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THE HEDGEYE DAILY OUTLOOK

THE HEDGEYE DAILY OUTLOOK

 

TODAY’S S&P 500 SET-UP - October 14, 2011

Provided that the SP500 doesn’t get above 1229 (TREND) on the Google news, we’re crossing the Rubicon of bank earnings Monday (Citi reports today), Tuesday (Goldman and BAC), and Thursday (Morgan Stanley).  JPM’s reaction will leave a psychological mark, as bank earnings and counterparty risk are not going to be resolved for anytime soon.

 

G20 – the setup here is a little unnerving as Geithner is going to do what he’s been groomed to do for 47% of his born life (bailout banks) appearing again this morning on TV at 910AM (CNBC) as central planning Europeans huddle in Paris.

 

As we look at today’s set up for the S&P 500, the range is 55 points or -2.80% downside to 1170 and 1.77% upside to 1225

 

SECTOR AND GLOBAL PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - hrmsv

 

THE HEDGEYE DAILY OUTLOOK - bpgm1

 

THE HEDGEYE DAILY OUTLOOK - hrmsp

 

EQUITY SENTIMENT:

  • ADVANCE/DECLINE LINE: -666 (-2457) 
  • VOLUME: NYSE 898.46 (-15.72%)
  • VIX:  30.70 -1.79% YTD PERFORMANCE: +72.96%
  • SPX PUT/CALL RATIO: 1.40 from 1.70 (-17.69%)

CREDIT/ECONOMIC MARKET LOOK: 

  • TED SPREAD: 38.79
  • 3-MONTH T-BILL YIELD: 0.02%
  • 10-Year: 2.19 from 2.24     
  • YIELD CURVE: 1.90 from 1.95

MACRO DATA POINTS (Bloomberg Estimates):

  • G-20 finance ministers meet in Paris
  • 8:30 a.m.: Import Price Index, est. (-0.4% M/m)
  • 8:30 a.m.: Retail sales, est. 0.7%
  • 9:10 a.m.: Treasury Secretary Tim Geithner speaks on CNBC
  • 9:55 a.m.: UMich Confidence, est. 60.2
  • 10:00 a.m: Business inventories, est. 0.4%
  • 1:00 p.m.: Baker Hughes rig count
  • 2:00 p.m.: Monthly budget: est. (-$64.0b)

WHAT TO WATCH:

  • UBS, Lloyds and RBC had long-term issuer default grades cut by Fitch Ratings, which put more than a dozen other lenders on watch negative as part of a global reviewSlovakia may approve Europe’s enhanced bailout fund today or tomorrow, finishing ratification process
  • Google is seeking agreements with record companies by the end of the month to start a music store that will compete with Apple’s iTunes.
  • Apple is poised to sell as many as 4m units of its new iPhone 4S this weekend
  • Presidents Obama visit a GM plant in Michigan.

 

COMMODITY/GROWTH EXPECTATION                                                                    

 

THE HEDGEYE DAILY OUTLOOK - dcommv

 

MOST POPULAR COMMODITY HEADLINES FROM BLOOMBERG:

  • Bangkok Will Escape Flooding as Barriers Hold, Yingluck Says
  • Copper Heads for Second Weekly Gain as LME Inventories Decline
  • Oil Heads for Second Weekly Gain on U.S., Europe Demand Outlook
  • Walter Jumps on Report of Takeover by Anglo American, BHP
  • Naphtha’s Top 2011 Premiums Seen on Supply Cuts: Energy Markets
  • Gold Gains in London on European Debt Woes, Physical Purchases
  • Weakest Rupee Sends Refiners to Dollar Borrowings: India Credit
  • Oil Heads for Second Weekly Gain Before U.S. Retail Sales Data
  • Copper Rises, Heads for Second Weekly Gain on Demand Signals
  • Deere Plans to Supply Fewer Combines in U.S., Dealers Say
  • Sugar Futures Rally as Floods Delay Asia Harvests; Cocoa Falls
  • Rubber Drops on Concern Spreading Debt Crisis May Reduce Demand

 

CURRENCIES                                                                             

 

EURO – the hope trade continues to look more like short covering than anything else as the long-term TAIL of Euro resistance at 1.39 wasn’t even tested this week. As hope turns into a timing problem (no way this bazooka comes anytime soon), there’s a heightening chance of a Euro currency crash down to 1.22 vs USD. Buy the US Dollar (our Macro call today on this at 11AM EST)

 

THE HEDGEYE DAILY OUTLOOK - dcurrv

 

EUROPEAN MARKETS

 

Spain has its long-term sovereign credit rating cut to AA- from AA by S&P, which cited likely deterioration of nation’s bank assets and weaker economic growth prospects that will keep unemployment elevated.

