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Looking For Improvement

This note was originally published at 8am on December 15, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Socialism told us that we had been looking for improvement in the wrong direction.”

-Friederich Hayek


I’ve been writing about this from my gut since I started the firm in 2008, but I think it’s worth stating plainly again this morning because it’s the one solution to this mess of economic common sense that we have not yet tried – stop what we are doing.


That’s it. Instead of do more, spend more, centrally plan more. Just stop.


As we have learned since 2007, central plans can only suspend economic gravity for short periods of time. In the long-run, we all have to find a way to let free market capitalism live. The best way to ensure that is to let market prices clear.


Hayek’s views are often ignored and/or misrepresented primarily because the entire Western system of economics education is founded on the idea that Big Government Intervention can “smooth” the business and price cycle.


How’s that smoothing mechanism treating everyone?


I don’t wake up every morning looking to whine. I want to win. Like many immigrants, that’s what I came to America to do. I’m Looking For Improvement in markets every day.


I’m looking to invest in a Strong Dollar. I’m looking for someone in this country’s political leadership to embrace the long-standing economic fact that a Strong Currency empowers not only a nation’s purchasing power, but the confidence of its People.


Taking a step back – and I mean going all the way back to the arenas of meritocracy that hosted the great debates of the Roman Empire (pre 49BC) – this is all we want. We want to be able to have an idea in this country and compete with the broken ideas of the status quo.


If we lose, we can deal with that. If we win, we can change the world. As the great American hockey Coach, Herb Brooks, said, “Again!” – stop what we are doing so that we can all start over.


Back to the Global Macro Grind


US Consumer Confidence is rising as the US stock market is falling.




Yes, while this may shock people who are in the business of seeing stocks go up, the other 80-90% of us get paid when the price at the pump goes down. At Hedgeye, since our Q211 Global Macro Themes call, we’ve coined this commoner’s phenomenon “Deflating the Inflation.”


Metaphorically, maybe this is why Hayek’s economic perspective resonates with so many people. When “Hayek disembarked at the passenger liner quay on Manhattan’s West Side in March 1923 with just twenty-five dollars in his pocket… he decided to take a job until Jenks returned, and was offered one washing dishes in a Sixth Avenue restaurant…” (Keynes Hayek, page 27)


While he didn’t make his name in dishwashing, this does remind readers what it takes to make it in this world.  On Saturday mornings in the 1980s, after my Dad got off the nightshift at the fire-hall, we’d literally scrub the local GM Auto Body shop’s floor with de-greaser, clean the toilets, and sweep the floors.


And liked it…


I mean that with all sincerity. There was an innocence maybe, but also a recognition of reality. That job put more money in our pockets than we’d have had if we didn’t do it. That job, when completed, also gave me a personal sense of accomplishment and responsibility.


This is the real-world folks. And it’s time we start liking that American idea again too.


In May 1924... Hayek set sail back across the Atlantic … and would not return to America for another twenty-five years.” (Keynes Hayek, pg 28)


That’s an American academic tragedy. Since Hayek’s English was awful, he had a very hard time communicating with the British academic elite (which instructed the American academic elite on economics).


However, by 1932, after Keynes had blown up most of his capital being long corn, rubber, etc. (you know, the Debauch the Currency, Buy Commodities trade), Hayek was gaining traction.


His argument – all of your central plans since 1928 have not worked. They have perpetuated the inflation and slowed Consumption growth.


His solution – stop what you are doing.


Was 2007 this Canadian-American’s 1928? I hope not. But hope is not a risk management process. And if I really take a step back and see how much money I made being long inflation (2003-2007), I can’t say it made me any more proud than the glimmer of that GM shop floor.


My immediate-term support and resistance ranges for Gold (bought it yesterday), Brent Oil, German DAX, and the SP500 are now $1568-1624, $104.94-108.61, 5593-5831, and 1205-1230, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Looking For Improvement - Chart of the Day


Looking For Improvement - Virtual Portfolio


TODAY’S S&P 500 SET-UP – December 20, 2011


Plenty going on out there in the world – we just need to keep refining a repeatable risk mgt process to absorb it: 1207 holding in the SP500 is critical. We’ll see what the bulls have left to keep it treading water – inflows are dead.  As we look at today’s set up for the S&P 500, the range is 20 points or -1.02% downside to 1193 and 0.63% upside to 1213. 





