Time and Price

This note was originally published at 8am on December 13, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“The only reason for time is so that everything doesn’t happen at once.”

-Albert Einstein


Intraday yesterday we made another “Short Covering Opportunity” call. It was no different than any of the other short covering calls we’ve made in 2011 (August 8th, September 12th, October 4th). It’s what we do. Timing matters.


Immediately after making the call our Sales Desk and tweet-machines lit up like a Christmas tree with questions that weren’t all the same – but they certainly rhymed: “but what’s changed”… “why here”… “what’s the catalyst”… etc.


The summary answer to all of the questions is that nothing in our risk management process changed – time and price did. With a long SP500 (SPY) position, a 12% asset allocation to US Equities, and 10 LONGS vs 4 SHORTS in the Hedgeye Portfolio, this is the most bullish position I have taken in all of November-December (that’s a good thing – the SP500 is down for both months).


Back to the Global Macro Grind


If you go all the way back to a week ago today, our Senior Analyst of European research, Matt Hedrick, and I were making an explicit call to short Global Equities and Commodities into the EU Summit. Long live King Dollar (UUP) versus the Euro (FXE) was implied.


On two separate occasions (last Tuesday and Wednesday) you had an opportunity to sell SP500 1265-1268. Maybe you didn’t top tick it, but hopefully you cut your gross and net exposures up there because I can assure you that in the world of your own money, a -3% drawdown of your capital (from 1268 to yesterday’s lows of 1229) matters.


Now some people throw their arms up in the air and say, ‘well, I can’t manage that type of a move’ or ‘I’m too big to make those types of decisions that quickly’ – and I hear and respect where they are coming from. But that doesn’t mean that other people can’t.


Yes We Can.


Managing your gross and net exposure within a band of 300 basis points of risk (3%) is very achievable if A) you have a Global Macro research process and B) you have the catalysts right.


Sometimes catalysts like the EU Summit are scheduled events. Sometimes the catalyst is simply time and price. You need a process to absorb both.


Why did I buy the SP500 (SPY) yesterday?

  1. My immediate-term TRADE line of SP500 support (1232) held
  2. My immediate-term TRADE line of VIX resistance (27.78) held
  3. My immediate-term range of risk collapsed to 37 SP500 points wide (vs 77 on the day prior)

Those first two points are easy to understand. US Equities (SPY) and Volatility (VIX) are inversely correlated on the order of -0.7 right now and of the many factoring relationships in our model, that’s one of the most important ones to consider.


Volatility is also one of the most misunderstood risk factors in all of portfolio construction. In many instances it’s a coincident to lagging indicator – in some instances it’s a leading indicator. That’s why it drives people nuts. That’s why I have built a model to front-run my own volatility signals.


Front-running? Bad word – if you run a brokerage like Corzine did. Good idea if you want to get ahead of the robots that are making decisions in real-time. If you didn’t know that they chase beta, now you know.


Most of you who have dialed into our Morning Call (every morning at 830AM EST – ask for access) know that I front-run my Volatility range using a ‘range of risk’ model that calculates the probability of the next move in both volatility and price.


What does that mean?

  1. If my range is compressing (ie from 77 points wide to 37 points), the implied risk of the range is going down (= BUY)
  2. If my range is widening (ie from 37 points wide 145 points wide where it was last Tuesday), implied risk goes up (= SELL)

To be clear, my ‘range’ signal is one of the many signals I consider before making any exposure, asset allocation, or position decision. Remember, Multi-Factor and Multi-Duration is how we roll.


Not unlike seeing a play develop on the ice, time and patterns are omnipresent. As opposed to the time and space a hockey player needs to consider in making a short-term decision, solving for time and price risk in markets is what can make for a longer-term career.


My immediate-term support and resistance ranges for Gold (bearish TRADE and TREND), Brent Oil (Bearish TRADE, TREND, and TAIL), and the SP500 (bullish TRADE; bearish TAIL) are now $1664-1728, $107.12-109.29, and 1232-1248. On a move back towards 1248, I’ll likely do the opposite of what I did yesterday. Time and price pending.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Time and Price - Chart of the Day


Time and Price - Virtual Portfolio


As you can see I know have PFCB front and center on my radar screen.  I don't want to miss this one.


The P.F. Chang’s at the Irvine Spectrum, has been scrapped and rebuilt with the thought that they wanted the interior not to resemble a traditional P.F. Changs’s but rather feel like an independent restaurant.  The menu has also been revamped, is more innovative, and may offer the company a way to improve the top line. 


It’s dubbed the Irvine Learning Laboratory because it is just that – the company is experimenting with a new menu that has a Pan-Asian theme.  The success of new menu items can be gauged as the chain aims to find new dishes that will appeal to customers across the system.  This is the first step in bringing new life to the current P.F. Chang’s menu.


Below are pictures of the new store in Irvine and some food prepared in the restaurant.








