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Please join Anna, Felix, and me and the rest of the Hedgeye team for a New Year celebration party in New York City.





SHLD: Not a One Off


The preannouncement out of SHLD has set the stage for what we expect to be several negative preannouncements over the coming weeks. Sales are coming in lighter than expected at both Sears and Kmart, but we think that while SHLD has its own challenges (and they are many), it’s not the only retailer recording lighter than expected sales this holiday season. In addition, it adds to our view that price competition in the mid-tier channel is becoming increasingly more aggressive heading in the 1H of F12.

The struggles at SHLD are hardly an overnight development. At the annual shareholders meeting in May, Eddie Lampert (CEO) addressed the need to optimize the company’s real estate/footprint by increasing its allocation to apparel as well
as exploring lease options (e.g. sub-divisions) among other alternatives.

It should come as no surprise then that apparel was a relative outperformer in the company’s QTD results, which were hit particularly hard by weakness in consumer electronics and home appliances – categories in which SHLD has struggled to maintain share. In addition, the company announced it will also be closing stores.

All in, these measures are not the kind of seismic strategic shifts that one would expect in order to turn a retailer with over $40Bn in annual sales and 4,000+ stores from its current downward trajectory of contracting profits. In fact, we think its
just the beginning of more significant actions to come in 2012.

In the meantime, here are a few thoughts on some the broader implications of the SHLD announcement:

  • Kmart comps are running down -4.4% QTD reflecting among other things (i.e. weaker consumer electronics and home appliance demand) lower layaway sales. With WMT now offering layaway on toys and electronics for the first time this year, it appears that heightened competition is taking its toll. For perspective, if we assume that half of Kmart’s comp decline was due to a lost layaway sales equating to ~$300mm and we assume a complete shift of these sales over to WMT, it would add roughly 50bps to WMT’s domestic comps in Q4. A notable contribution in light of +2% comp guidance.
  • Closing 100-120 Kmart and full-line Sears Stores is a rounding error when considering the company’s 4,000 store base. With the average box size of a Kmart store at 93,000 sq. ft. and Sears  at 133,000 sq. ft., competitors of similar size (i.e. JCP at 101,000 and TGT at 134,000 sq. ft.) will likely see additional pressure as it relates to real estate optionality. Less of an issue for TGT, but a key consideration for JCP with Johnson reviewing any and all options in an effort to transform the retailer. 
  • In addition, with apparel one of the few bright(er) categories for SHLD, we expect the retailer to get more aggressive in attracting branded content as it looks to boost its portfolio. JCP is in the midst of a similar initiative. As such, we expect heightened competition for brands to result in higher acquisition costs. This is not really new news, but incrementally worse on the margin given SHLD’s reliance on apparel performance.
  • Reducing inventory by $500-$580mm from peak 2011 levels = more price competition at the mid-tier. Between
    Sears and Kmart, SHLD accounts for ~5-8% of the ~$180Bn domestic apparel industry and roughly 15% of the mid-tier segment. While $500mm accounts for less than 1% of the mid-tier, it’s yet another factor that will weigh on prices and margins in the 1H of F12. The reality is that SHLD is not going to get there without promotionally induced sales

With retailers set to report on Holiday sales next week coupled with ICR the following week, we suspect SHLD won’t be the only company in retail preannouncing between now and then.


SHLD: Not a One Off - SHLD Sent


SHLD: Not a One Off - SHLD SIGMA


SHLD: Not a One Off - SHLD RNOA


Casey Flavin



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Hypnotic Markets

“The only time I have problems is when I sleep.”

- Tupac Shakur


In Greek mythology, Hypnos is known as the god of sleep.  His palace was a dark cave where the sun never shone.  The palace itself had no gates or doors, so that he would never be awakened by sounds from doors opening and closing.  Unlike Hypnos, global macro markets, especially in these interconnected times, never sleep.


The most noteworthy news overnight, not surprisingly, comes fromEurope.  The first Italian bond auction of the week was held this morning and it was, on the margin, successful. Italysold 9 billion euro of 6-month bills at 3.25%, which was dramatic improvement over the last auction on November 25ththat sold at a yield of 6.5%.