Markets wait for no one. Unfortunately, they don’t take vacation – and have a not so funny way of imposing the most amount of pain on the most amount of people in short windows of time. With the SP500 down -3.3% for December to-date, today’s break of our intermediate-term TREND level (1207) is an explicit warning signal.


Holding below 1207 needs to be confirmed by at least 3 trading days (on a closing basis), but it’s important to note that the last time we snapped the TREND level, moving the SP500 into a Bearish Formation (bearish across all 3 of our risk management durations  - TRADE, TREND, and TAIL), was in mid-July.


The good news is that 5 of 9 Sectors did not confirm today’s TREND Break in the SP500 (Utilities, Consumer Staples, Consumer Discretionary, Healthcare, and Industrials). The bad news is that Tech joined Financials, Basic Materials, and Energy today, moving into a Bearish Formation. So watch Tech closely from here.


Strong Dollar = Strong Consumption. That beat beta today, but still reminds me it can lose money on down days if beta is bad enough.




THE HEDGEYE DAILY OUTLOOK - daily sector view


THE HEDGEYE DAILY OUTLOOK - global performance




  • ADVANCE/DECLINE LINE:  -1742 (-2463) 
  • VOLUME: NYSE 774.69 (-56.69%)
  • VIX:  24.92 +2.59% YTD PERFORMANCE: +40.39%
  • SPX PUT/CALL RATIO: 1.60 from 1.36 (+17.76%)



  • TED SPREAD: 56.69
  • 3-MONTH T-BILL YIELD: 0.01%
  • 10-Year: 1.82 from 1.86   
  • YIELD CURVE: 1.58 from 1.62


GLOBAL MACRO DATA POINTS (Bloomberg Estimates):

  • 7:45am/8:55am: ICSC/Redbook weekly retail sales
  • 8:30am: Housing starts, Nov., est. 635k, up 1.1% (prior 628k)
  • 8:30am: Building permits, Nov., est. 635k, down 1.4% (prior 644k (revised)
  • 11:30am: U.S. to sell $30b 4-week Bills
  • 1:00pm: U.S. to sell $35b 5-yr notes
  • Germany - Jan GfK consumer sentiment 5.6 vs consensus 5.5, prior 5.6
  • Nov PPI +5.2% y/y consensus +5.2%, prior 5.3% Dec IFO business climate 107.2 vs consensus 106.1, prior 106.6 current conditions 116.7 vs consensus 116.0, prior 116.7 expectations 98.4 vs consensus 97.0, prior 97.3
  • European Automobile Manufacturers' Association (ACEA) Nov Commercial Vehicles Registrations in the EU +8.4% y/y


  • HTC said it would work around a U.S. ITC ruling after Apple won a patent-infringement judgement; Bernstein says Apple victory won’t lead to disruption
  • ITC judge to issue decision in Microsoft patent-infringement case against Motorola Mobility, 5pm
  • Explosion at Shanghai supplier to Apple injured 61 workers after aluminum dust produced by polishing cases for iPads ignited, China Labor Watch said
  • House Republicans poised to force impasse over payroll tax cut; House meets at 9am
  • Gingrich in Iowa, Romney in N.H.




OIL – Bearish is as bearish does; provided that the USD holds my most immediate-term TRADE line of $79.68 support, I see Brent Oil making lower-highs on bounces within a newly established Bearish Formation (TAIL resistance = $110.12/barrel). This read through is wrecking Russia; down another -1% this morning, sending the RTSI to -36.2% since the Bernanke USD debauchery low (April 2011)


  • Yanzhou Said to Plan $2 Billion Purchase of Gloucester Coal
  • Australia Weathering Europe Recalls 2009 Resilience: Economy
  • Silver Puts Rise to Highest Ever After Dollar Rally: Options
  • Oil Climbs for a Second Day on U.S. Crude Supply, Iran Outlook
  • Recession Risk Beats Fukushima in German Power: Energy Markets
  • Tanker Bear Market Worst Since ’90s as Owners See Loss: Freight
  • Gold Gains as Drop Spurs Purchases, Offsetting Dollar Strength
  • Stocks Fall on Debt Crisis Concern as Treasuries, Dollar Advance
  • Sino-Forest Defaults on Two Bond Issues, Seeks Waivers
  • Investors in ‘Fetal Position’ as Goldman Sees Rally: Commodities
  • Copper Climbs as U.S. Growth Forecast Boosts Optimism on Demand
  • Eldorado Drops Amid $2.4 Billion Bid for European Goldfields
  • Oil Advances as North Korea, Iran Bolster Geopolitical Tension
  • Uranium Prices Decline 0.9% as Spot Market Winds Down, Ux Says
  • Palm Oil Drops for First Day in Three on Weaker Export Demand
  • Copper Gains as Europe Plan, U.S. Growth Forecast Fuel Optimism

