"There have been some changes in terms of the central government's attitude toward Macau. We don't think it's necessarily all that prudent to put more money in until we see how that attitude works its way out." - Bill Weidner, President and COO of LVS

"The fact that the economy and the development and expansion of Macau occurred at such a rapid rate has created a great deal of stress on the community. The central government and the Macau government putting ... a slowdown in visitation was an attempt to give the community a chance to absorb the stuff that had been built." - Steve Wynn as quoted by AP

Bill Weidner may have been correct in his analysis that Beijing is to blame for Macau’s recent woes. However, attacking the government publicly has proven to be counterproductive in the past. Wynn, by contrast, continues to praise the efforts of the Macanese and Central governments going so far to say that the government has “handled practically everything beautifully” (AP quote).

Not only does Wynn build and run the best product, he is also a master politician. He has thrived for 30 years in one of the most regulated businesses out there and his prowess in cultivating and maintaining government relations shows, even overseas. LVS should’ve learned his lesson by now.

Could vs. Should

“There are no such things as bad days, just bad moments.” – Drew McGough

This is one of my favorite quotes of all time. Maybe it was penned long ago by some noble scholar. I don’t know, and I really don’t care. As far as I’m concerned, the author is my 10-year old son, Drew, who has the biggest heart of anyone I know (his siblings would agree).  I absolutely love my job, and am honored to both lead and serve such a talented Research team.  But let’s face some facts…sometimes this industry has a way of doling out rapid-fire sucker punches and watching to see if you get up so it can punch again.  Many Wall Streeters have had these challenges of late, and I had a healthy dose yesterday. Fortunately, when I got home my son reminded me that these were simply bad moments in an otherwise good day. I wish I realized that in the final 30 minutes of trading.

You see, I am a fundamental analyst, and I’ll venture as far as to say that I’m a pretty good one. What I am not, however, is a trader. It’s simply not my thing. It never ceases to amaze me how so many people on Wall Street start off as Analysts, and then think that this earns them the right to trade. Some can make the jump, but my opinion is that most cannot.  In my mind, that’s like spending 10 years as a Police Officer, and then graduating to become a Fireman.  These are two different skill sets.

Well, Keith was off-site presenting at a conference yesterday, so I was the de-facto PM executing trades in the Hedgeye Portfolio. When he and I spoke in the morning with the S&P at 860, he told me to buy SPYs (S&P 500 etf) if it hit 814. “No way we get that shot” I thought.  Well, 5 hrs and a 6.5% intraday swing later, I saw 814 approaching. My eyes were glued to the screen, I swear my heart-rate was up at least 20 bpm, and I felt like just downed a Jolt/Red-Bull cocktail. So what did I do? I let it ride. I watched 814 go to 811, 809, and 807. Then I booked it. That’s when I realized two things: 1) I got lucky. I got a good price, but for the wrong reason. I may as well have been at a roulette table and 2) I am not a trader, and I don’t want to be. This is what makes us unique at Research Edge. I’ll be the Police Officer all day. Keith can be Fire Chief. It’s in his blood.

Ok McGough, do you actually have a point here? Yes. As lousy (and sometimes lucky) as I am a trader, is as how weak so many companies are in allocating capital in their own businesses. Obvious or not, we’re seeing it every day. My Jr Analyst Zach Brown whipped up some great analysis on all the components of the S&P to support this premise. Unfortunately, the examples are too numerous to state them all. Overwhelming conclusions…

1. Stock Repo. Companies buy back stock when they can (when margins are at peak and valuations are rich), not when they should. Particularly in Consumer Discretionary, Consumer Staples, and Healthcare. Offenders outnumber good citizens by 8 to 1.

2. FX. There is a massive bifurcation between the flow-through rates of FX gains to the bottom line by company, and by sector. You know how companies tell you what the FX impact is to their business in a given quarter? Ignore them. Most of them do not know. We know the top line, the international exposure, the change in FX, and the incremental change in EBIT. There are some massive discrepancies out there. Check out Warnaco’s (WRC) stock over the past two weeks. There are a lot more WRCs out there.