 

THE HEDGEYE DAILY OUTLOOK - bpem1

 

ASIAN MARKETS

 

ASIA – significant signals continue to remind us that Asia’s Growth Slowdown is accelerating (European demand down hard); both the Shanghai Comp and the Hang Seng failed at TRADE lines of resistance again last night (2489 and 18,842) with HK dropping another -1.4% and Singapore (China’s key regional advisor) cutting GDP growth estimates again to 5%.

 

India inflation exceeds 9% 10th month amid rate pressure

 

THE HEDGEYE DAILY OUTLOOK - bpam1

 

MIDDLE EAST

 

THE HEDGEYE DAILY OUTLOOK - me

 

Howard Penney

Managing Director

 

 


(CORRECTED) MPEL: EVEN WE CAN’T GET TO 250

In the category of setting expectations too high, DB's US analyst just moved their Q3 EBITDA estimate to $250 million. Good thing the stock is dirt cheap and consensus still too low.

 

 

We just can’t get to $250 million.  That doesn’t mean we don’t think MPEL is ridiculously cheap and Q3 consensus is way too low.  The stock should trade up into the quarter but if whisper expectations are for $250 million, the actually print could be a disappointment.  We are at $228 million in Q3 EBITDA which is still almost 20% above the Street.  With some tweaks we can certainly get higher but $250 million looks like a stretch.  The stock does trade at only 7x 2012 EV/EBITDA so really, what's a few million?   

 

So why is $250 million unlikely?  The only way it happens is if City of Dreams and Altira held abnormally high on the rolling chip junket programs and much lower at the revenue share junkets.  We’re pretty sure overall VIP hold percentage was around 3.08%, which is above normal but already reflected in our model.  However, only a statistical anomaly favoring the rolling chip junkets could help boost EBITDA up to $250 million.  Of course, there are more subtle areas that could contribute: lower promotions (doubtful), better cost controls (possible), but the junket mix would have to be extremely favorable.

 

We’re not trying to be too cute here.  The fact is the stock looks very cheap and estimates need to go higher.  That’s usually a recipe for share appreciation.  We just want to keep expectations realistic.


SLOTS: THE TEETH BEHIND THE REPLACEMENT LIP SYNCHING

Everyone seems to offering the same rhetoric about replacement demand but a closer look reveals some interesting developments 

 

 

It’s probably fair to say that the consensus at G2E and the investment community is that replacement demand is likely to stay stagnant - 18 years - for the foreseeable future.  Never mind the math that shows replacements bottomed out in 2008 or that the physical life of a machine is on average no more than 12-13 years.  Interestingly, while suppliers are outwardly espousing the same rhetoric, internally, they are all cognizant of the fact that the 2 major subsectors of the slot market –video poker and 3 reel mechanicals – are older, fully depreciated, on platforms that are no longer supported, and have waning performance.  Dare we say that, despite the conservative rhetoric to investors, a few suppliers are gearing up to replace this aging base of machines?

 

We touched on this topic in our note, “G2E TAKEAWAY” (10/06/11).  For the first time in a long time, IGT had new video poker products on display at G2E.  IGT has an install base of 130,000 video poker machines – 100,000 of which are on the old 8960 platform – which to our understanding is about 9 years old.  WMS was also making another foray into the video poker market with a product that should be commercial in about 12 months.  Could this be a coincidence?  We think not.  Of course, the high likelihood of IL coming online doesn’t hurt either.

 

3 Reel spinners are the other oldie but goodie market garnering a lot of attention (not investor attention) these days.  Mechanical spinning represent roughly 30% of the total slot market in the US with 3 reel spinners being the older product.  IGT believes that they have about 130,000 3 Reel Spinners out there today, making up the majority of their total spinner product.  Given the vast install base, we’re not sure how old their install base is but we’re pretty sure that it's over 5 years old.  IGT has a new 3 Reel, one line product out – also targeting the Australian market – 36% of which is comprised of old 3 reel product.   IGT also has some neat features on its MLD platform which it hopes will garner some of the share of 3 reels being taken out.  

 

BYI’s has confirmed that there are about 35-40,000 legacy S-6000 high denomination, 3 Reel Spinners that are basically approaching obscelence.  BYI is hoping to replace some of those units with its new Pro-Curve cabinet. 

 

Konami agrees that the 3 Reels out there are old and in need of replacements but hopes that most of the new products gets replaced with video product. After many failed attempts to penetrate the spinner market, Aristocrat is out with a new hybrid stepper that also hopes to grab a share of the maturing market.

 

We expect to see the incumbents offering deep discounts on very expensive ‘retail’ price tags on new cabinets – mostly in form of trade-ins in order to garner as large of a share of any replacements that occur.  New entrants should also benefit as this will offer operators a chance to diversify their existing floors.  IGT is really the only video poker player to speak of, although the roll off of their Moody patents over the next 2-3 years should spur more competition in the sub-segment of the market.  IGT, followed by BYI, are the manufacturers behind almost all of the legacy spinner product installed on casino floors today.  WMS entered the spinner market with their transmissive reels about 5 years ago and ALL has never been able to get traction in spinner segment from past attempts. 