THE HEDGEYE DAILY OUTLOOK - daily commodity view





THE HEDGEYE DAILY OUTLOOK - daily currency view





FTSE – Steiner highlighted this in our morning meeting yesterday and it appears that the market continues to care about it this morning – capital charges on British banks – gives the FTSE and Swiss Market Index negative divergences vs the region this morn despite the Swedes cutting rates by 25bps to 1.75% (Sweden gets the + divergence for the morning, up +0.8%)


THE HEDGEYE DAILY OUTLOOK - euro performance





KOREA – I learn a lot more about a bear market on the bounces than you do on the down moves – the KOSPI’s -3.4% drop on the “news” was met w/ a +0.91% bounce overnight (you’d need a +3.7% move to get back to breakeven); much like the rest of Asia which was weak again (India down another -1.3%, crashing to -26% YTD), South Korean Industrial and Tech demand continues to slow


THE HEDGEYE DAILY OUTLOOK - asia performance




  • Oil Climbs for a Second Day on U.S. Crude Supply, Iran Outlook
  • Saudi Border Guards Chase Smugglers as Yemen Unrest Spurs Exodus
  • Indonesia Sukuk Poised to Beat Malaysia in 2012: Islamic Finance
  • Drydocks World Sees $2.2 Billion Debt Restructuring in March
  • Saudi British Bank Ratings Reviewed for Downgrade at Moody’s
  • Emaar Raises $980 Million Financing to Extend Maturities
  • Oil Advances as North Korea, Iran Bolster Geopolitical Tension
  • Saudi King Abdullah Calls for Closer Arab Union at GCC Summit
  • Twitter Gets $300 Million From Alwaleed Amid Website Revamp
  • Emaar Rises Most in a Week After $980 Million Financing Facility
  • Iranian Oil Halt Would Boost Oil by $40 a Barrel, BofA Says
  • Iran Pumps Less Crude Oil as Investors Grow Scarce, ISNA Says
  • Etihad Takes 29.2% Stake in Air Berlin, Squeezing Lufthansa
  • Qatar Plans to Invest Up to $2b in Financial Services, FT Says
  • Moody's places Saudi British Bank's Aa3/C+ ratings on review for




The Hedgeye Macro Team

Howard Penney

Managing Director


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The Machinery

“It is the machinery of banking which makes this imbalance possible.”

-John Maynard Keynes


While I am not sure what machinery Banker of America’s Brian Moynihan uses to make his economic and risk management forecasts, I am certain that he does not use the same machines we do. We use fractal math.


I’m also confident that The Machinery of a globally interconnected marketplace of colliding risk factors is completely misunderstood by the academic source code that drives these Investment Banking Inc. estimates – classical Keynesian economics.


The Machine” is actually what the best Global Macro Risk Manager of the 2007-2011 period (Ray Dalio, who I highlighted in yesterday’s Early Look when asking the question, What’s True?) calls economic “reality” – and sometimes it bites.


It certainly has in December.


At an “Economic Outlook” (scary) conference in Charlotte, NC yesterday, the embattled CEO of BAC channeled Hedgeye by suggesting “2012 will be another year that’s  a grind in the economy.”


Notwithstanding that Moynihan is 12 months late in recognizing economic reality and its impact on Bank Of America’s cash earnings (Net Interest Margins (NIM) collapsing), we still can’t figure out how he comes up with a +2.1% US GDP estimate for 2012.


Neither can his shareholders.


On December 31, 2010, BAC’s stock price was $13.34/share. Yesterday it closed at $4.99/share. While that sounds like a weekend special on a slab of flank steak, at down -63% for the YTD,  it’s even “cheaper” than that! A value meal at Mickey D’s is going to have a tough time competing with that price (even if you adjust for a black car service taking you through the drive thru, paying for gas).