As Greek mythology tends to work, Hypnos’ brother was Morpheus, the King of Dreams.  So, while you may still be asleep, especially given the holiday shortened week, the paragraph above is not a dream.  The Italians actually did have a better than expected bond auction this morning.  If there was any disappointment, it was likely in the tranche of 2013 zero coupon Italian debt that was auctioned this morning.  The Italians were able to sell only 1.7 billion euro of the maximum allotted 2.5 billion euro.


Certainly though, we need to jot down this auction as a positive data point in our notebooks, as it is a sequential improvement.  The true test of whether there is an improved appetite for Italian sovereign debt will occur tomorrow.  In tomorrow’s auction, the Italians will attempt to sell up to 8.5 billion euro of 3, 6, and 10-year debt.  In theory, if the Long-Term Refinancing Operation, or LTRO, of the ECB is even moderately successful, then tomorrow’s auction should see some improvement over the prior comparable auction.


Yesterday in an intraday note to our subscribers, we wrote a note titled, “The LTRO is No Bazooka” (email if you’d like a copy) and highlighted the following key points:


“In the chart below, we’ve highlighted the ECB liquidity facility going back one year and in the inserted chart going back roughly one month. The key takeaway is that the ECB liquidity facility, which is used by European banks to effectively park money, hit a new all-time high at 411 billion euros this morning and has been increasingly rapidly since the inception of the LTRO just over a week ago. In fact, the day before the LTRO was put into effect, the ECB facility was at 265 billion euro and as of this morning has increased by 146 billion euro, or more than 70% of the incremental liquidity from the LTRO.

So, not only is the LTRO not being used as a bazooka by the European banks, but these banks are parking the borrowed LTRO money with the ECB rather than using it to buy sovereign debt, and thus are experiencing a negative yield on the trade.”


Given the results of the Italian bond auction this morning, there is some evidence the LTRO is being used as the fabled bazooka.  Ironically, though, the amount of money parked at the ECB’s liquidity facility increased dramatically overnight to a record of 452 billion euro.  This is an increase of 41 billion euro from the prior day. We would caution reading too much into the “successful” Italian bond auction as clearly the risk aversion trade remains in full effect.


In other European news, the prominent Spanish newspaper, Expansion, is indicating that Rajoy may force Spanish banks to cut the valuation of the real estate assets on their books by up to 20%.  The fact that Spanish banks still need to write down real estate assets on their balance sheets should not be terrible surprising to anyone.


Spanish home ownership rates are above 80% on the back of cheap long-term mortgages, often up to 40 and 50 years. As well, the government encouraged home ownership by making 15% of mortgage payments a tax deduction.  The Spanish real estate bubble makes Phoenix and Florida housing look like a value investment.


Unfortunately, the Spanish real estate market isn’t likely to improve anytime soon. Specifically, in October, Spanish real estate loans decreased for an18th straight month and were down 43.6% year-over-year.  Our long term analysis has shown that demand for mortgages is one of the best predictors for future real estate prices.  Therefore a 20% cut in the valuation of real estate assets for Spanish banks seems more than reasonable.


On the domestic front, Bloomberg this morning is predicting that 2012 could be the biggest year for IPOs since 1999.  Given the current filings, internet IPOs may raise more than $11.0 billion in the coming year.  In the face of heightened volatility and a 2011 that was lackluster in terms of equity offerings, raising only $156 billion in 2011 versus $252 billion, the onslaught of internet offerings seems a bit excessive.  Undoubtedly, even Dionysus, the Greek god of partying and excesses, would agree with that.


Keep your head up and your stick on the ice,


Daryl G. Jones

Director of Research


Hypnotic Markets - DJ chart EL wednesday


Hypnotic Markets - hvp12 28


The Macau Metro Monitor, December 28, 2011




A source from the Lands, Public Works and Transport Bureau said the license to build a pedestrian flyover connecting Sands Cotai Central and Venetian Macau was approved in October.  The flyover will be equipped with lifts, regular stairs, rolling stairs and air conditioning.  The flyover will also have direct access to the street on both sides.


The construction of a second flyover has also been already agreed upon between Sands China and MPEL to connect the Venetian Macao and City of Dreams.  The project has been submitted to the government and is currently waiting for approval.