Howard Penney

Managing Director


Rory Green






Keith shorted PENN in the Hedgeye Virtual Portfolio at $35.84.  According to his model, there is TRADE and TREND resistance at $36.34 and $37.93 respectively.  



We're currently below the Street with our Q4 EBITDA and revenue estimates.  It's been awhile since PENN missed a quarter.


Following a tough October, the picture for regional gaming has been mixed in November.  While Missouri and Iowa (same-store) revenues were modestly higher YoY, Illinois (same-store), Indiana, Louisiana posted lower revenues and missed seasonal expectations badly.  We track monthly sequential revenue based on the previous 3 months, adjusted by historical seasonality factors.  Many of PENN's casinos operate in the difficult markets and PENN continues to lose market share in Illinois.  In addition, growth in the newer growth markets (Pennsylvania, West Virginia, Maryland) have been lackluster so far in Q4.  December contains one extra Saturday compared with last year but comps are difficult.



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The Degenerative Science

“Economics is too important to leave to the economists.”

 – Steve Keen


I graduated with a degree in Economics from Princeton University; looking back at old textbooks and syllabi, and listening to former professors debate current economic issues, I can’t help but feel like I “dropped a hundred and fifty grand on an education [I] could’ve gotten for a dollar fifty in late charges from the public library,” to quote one of my favorite movies, Good Will Hunting.   [I fully expect an angry call from my parents today.]


But it seems that I’m not alone.  Last month, seventy freshmen at Harvard walked out of Gregory Mankiw’s introductory Economics 10 lecture; they wrote to the well-known economist that his course “espouses a specific – and limited – view of economics that we believe perpetuates problematic and inefficient systems of economic inequality in our society today.”  And that, “As your class does not include primary sources and rarely features articles from academic journals, we have very little access to alternative approaches to economics.”


The quote that prologues this note is from Post-Keynesian economist Steve Keen’s book Debunking Economics.  If you’ve never heard of him it’s because he doesn’t write for the New York Times or dine in Davos, though in 2010 he did win the Revere Award for Economics for being “the economist who first and most cogently warned the world of the coming Global Financial Crisis.” 


He is a harsh critic of mainstream economists; while Keen warned as early as 2001 that “economic theory has been complicit in encouraging America’s investing public to once again delude itself into a crisis,” neoclassicists like Greenspan, Bernanke, and Geithner were our economic leaders that empowered the private sector to lever up to an unsustainable level (private sector debt to GDP of 300%), gave no warning of imminent danger, and today fail to apply appropriate policies to lift us out of the recession because they don’t understand what caused it.


Like those Harvard freshman, Keen isn’t afraid to say that today’s Emperors of Economics aren’t wearing any clothes.  Hedgeye says it every day.


The economists that make the world’s crucial monetary policy decisions are the same economists that I listened to in lecture halls and authored my textbooks.  While superficially appealing, their theories lack empirical evidence, are riddled with internal inconsistencies, and are based upon tenuous assumptions.  Specifically, their models are built on downward sloping demand curves, upward sloping supply curves, perfect competition, rational consumers, benevolent dictators, and general equilibrium; there is no dynamic analysis, no consideration of disequilibrium, and no role of private sector debt.


What real-world, market economy adheres to the principles defined by our leading economists?


There isn’t one.  That’s why Milton Friedman argued that a theory cannot be judged by its assumptions, but only by the accuracy of its predictions.  But that defense doesn’t hold up so well after every neoclassical economist failed to predict the financial crisis and ensuing recession.  In fact, in August 2008, Olivier Blanchard, professor at MIT and now chief economist at the IMF plainly stated that, “The state of macro is good.”  Somehow, even when groupthink’s policy resulted in turmoil the world over, economic leaders failed to judge modes of economic thought by the accuracy of their predictions.  As a result, the same actors – Geithner, Bernanke et al. – remain in systemically-important roles even after being proved wrong pre and post 2008.


As Keen puts it, neoclassical economists are “wedded to the belief that capitalism is inherently stable.  They cannot bring themselves to consider the alternative perspective that capitalism is inherently unstable, and that the financial sector causes its most severe breakdowns.”


Rather than expanding the range of phenomena that economics can explain, the leading edge of neoclassical theory focuses on defending the core beliefs from the attacks of ancillary views.  It is truly a Degenerative Science, if economics can be considered a science at all.   True sciences expand and evolve: genetics, psychology, quantum mechanics, astronomy; economics defends itself – it is an ideology.


On scientific progress, German physicist Max Planck said that, “Science advances one funeral at a time,” and Keen concurs: “You cannot persuade people who believe a mythical vision of reality and their whole lives are dedicated to believing that way.” 


As it pertains to the leadership of our globally-interconnected economy, we’re more optimistic.  The American people’s frustration demands a faster rate of change than “one funeral at a time.”  Whereas academic economists move at a glacial pace (if they are moving at all), the people are unafraid of change – they will fold a losing hand.  Public opinion polls have shown for some time the dissatisfaction of the American people with Bernanke’s performance, for instance.