As the venerable value investor Marty Whitman reminds us, “A bargain that remains a bargain, is no bargain.”


But what does this collapse of the US money-center banks mean? Isn’t this all Europe’s fault? Or this morning, should we just Blame Canada?


With the SP500 down -3.3% for December (after being down -0.6% in November and down -11.6% from the April 2011 high where the likes of Moynihan said US GDP Growth was going to be up +3-4%), how about we blame ourselves for once?


The Machinery of the globally interconnected marketplace has not changed. Unfortunately, neither has Old Wall St. It’s time we Embrace Uncertainty in our growth and inflation assumptions and stop begging for The Bernank to “smooth” the business cycle for us or our Too Big to Bail banks are going to be sitting right back where they were 23% higher in the S&P (October 2007).


In the meantime, here’s what going on in this morning’s USA Macro Grind:

  1. SP500 is testing its only remaining line of support in our TRADE/TREND/TAIL model (TREND = 1207)
  2. US Equity Volatility continues to hold its long-term bullish TAIL line of 23.11 support
  3. The Range (of risk) in my immediate-term probability model for the SP500 is 72 points wide (manageable)
  4. US Stock Market Volumes are as dead as the trust Americans have in Big Government Intervention markets
  5. Sector Risk: Financials (XLF) led decliners yesterday and remain in a Bearish Formation (crashing -23.2% YTD)
  6. Sector Signals: Consumer Discretionary (XLY) and Consumer Staples (XLP) hold up relatively well with Strong Dollar
  7. Strong Dollar = Strong US Consumption (try it at the pump this weekend, you’ll like it)
  8. US Dollar Index is busting a move into a Bullish Formation with immediate-term upside to 81.24
  9. US Treasury Yields continue to signal that Growth Slowing will be here through Q112 (10yr = 1.85% this morning)
  10. Yield Spread (proxy for growth and US bank earnings) = +161 basis points wide, and compressing

Outside of the USA, the Top 3 Risk Management items to recognize as reality today are:

  1. Eurocrat Bazooka is more like a pepper-gun
  2. China says they are not going to implement a “large stimulus”
  3. Greece is going away

Don’t worry SocGen vacationers, I don’t mean the Greek islands and beaches – I just mean their stock and bond markets. Greece issued 3-month piggy paper at 4.68% this morning and her stock market hit a fresh YTD low at 644 on the Athex Index (down -62.4% from Q111).


I suppose that if we give Keynes a bailout do-over on the quote about The Machinery of banking, he’d have to call the money printing and piling-debt-upon-debt solution to Greece one heck of an “imbalance!”


God Bless America and the opportunity we have here to stop what we are doing. It’s time to Re-think. Re-work. Re-build.


My immediate-term support and resistance ranges for Gold, Oil (Brent), German DAX, French CAC, and the SP500 are now $1, $101.34-106.28, 5, 2, and 1193-1213, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


The Machinery - Chart of the Day


The Machinery - Virtual Portfolio


The Macau Metro Monitor, December 20, 2011




The renovation work at the Outer Harbour Ferry Terminal will begin in 3Q 2012 and will last for at least one year, a Maritime Administration (CP) official said.  “We will divide the work into four phases,” the official explained.  The initial renovation will add luggage facilities and a baggage carousel to the east wing of the first floor. The second stage will see all the ticket offices moved into the same second floor area.  During the third phase the offices of tourism and hotel businesses will be moved to a specific area in the west wing of the first floor. The final alterations will create a separate check-in and embarkation zone for vessels traveling to the Hong Kong International Airport.


There is still no decision on the future role of the Outer Harbour Ferry Terminal.


If Nike trades down on a sentiment shift, we like it. Numbers are too low. The Street likes it, but for the wrong reasons, and will miss both the depth and duration of this stock move.


We think that we’ll see subtle changes in Nike’s posture towards the Street when it reports its F2Q12 after the bell tomorrow. Though Nike should beat handily (we’re at $1.04E vs the Street at $0.97E) and its backlog should remain in the vicinity of 10%, we think that near-term perception will turn from this being a sheer top line acceleration story, to being one of margin improvement.  


The trade-off between top line and margin would ordinarily be a major yellow flag for us – especially given that Nike’s sentiment is the highest out of any name in retail (as outlined in our sentiment indicator below). It’s well loved by the sell-side (14 buys and 0 Sells) and buy-side (1% of the float short) alike. Revenue slowdown into positive sentiment is never a recipe for stocks to go up.