3. SG&A/Capex. Depending on the business model, investment in the business will show up as either SG&A or capex.  The trend today is obvious. Cut headcount, pull back an overextended asset base, unwind investments gone wrong, and print those savings on the P&L to keep margins high. Guess what folks, when our economy comes out of whatever it is in, would you rather own a company that is actually stepping up and investing today (and probably taking down margins), or one that has already ‘pulled the goalie’ with 1 minute left in the 3rd period and is down 3 goals to 1? The answer is obvious to me.

I still think that the big theme in 2009 will be all about ‘quality bifurcation.’  Companies that respect history, think strategically, act tactically, and are willing to zig when outside pressure from short-term investors is telling them to zag, will end up coming out ahead as meaningful share gainers.  These are companies that invest when they should, not when they could. They’ll pick up the pieces from the poorly-managed companies that are going to have to reap what they’ve sewn.

This market and this economy are going to continue to dole bad moments. Mitigate them in your portfolio by proactively looking for the factors above.

Brian McGough
President and Director of Research

Long ETFs

EWA –iShares Australia – The Reserve Bank of Australia released data showing that it purchased $3.15 billion AUD in October to support the currency.  BHP Billiton Ltd. (EWA:13.5%) declined to its lowest level since September 2005.

EWG – iShares Germany –  Volkswagen AG (EWG:13.6%) announced intentions to complete  the  Chattanooga, Tennessee, plant by the second half of 2010 while predicting no production cuts for US.

FXI –iShares China –The CSI 300 Index, declined 20.73 points (1.1%), led by energy and basic materials stocks.

VYM – Vanguard High Dividend Yield ETF  -- Oil prices fell below $53 to almost a two-year low  this morning leading  Chevron (VYM: 4.11%) and ConocoPhillips  (VYM: 2.92%) indicating down at the open.

Short ETFs

UUP – U.S. Dollar Index --The pound fell to $1.48 this morning on weak UK retail sales numbers.

EWJ – iShares Japan -- The Nikkei 225 dropped 570.18,  (6.9%), closing at 7,703.04 the lowest close since Oct. 28.  Export data showed  a  7.7% Y/Y decline .

FXY – Currency Shares Japanese Yen Trust -- The yen reached 95.28 per dollar today, vs. 95.73 yesterday, as selling pressure on Asian currencies, particularly the Korean Won, sparked volatile trading.


The Merrill Lynch High Yield index declined to a yield of over 20%, as of yesterday, to the surprise of almost nobody. In a market where the spread between agencies and treasuries is still over 160 basis points there is no chance of finding buyers for paper that actually has investment risk. I read a book once that compared arbitrage to picking up nickels lying on the ground while trying to dodge steamrollers –this market feels more like the ground is covered in silver dollars and everyone has their arms in casts.

Traditionally the order of risk dictates that capital flows as follows: arbitrage, relative value and then directional. The theory goes that, as capital seeps into the markets, it tends to pool in the lower ground first picking off attractive riskless (or risk defined) spreads. Therefore by extension lower rated paper shouldn’t rise until after arbitrage spreads begin to contract - In other words only when sufficient liquidity returns to the market to take out low hanging fruit will investors start to focus on individual corporate risks and actually figure out which ones are worth buying.

Until then it’s all just junk.

Andrew Barber

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Eye on China: Capitalism continues to expand

Prompted by falling global crude prices China announced today its intention to introduce a domestic fuel tax, indicating a bold action towards a more market-based fuel pricing mechanism. Fuel prices are expected be cut in the coming days (“as soon as possible”) by 12-20%. Analysts predict that the pump price cut should offset any fuel taxes, with the tax meant to replace road tolls as a means to fund highway construction.

Shares of Chinese oil refiners surged today, with top Chinese refiner Sinopec Corp closing 10% higher in Shanghai. China’s petroleum industry, long monopolized by large state-owned enterprises such as the China National Petroleum Corporation (CNPC) or NYSE- listed PetroChina, China Petrochemical Corporation (Sinopec), and China National Offshore Oil Corporation (CNOOC), has transformed to allow private petroleum enterprises, including the establishment of Great United Petroleum Holding Co (GUPC) as well as overseas companies like Shell and BP.

While this is an immediate benefit for Chinese refiners and integrated energy, which drove most of the surge in the Chinese stock market overnight, it is also another key data point supporting our bullish thesis on China. As other countries are reregulating and limiting free markets, China is in fact adopting capitalist policies.

