“Defense is superior to opulence.”
If your 2012 defense can shut down both Aaron Rodgers and Tom Brady in back-to-back playoff games, evidently you deserve to win the Super Bowl. Opulent offensive statistics often win awards. Giant Defenses win Championships.
Anyone who has followed my hockey or professional career closely knows that I take pride in playing defense. Blocking shots and not losing money on market down days may not get my name in the paper – but that’s ok, I don’t read the Old Wall’s paper.
In a consciously conservative move to defend against both US and Global Growth Slowing again sequentially in February, I shorted the US stock market twice last week (at 1327 and 1343 in the SP500). This week, we’ll see if I played defense too early.
Back to the Global Macro Grind…
Being early in this business is also called being wrong. For me, since I’m usually buying on red and selling on green, that happens a lot. After seeing the US stock market fall for 4 consecutive days after Ben Bernanke imposed an Inflation Tax on Consumers and Savers, most of last week’s squeeze came in 4 hours of Friday’s trading.
How do you defend against that? It’s not easy. And since there are tens of thousands of fund managers who are in the business of the stock market going up, that doesn’t make explaining why I decide to go on defense any easier.
To review my Global Macro Risk Management Process, when I think about countries and probability-weighing the bullish or bearish momentum of their respective economies, I heavily weight the following 3 factors:
- Growth (slowing or accelerating?)
- Inflation (slowing or accelerating?)
- Policy (perpetuating or fighting inflation?)
Most Deflationistas don’t agree with me on this because they are either academics who are not accountable to trading daily, weekly, and monthly P&L risk, and/or they don’t have a Giant Defense that has proactively prepared them to make these calls on the margin.
It’s what happens on the margin that matters to Macro Market Expectations most.
The reason why I pay such close attention to what Bernanke does is that he drives point #3 – Policy. If you get Fed Policy (hawkish or dovish on the margin) right, you’ll get the US Dollar right. If you get the US Dollar right, you tend to get most other things right.
Now plenty of people who are always taking offense to the Strong Dollar = Strong America point probably don’t agree with me on this either. Since we’ve been right on 26 of 27 long/short calls on the US Dollar since founding the firm in 2008, I’m not sure I care.
What I care about most is what Policy does to the Dollar - then what the purchasing power of that Dollar does to everything else that’s priced in Dollars. In the last 3 weeks, with the US Dollar down -3.2%, this is what Growth and Inflation Expectations have done:
- Inflation Expectations = Gold +7%, Copper +7%, and Oil +4%
- Growth Expectations = US Treasury Bonds (10yr) -5%, Yield Spread -6%
Again, a lot of people will take as much issue with me suggesting that falling US Bond Yields and a compressing Yield Curve (Yield Spread = 10-yr yields minus 2-year) represents Growth Slowing Expectations right here and now as they did in July, August, or November of 2011. This is the goal-line of the bull/bear US Equity debate.
This morning’s Global Macro Market signals only amplify my Growth Slowing point:
- Despite a stiff rally in US Equities on Friday, most other Asian and European equity markets didn’t agree
- Chinese stocks (Shanghai Composite) stopped going up at intermediate-term TREND resistance of 2342
- France, Spain, and Italy all backed off, hard, at their long-term TAIL lines of resistance (CAC = 3503)
- Dr. Copper said no thank you at its long-term TAIL of $3.98/lb resistance (down -1.1%)
- EUR/USD failed, again, at its intermediate-term TREND line of $1.34 resistance (down -0.5%)
- US Treasury Yield on the 10-year is down to 1.91% this morning and remains in a Bearish Formation
A Bearish Formation in US Growth Expectations (bond yields) is what made me bearish on US Growth in February of 2011 inasmuch as it is right here in February of 2012. Thankfully, unlike in January 2011, I caught most of the January 2012 up move in stocks.
Unlike most strategists in this game, I have no problem shifting from offense to defense – I usually slap on the Giant Defense when I see an inflection in the slope of Growth and Inflation Expectations. My process hasn’t changed. The game-time signals have.
My immediate-term support and resistance ranges for Gold, Oil (Brent), EUR/USD, Shanghai Composite, and the SP500 are now $1, $111.36-114.02, $1.29-1.32, 2, and 1, respectively.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
Risk Managed Long Term Investing for Pros
Hedgeye CEO Keith McCullough handpicks the “best of the best” long and short ideas delivered to him by our team of over 30 research analysts across myriad sectors.
The good news: we calculate positive equity value. The bad news: just barely and that’s the top end of our valuation range!
Caesars is once again trying to go public after a failed attempt to sell investors a bag of coal in late 2010. The story is definitely better but we struggle to get to positive equity value. Our valuation range per share is -$7 to +$3. Why the big range? Why not? There are so many deltas, discount rates, and projects on the come. Our point estimate is -$2 so use that if you’re uncomfortable with the big range. The takeaway is that we can’t get to $8-10 per share.
Their pitch this time around is somewhat similar (but a little more developed) than the last go around, with a few exceptions:
- They have a public comp in what IGT paid (or massively overpaid) for Double Down and would like investors to give their Playtika business comparable value at $500MM
- Online poker in the US is looking like more of a reality with timing and scope still unclear, though. We think it’s fair to assume IF online poker gets legalized at the federal level, then we could have a $1BN EBITDA pie a few years out where CZR gets 20%.
- Their Ohio casino JVs (Horseshoe Cleveland, Horseshoe Cincinnati) are going to open in 2012 and 2013, respectively, and they have an option of getting slots at Thistledown but that’s further away
- Vegas is better; regionals are still ‘stable’; Atlantic City is still bad
- Maryland has a good chance of happening
- Massachusetts could happen but it would just be a management contract so we’re not sure that moves the needle
- Pennsylvania is dead and no mention of Texas
What hasn’t changed?
- Maybe it’s no longer a bag of coal, but it’s not much better than a bag of lemons
- There is still a lot of deferred maintenance capex
- Leverage is about 12x 2011 and unlikely to go down by much in the foreseeable future
- That CZR is selling you a recovery story in early February with no year-end financial disclosure
- The small size of the deal
What about the term loan amend and extend?
- CZR is trying to extend up to $4BN on its B1-B3 Term Loan due in 2015 to 2018
- In exchange for the extension, CZR will pay an incremental 150bps on the extended piece which would cost $60MM if they get the full $4BN extension
- For those lenders who opt to extend, 25% of their debt would be paid down with proceeds from a Senior Secured bond offering which would likely price around 8.5% and cost another incremental $30MM of interest if the full $4BN extension happens
- We don’t think that most lenders will opt to extend since CZR is still burning cash and that would move them to the back of bus behind other lenders
Our point estimate for valuation is -$2 per share. Yes, that’s negative equity value. We tried very hard but cannot get above $3 per share at the high end. Here is the calculation:
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