI & TXRH were notable decliners on positive volume studies.  TXRH remains a favorite on the short side.




Howard Penney

Managing Director



The Macau Metro Monitor, September 28, 2011




Sands China Ltd has entered into an term loan and revolving facilities agreement of US$3.7BN.  The credit agreement consists of (i) a US$3.2BN term loan that may be drawn until Nov 29, 2011 (Term Loan Facility) and (ii) a US$500MM revolving credit facility available until one month prior to the fifth anniversary of the date of the initial funding of loans under the Term Loan Facility.


Sands expects to draw the full amount of the Term Loan Facility prior to Nov 29, after satisfying certain initial funding conditions and government approval.  The proceeds of the Facilities will be used to refinance outstanding debt and working capitals needs, including those for its Sands Cotai Central project.  


The Price of Winning

This note was originally published at 8am on September 23, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Nothing good in life comes but at a price.”



In the darkest hours before his death at The Battle of Thermopylae, King Leonidas of Sparta provided a light that would last forever. It wasn’t about him or his valor – it was about leadership  - and the ultimate price leaders have to pay to prove they are selfless.


Whether you are American, Canadian, or Polish, the ultimate price your parents and grand-parents have paid for you is that which we all cherish, but sometimes forget to take the time to respect. Liberty.


“Sweetest of all is liberty. This we have chosen and this we pay for.”

-Leonidas, Gates of Fire (page 212)


If what you have seen unfold in the last 3-5 years in our said “free markets” makes you proud, confident, or trustworthy of our said liberties and freedoms, I will call you the contrarian this morning.


It’s one thing to have the courage to stand up to ideological tyrants. It’s entirely another thing to seize the moment when they’ve been revealed for who they really are. Losers. And there has never been a more pressing time in modern American history where this country needs winners to start leading them into daily battle again.


Being called a loser is hard. In our profession it’s actually harder to read than it is to accept. Most people aren’t forced to accept responsibility in recommendation. That’s because we have created a culture in Washington and on Wall Street where losers don’t lose.


They win.


All the while, we sweat equity capitalists who are winning have to keep putting up with their losing ideas. This devastates confidence. That’s the bad and old news.


The good and new news is that the US Dollar strengthening. I think the market is sending us a tremendous opportunity to be the change we all want to see in our markets.


We don’t need policy. We need to pay the price to get rid of its broken promise.


Back to the Global Macro Grind


I’m just going to give you what you need this morning. My positioning and the risk management levels that matter across this Globally Interconnect battlefield of risk.


Hedgeye Asset Allocation Model: 

  1. CASH = I raised our Cash position from 64% to 70% yesterday by selling my long-term US Treasuries. I have zero appetite for Ben Bernanke’s last asset bubble.
  2. INTERNATIONAL FX = 9% and next to Cash, being long the US Dollar Index outright is my highest conviction Global Macro position. Get the US Dollar right (we’ve made 24 calls on the USD since 2008 and been right 23 times), you’ll get a lot of other things right.
  3. INTERNATIONAL EQUITIES = 9% (long China and the Philippines) and this has been dead wrong not only this week, but for all of September. I am not a buyer of more of this mistake on weakness. I am a seller on strength.
  4. FIXED INCOME = 6% (US Treasury Flattener) and I sold 3% of that FLAT long position yesterday on strength alongside selling the rest of our exposure to long-term Treasuries (TLT). Everything has a price, and I’ve been making the Growth Slowing call since February (when we bought FLAT) – so, to a degree, we need to be booking the Growth Slowing trade gains up here.
  5. US EQUITIES = 6% (long Utilities) and this continues to be the only place I would commit capital from a S&P Sector perspective. Utilities (XLU) is the only Sector ETF in our model that is bullish on both the TRADE and TREND durations. The other 8 of 9 Sector ETF’s in our model are in what we call a Bearish Formation (bearish on all 3 durations – TRADE, TREND, and TAIL).
  6. COMMODITIES = 0%. 

That’s not a typo. ZERO percent means 0%. I’ve made my fair share of mistakes this year, but one of them has not been telling you to get out of asset classes (we went to 0% US and European Equities in June; we went to 0% International FX in July). One of the critical things about winning in this business is that it’s a lot easier to do when you remove your potential losers, entirely, from the field. Cash is king.


Dollar UP is pulverizing International FX and Commodity markets again this morning. Here are some critical Global Macro factors to consider that remind me that “valuation” is not a catalyst: 

  1. South Korea’s KOSPI Index and the Hang Sang in Hong Kong continued to crash overnight (down -5.7% and -1.4%, respectively).
  2. Germany, France, and Greece all reversed, hard, from their “bounce” and are continuing to crash on the downside.
  3. Russia, Oil, Copper didn’t have a bounce at all – this is called the Deflating The Inflation (our call since April) with USD strength. 

Here’s what the US stock market has done across our 3 core risk management durations: down 4 consecutive days; down 7 of the last 9 weeks; and down -27.8% since 2007’s free money leverage-cycle peak. Do we need more Big Government Intervention in our markets?


We are entering the darkest hours of American leadership. Let winners win. Let losers lose. And give me my liberty to lead from the front in these markets, or give my firm’s vision death.


My immediate-term support and resistance ranges for Gold, Oil, and the SP500 are now $1733-1799, $81.09-86.90, and 1119-1166, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


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