Matthew Hedrick


The latest data shows that, in the scramble to buy US treasuries in recent months as the global markets imploded, the Chinese are the “winners”. The Treasury Department’s estimates for September show that China’s Treasury securities holdings increased to almost $600 Billion, placing it ahead of Japan as the single largest holder of Uncle Sam’s IOUs. Japanese holdings actually decreased by $13 Billion for the month as the Yen rallied against all major currencies.

A quick look at the charts below gives you a good understanding of the foreign policy component of the economic jigsaw puzzle that president elect Obama and his team will inherit. With China increasingly funding the US deficit the relationship between Washington and Beijing will become increasingly complex.

Andrew Barber

Consumer Trends - 1 hour Not 24

If you don’t have teenagers in your household perhaps you can’t appreciate the TV show 24. It takes Kiefer Sutherland 24 hours to assess the landscape, identify both the problems and opportunities, develop a plan to win, and execute upon it – all while tackling volatile changes in the day-to-day operational climate. Keith McCullough does it for our clients in one hour. The Research Edge morning meeting is scheduled to last one hour (but with diatribes it can easily turn into more), with Keith using the first 20 minutes to create a mosaic of how the world is intertwined from an investment standpoint. Appreciating the Research Edge Trend vs. Trade mentality, Keith is clearly more constructive recently on the US than most strategists. His note on 11/12/08 “Beware of the Squeeze” had nine factors that work the bullish scenario and he increased his weighting in the US market. At Research Edge, we now stand at US Cash 67%, US Equities 14%, and International Equities 19%…

As a consumer analyst that is the only hour in the day that I feel better about the market and the direction we are headed. I don’t need to patronize Keith, but for the first 20 minutes his Marco narrative as the facts stand today can actually make you feel much better about where we are in the cycle, and that the worst of the destruction in the market is behind us. As an aside, 99% of the people reading this note don’t get the benefit of that hour, but it can happen if you so desire (I’ll save those details for another forum).

Coming out of the morning meeting I’m determined to find some name in my group that is going to work on the long side. Unfortunately, it does not take long before reality starts to set in – the consumer is in real trouble. I end up looking for companies where the news flow is “less bad” and all I can hope for is a short squeeze. That is no way to invest and a great way to lose money. Unfortunately, basic Graham and Dodd analysis is not holding up, it does not matter if you are buying a stock on the basis of asset value, free cash flow yield or an EBITDA multiple; no metric seems to be working. The root of the problem is that sales continue to disappoint and margins are being squeezed to levels that are impossible to model. But Keith would say “US Consumer Discretionary stocks have been crashing for longer/further (peak to trough decline from 07’ is now -55%), and now the Street is bearish on spending!” I know I see that every day, but when is the consumer going to start spending again?

In my lifetime, changes in economic activity have been closely related to growth in consumer credit and the biggest driver of incremental consumer credit has been the growth in residential mortgages. Those days are over. Given the actions the government has taken it’s easy to argue that the appropriate steps have been taken to stabilize the financial system, which should invigorate the credit markets and allow businesses to lend so consumers start spending again – but when? Where are they going to get the money? If consumers have equity in their homes today, the last thing these people are going to do is borrow more to spend! In fact the opposite is happening as more banks are requiring consumers to put more equity in their homes.

I know gas prices at the pump are approaching $2, which will put more money in the consumer’s pocket, but job losses and higher mortgage rates can eat that benefit up in a heartbeat. I can easily give you a list of 10 companies that need to see an immediate reversal (next six months) in consumer spending or they will need to shrink significantly in order to survive. As more companies shrink to stop the bleeding, more consumers will be out of work and the further we get from the bottom of the economic cycle. It’s hard to paint a picture on how we get out of this destructive downward cycle.

Yes, my day-to-day conversations with companies, suppliers and industry insiders are downright depressing. I realize, however, that most industry executives lack the foresight to see an inflection point when business will turn – for better or for worse. This is when marrying a Macro process with Micro analysis matters most.

I really want to be wrong this time on my industry outlook and I’m looking forward to 8:30 am so I can get out of this funk even if it’s only for an hour!

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