Marina Bay Sands is suing 5 high-rollers in court for $7.5MM in debt.  Although the amount is relatively small compared to its total revenues, MBS is probably pursuing legal action as a deterrent measure.



Macau's unemployment rate hit another new low at 2.3% for Sept-Nov 2011, down by 0.1% point over the previous period (Aug-Oct 2011).  The total labor force was 345,000 in Sept-Nov 2011 and the labor force participation rate stood at 72.5%, with total employment decreasing by about 1,800 over the previous period to 336,000.


Dickens' Lead

This note was originally published at 8am on December 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.

“Lead on! Lead on! The night is waning fast, and its precious time to me, I know.”



The next 72 hours of our lives in the McCullough household will be some of the most magical of the year. My little girl Callie is old enough now to be aware of Santa. My son Jack, well, he’s probably already peaked at what’s in store for him.


What’s in store for all of us at Christmas time is the wonderful gift of time. Time away from the office. Time away from the screens. Time with the people we love.


When Charles Dickens published A Christmas Carol on December 19th of 1843, it was perceived to be a dark time in Britain. It was a time of hunger. It was a time of class warfare. These are the times we want to avoid.


While the “tale has been viewed by critics like T.A. Jackson and Paul Benjamin Davis as an indictment of 19thcentury industrial capitalism” (Wikipedia), I prefer the context of the economic historian James Henderson as “an attack on Malthus.” (Grand Pursuit, page 6).


Reverend Thomas Robert Malthus is well known for this fear-mongering forecasts about population declines that never came to fruition. He and Thomas Carlyle became the most recognized “political economists” of their time by capitalizing on the Hungry Forties with charlatan lines of storytelling that were not only dark, but backward looking.


Dickens embraced the idea of uncertainty as an opportunity for change. Scrooge was his metaphor for the progressive side of capitalism, illuminating the human heart as the source code for morality.


Today, while Republican and Democrat fear-mongering views about our lives falling over the precipice into the depths of another depression may have captured the headlines of those who are weak enough to believe them, I know you are all stronger than that.


Leadership, principles, and values start in your home. Lead on!


Back to the Global Macro Grind


I think most Americans have figured out this year that what the stock market does on each and every tick is not what this country runs on. It may not run on Dunkin’s stock price either, but it certainly rides into your favorite coffee shop on the purchasing power of a Dollar, every day.


The most bullish Christmas Carol I can sing to this country this weekend is that the US Dollar Index has risen from the dead. After testing a 30-year low in April of 2011, King Dollar’s ascent has already added up to a +10% gain.


Even the crown of a sheepish looking Political Economist in Chief’s head cannot take the shimmer of hope of continued currency strength away from us this weekend. And while hope is not a risk management process, it will most certainly remain the fulcrum of my daily prayers.


Ben Bernanke wants you to believe in fear so that you will accept a 0% return on your hard earned savings. He wants you to believe that the price you pay at the pump doesn’t take away from what you might be able to put in the bucket when that Salvation Army bell rings.


This is not a political attack. This is called leading from the front lines every day with a progressive idea that our political ideologues on the US economy have not had the courage to try.


By simply getting the US Federal Reserve’s Quantitative Easing out of the way and putting a governor on government spending’s slope, consider what’s happened in the last 6-9 months:


  1. US GDP Growth has risen from +0.36% in Q1 of 2011 to +1.8% in Q3
  2. US Unemployment has fallen from 9.2% to 8.6% and weekly jobless claims are now hitting YTD lows
  3. US Consumer Confidence hit a fresh 6-month high yesterday at 69.9 on the University of Michigan survey (vs 67.7 in NOV)

If I have written this 100 times in the last 6 months, I’ve beaten it onto the Wall Street 2.0 Tape (Twitter) with 10,000 tweets:


Strong Dollar = Strong US Consumption = Strong Employment


Lead on, my capitalist friends, lead on!


My immediate-term support and resistance ranges for Gold, Oil (Brent), and the SP500 are now $1569-1622, $105.95-108.11, and 1228-1259, respectively.


On behalf of my family and firm, Merry Christmas!



Keith R. McCullough
Chief Executive Officer


 Dickens' Lead - EL


Dickens' Lead - vp 12 23

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