But few people I talk to are playing Nike for a TRADE. I don’t blame them. This is when slicing and dicing a story by duration matters most.



TAIL (3-Years or Less): We think that people like Nike, but for the wrong reasons. They under appreciate the earnings power of the company over the next 2-3 years, as well as the disproportionately smaller capital commitment Nike will need in order to incur in order to grow the P&L. Nike has already invested in the infrastructure needed to more than double the size of its direct business (which is an embarrassingly low sub-15% given that this is one of the most powerful brands in the world), as well as gain share in both Women and Apparel (these two, along with Retail, are not mutually exclusive).


That means more cash, which Nike is using increasingly to return to shareholders where it cannot invest internally or externally at 30% or better. One of the knocks we’ve had with this story has been the widening gap between ROIC and ROE. That’s finally narrowing (and it’s not bc ROIC is falling). Multiply the X axis times the Y axis on the chart below. The product is RNOA. Clearly, when both metrics head to the upper right, there is a dramatic impact on returns.




TREND: (3-Months or More): In looking at our TREND duration, it’s extremely important to keep in mind what’s changed since management updated us on its business 13 weeks ago.


1)      FX: to many, it might seems like FX is the biggest factor of change here. But the reality is that it’s not. When Nike last discussed its results in September, the Euro had just crashed by 9% over twenty weeks to $1.35. Then it climbed steadily, only to crash again over the last seven weeks. When all is said and done, FX today is only about 4% off of where it was when Don Blair gave his last update.  It is still a tailwind that Nike loses heading into Calendar 2012 and is a concern for us, but not as much as some might initially think.

2)      Europe melted down: Nearly every brand selling across Europe is seeing a broad-based slowdown. This is Macro, and it’s big. The behavior of Draghi as new head of the ECB probably trumps any hype around near-term sell-in around the Olympics in London in ’12.

3)      China continues to slow. This is no secret. But as recently as last night, Chinese officials made it clear it was willing to let economic activity moderate.

4)      Generally Speaking, the sales environment for footwear and athletic apparel in the US is quite good. During the quarter, Foot Locker, Dick’s and Hibbett comped +7.4%, +4.1%, and +7.0% respectively. Inventories remain in check.

5)      Nike market share in footwear continues to dominate as it relates to gains vs. last year. Apparel, on the other hand, still has some of the hottest items in the space (Nike Women’s Tempo Track Short), but has yet to meaningfully close the gap with footwear as it relates to share gain. Keep in mind that this is in the context of a space that is up solid DD so we’re less concerned about market share. But this is a key part of our broader investment theme, and we’re watching it like a hawk to see how it evolves.


It’s nice to see Nike’s US business doing so well. Because as shaky as the US Consumer might be, this is probably the most stable environment as we see it today. On the margin, we’re liking quality brands and franchises that are levered to the US consumer (think Wal-Mart), and less reliant on other economies (P&G). Nike fits somewhere in between. It comes as a surprise to many, but 55% of Nike’s sales originate OUTSIDE the US. And Yes, the vaunted US Footwear business accounts for only 24% of sales.


But when I think about the ‘where could I be wrong’ factor in 2012, it is that the dollar continues to inflate, and takes dollar-denominated commodities with it. Nike has an extremely strong hedging program, and the best relative positioning in the industry. But margins would get hit, and sentiment would get hit harder.


But the bottom line is that – with many of these factors considered -- our estimates are still ahead of the consensus for each of the next 3-years, as outlined by the chart below. That’s tough not to like. Same goes for the return profile.


NKE: TREND CHANGING. TAIL INTACT. - Nike Estimates vs actual




TRADE: (3-Weeks or Less):


The thing that matters over the super near-term is tomorrow’s print. As noted, it will be a positive headline. But it HAS TO BE a positive headline. Our sentiment indicator below shows how little room there is for error.





Sentiment Index (Part of TRADE framework). This is the product of weighting sell-side vs buy-side sentiment. A sentiment score above 90 (overly bullish) has proven to be a good historical ‘sell’ signal, while a signal below 30 has proven to be better to Buy.  Some stocks will never break out of their band, but marginal directional changes matter.  









Brian P. McGough
Managing Director

Early Look

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