 

Bottom line: while the perception is that there is only a small replacement market to speak of, there are some pretty hungry bears out there chomping at the bit.  Of course the easiest solution to aging machines is simply a refurbishment, but we’re pretty sure that if manufacturers have any say in the matter they will use this as an opportunity to force replacements. 


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 80.33%
  • SHORT SIGNALS 78.51%

(CORRECTED) MPEL: EVEN WE CAN’T GET TO 250

In the category of setting expectations too high, DB's US analyst is pushing Q3 EBITDA of $250 million. Good thing the stock is dirt cheap and consensus still too low.

 

 

We just can’t get to $250 million.  That doesn’t mean we don’t think MPEL is ridiculously cheap and Q3 consensus is way too low.  The stock should trade up into the quarter but if whisper expectations are for $250 million, the actually print could be a disappointment.  We are at $228 million in Q3 EBITDA which is still almost 20% above the Street.  With some tweaks we can certainly get higher but $250 million looks like a stretch.  The stock does trade at only 7x 2012 EV/EBITDA so really, what's a few million?   

 

So why is $250 million unlikely?  The only way it happens is if City of Dreams and Altira held abnormally high on the rolling chip junket programs and much lower at the revenue share junkets.  We’re pretty sure overall VIP hold percentage was around 3.08%, which is above normal but already reflected in our model.  However, only a statistical anomaly favoring the rolling chip junkets could help boost EBITDA up to $250 million.  Of course, there are more subtle areas that could contribute:  lower promotions (doubtful), better cost controls (possible), but the junket mix would have to be extremely favorable.

 

We’re not trying to be too cute here.  The fact is the stock looks very cheap and estimates need to go higher.  That’s usually a recipe for share appreciation.  We just want to keep expectations realistic.


JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE

Jobless claims came in this week at 404k.  Backing out the revision to last week's data, claims moved higher by 3k.  Looking at the non-seasonally-adjusted series, there was an increase of 66k claims week over week - an apparently large number but not atypical for the week following quarter-end.  

 

We are struck by the fact that the supposedly "technical" factors that caused the sudden decline in claims a month ago have not reversed.  Distortions around quarter-end are typical, and the decrease didn't show up as an aberration in the non-seasonally-adjusted data.  Meanwhile, the spread between claims and the S&P remains as wide as it's ever been in the last three years.  If claims move to the level implied by the S&P, that would be roughly 475k.  For reference, a 475k claims level would be consistent with 0% or lower GDP growth.

 

Bigger picture, monetary stimulus has had a tight correlation to improving initial claims. The lack of further easing from the Fed means that this tailwind is now gone.  With further fiscal stimulus also off the table, we expect that initial claims will reflect growing weakness.  

 

JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - rolling


JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - raw

 

JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - NSA

 

JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - claims and fed

 

JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - sp and claims

 

2-10 Spread

The 2-10 spread widened by 29 bps versus the prior week as the market rallied. 

 

JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - 2 10 Spread

 

JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - 2 10 Spread QoQ

 

Subsector Performance 

The table below shows the performance of financial subsectors over various durations.

 

JOBLESS CLAIMS RESILIENCE SEEMS UNSUSTAINABLE - Subsector performance

 

Joshua Steiner, CFA

 

Allison Kaptur

 

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LIZ: Playing Out in Black Book Fashion

 

Liz is changing exactly what it should be changing -- EVERYTHING. Could not be more spot on with what they need, and our thesis. The valuation profile and investor base will change dramatically here.

 

 

Liz is changing exactly what it should be changing -- EVERYTHING. Could not be more spot on with what they need, and our thesis, as we outlined in our Sept. 13th Black Book (LIZ: Get In While You Can). The valuation profile and investor base will change dramatically here.

 

What the company looked like yesterday – a highly levered (~4x Net Debt-to-EBITDA on 2012 numbers) weak primary brand, inactive management/board, no earnings, and valued largely by hopeful EBITDA numbers and phantom breakup values; to being one that has a much more defendable portfolio that is, by and large - actually growing (or just returning to growth after years of investment) has just had its debt levels decimated to 1.7-1.9x Net Debt/EBITDA on 2012 numbers – virtually eliminating bankruptcy risk. It has one division alone with a growth profile like few others in global retail that accounts for over 50% of the company’s cash flow.

 

We've heard nothing but silence by most investors as we worked this name as our top idea over  the better part of this year. But now people will start to value it like a viable stand-alone company with earnings power better than a buck within reason.

 

Slap on a reasonable EBITDA, PE, sales, FCF, or just about any other metric you want, and the stock still looks attractive even after yesterday's 34% run.

 

LIZ: Playing Out in Black Book Fashion - LIZ LevRatio 10 11

 

 


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