Americans want to stop playing with perennial losers, while potential winners are left on the bench. 


Including concepts from complexity theory, evolutionary economics, Austrian economics, Post-Keynesian economics, and other alternative economic schools – all shunned by today’s monetary and fiscal policy leaders – would be a positive change on the margin.  What we need is an economic theory that is more relevant to a modern capitalist economy – one that embraces uncertainty and disequilibrium, is grounded upon realistic assumptions, is judged by the accuracy of its predictions, and where debt and money are implicit, important factors.


Like Wall Street 1.0, Economics 1.0 is broken and has to evolve.  Keen aptly states, “If economics is to become less of a religion and more of a science, then the foundations of economics should be torn down and replaced.”  We are on the way.


Our immediate-term support and resistance ranges for Gold (bought it on 12/14), Brent Oil (Bearish Formation), and the SP500 are now $1, $103.23-107.91, and 1, respectively. 


Kevin Kaiser



The Degenerative Science - EL chart KK


The Degenerative Science - vp mh


P.F. Chang’s is a company with two brands under fire.  PF Chang’s China Bistro and Pei Wei have been underperforming and the investment community has not been forgiving; the stock is down almost 40% year-to-date.  Since I walked away from the PFCB investor meeting last month feeling like I was missing something, I needed to spend more time in the store to understand the issues and contrast that to the direction the company is going. 


Given the current sentiment and valuation, and our fundamental view of the company, we would hold a bullish bias on PFCB but feel that we are 6-9 months away from some initial metrics that can provide some direction.  We need a little more clarity on how the company’s initiatives are faring to gain confidence and visibility that the turn happening.  I’m positive on the long term TAIL (three years or less), but remain cautious from a TRADE (three weeks or less) and TREND perspective (three months or more).  


A successful turnaround of the PF Chang’s Bistro brand must incorporate the following characteristics:

  1. Price points: reengineering the lunch menu to a lower price point, while preserving margins (very tough call here), I imagine they need to give up some margin at lunch.
  2. Marketing/Product: P.F. Chang’s Bistro needs to start communicating more effectively with its customers and enticing people back.  The Irvine project is ground zero for these initiatives.
  3. Look and Feel: upgrading the asset base to a new look and feel is in the works with some early success, but this will take time.

Yesterday, in conversation with Brad Kaemmer, Regional Vice President at P.F. Chang’s China Bistro, we gained a lot of perspective on the depth of the issues at the concept and where Wall Street may be right and wrong on the name. 


The main takeaways are as follows: 

  1. The brand needs to reposition itself on the price-value spectrum, particularly at lunch.  Lower price points at lunch are necessary to provide compelling value to increase traffic.
  2. The concept has a marketing problem.  Part of it is solvable, part of it is not.  What the company can address is the need for improved communication around the product and food preparation.  What consumer doesn’t know (because they are not told) is that the concept ingredients used in P.F. Chang’s restaurants are fresh and carefully prepared as what we witnessed at the West New York location.  That is solvable but will require management to do a much better job of communicating with the customer.  What is not solvable, at least not in the near term, is the fact that the sparse geographic nature of the store base makes it difficult for management to improve its communication via traditional advertising media.
  3. The company fell behind in menu innovation.  For years the company had no real competition and became lazy.  The malaise that the company is feeling now is galvanizing management to make the necessary adjustments to win back customers.  Ground zero for menu innovation is in the renovated Irvine, CA store.  The key to binging traffic back into the store is to provide customers with an incentive.  I know it a restaurant cliché, but the P.F. Chang’s concept needs some “new product news” – give consumers a reason to come back!
  4. The outlook is perhaps not as dour as some fear, but the solution is not around the corner.  While a pricing adjustment may be a large part of what is needed, winning back customers that have been lost is not possible over the immediate term, especially for a company with such a geographically sparse store base.  However, some markets and aspects of the business model are performing well and we believe that the company will regain traction. 

Yesterday our visit was to a P.F. Chang’s China Bistro restaurant and, as such, our takeaways from the visit pertain primarily to that business.  The Bistro is the most important component given that the concept represents roughly 75% of total revenues. 


I hear from so many people that P.F. Chang’s is a dead brand and is uncompetitive.  The fact that the price points are not resonating at lunch is a problem.  The fact that other concepts rolling out Asian dishes in their menus makes them more likely to appeal to larger groups (where the veto vote can be a decider of where to eat) is a problem.  There are a number of different brands, however, that have encountered similar problems in the past twenty years but found a way to address the issues and thrive.


The next six months are critical to see how management addresses these problems.  The stock has been trading sideways for some time at a historically low valuation.  As we like to say at Hedgeye, valuation is not a catalyst – we’ll have to wait for evidence of that to emerge.



Howard Penney

Managing Director


Rory Green



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