Commentary from CEO Keith McCullough


I’m on the road seeing clients in Minneapolis – this melt-down in the Japanese Yen remains our top new risk mgt topic:

  1. CHINA – got Growth Slowing yet? Interestingly, but not surprisingly, the Hang Seng (-1.1%) snapped its immediate-term TRADE line of 21,255 overnight, joining India’s Sensex as the 2nd major Asian Equity market to break a significant line of momentum.
  2. US Dollar – my intermediate-term TREND line of support of $79.33 is once again under assault by central planners who are absolutely hooked on the inflation policy born out of it (Obama’s % chance of winning the election just shot up to another new high of 60.5% in the Hedgeye Election Indicator (+200bps wk/wk) - stock market inflation is a big factor in our back-test).
  3. GOLD – rising UST yields is bad for Gold on the margin. Period. Gold’s intermediate-term TREND line of $1691 remains broken as 10yr yields remain comfortably above my intermediate-term TREND line of 2.03%. 






THE HBM: DPZ, SBUX, YUM, DNKN - subsectors





DPZ: Domino’s was downgraded to underperform at BofA.  The PT was lowered to $34 from $41.  BofA believes that the catalyst (special dividend) has passed.  This seems like a good move to us by BofA but we are waiting for further data points to gain conviction that DPZ is going to underperform.


DPZ: Domino’s announced the completion of its recapitalization yesterday, along with a special dividend of $3 per share. 


SBUX: Starbucks was reiterated Buy at UBS and the PT was hiked to $61 from $52.


SBUX: Starbucks has opened the first Evolution Fresh-branded stores in Washington State. 


YUM: Yum Brands was initiated Outperform at Oppenheimer with a PT of $82.


YUM: Yum Brands’ KFC South Africa division is doubling stores in its delivery stable by the end of this year.


DNKN: Dunkin’ Brands is projecting comparable-store sales at its U.S. Dunkin’ Donuts chain will grow 6.7% to 7% for 1Q12.  We still believe that the company needs to disclose its backlog of new units.  The company’s future profitability is far more levered to new unit openings than comps and our contention, going on the information we have, is that the backlog is declining and not growing.





DPZ: Domino’s gained 3.4% on accelerating volume yesterday on news of the completion of its refinancing and special dividend announcements.


DNKN: Dunkin’ Brands declined -1.3% on accelerating volume.


CBOU: Caribou declined -3.9% on accelerating volume.







RUTH: Ruth’s Chris gained 3.4% on accelerating volume.





Howard Penney

Managing Director


Rory Green



Risky Expectations

“Risk appears to be at its greatest when measures of it are at its lowest.”

-Mark Carney


Keith and I have been on the road meeting with subscribers this week and spent the first part of the week in Winnipeg, so it seemed appropriate to start the Early Look this morning with a quote from Mark Carney, the current Governor of the Bank of Canada.  


Setting aside the fact that Carney played hockey at Harvard, which raises some character questions in our minds, he has had a respectable tenure as the Governor of the Bank of Canada.  In fact, even though we at times question too much government involvement, his actions are rightfully credited for getting the Canadian economy back to normal levels of output and employment quicker than the G-7 following the 2008 meltdown.


Personally, after reading the above quote from Carney, I was almost ready to forgive him for wearing the crimson colors of Harvard.  To me that quote shows perhaps the most appropriate understanding of risk, which is that risk in the market is greatest when we least expect it.  For us, a key measure of risk is volatility.  As it relates to equities, a key measure of this is the VIX, or volatility index of the SP500.


Like much of modern risk management, the VIX is a relatively new creation.  In fact, it was developed by Professor Robert Whaley in 1993 (courtesy of Wikipedia).  The VIX is a weighted blend for a range of options on the SP500.  More specifically, the VIX is the square root of the par variance swap rate for a 30-day term initiated on the current day.  So, in layman’s terms, it is the expected movement of the SP500 over the next thirty days on an annualized basis. 


As an example if the VIX is at 15, the expected return for the next twelve months is 15%.  Over the next thirty days, the range of return is calculated by dividing the VIX by the square root of 12.  Therefore with the VIX at 15%, there is 68% likelihood, or one standard deviation, that the SP500’s move, up or down over the next thirty days, will be 4.3%, or less. 


In the Chart of the Day, we show the chart of the VIX going back five years.  The takeaway of this chart, a point we have been hammering home as of late, is that when the VIX reaches levels around 15, it has been a contrarian signal to shift out of risk assets.  In the course of the last two years, this signal has been reached three times – April 2010, May / June 2011, and now.  (Incidentally, we are long the VIX, via the etf VXX, in our Virtual Portfolio.)


In our meetings with subscribers, the push back we often receive on the VIX discussion is that in the 2003 – 2007 period, or thereabouts, the VIX reached lower levels and stayed at these levels for sustained periods, which buoyed equity market returns.  So, what’s different this time?


This is certainly a fair question.  Our retort is that the economy itself is more volatile than it was in that period.  This is due to the active management of the economy by Keynesian central planners, but also accelerating debt burdens of the economy.  Think of the economy like a highly levered company, with more debt on the balance sheet a company’s earnings become much more volatile, so equity returns are inherently more volatile.  (Not to mention, the “awash with liquidity” period of 2003 – 2007 was far from normal.)


In part, this is why we are long Canada in the Virtual Portfolio via the etf EWC and, if you think about, long Mark Carney policy.   Canada’s debt-to-GDP is 83% (per the CIA Factbook), which while higher than we would like, is below the critical 90% bound which historically leads to slowing economic growth, and less than the United States’ ratio that is north of 100%.  In Canada, the deficit is actually now in decline, which will lead to lower debt-to-GDP ratios in the future.  This compares to the United States, which had the largest monthly deficit of any nation in history in February.


Another key discussion or debate point in our recent meetings with subscribers has been the outlook for economic growth, both in the United States and abroad.  As we’ve stated repeatedly, we expect lower growth than many Wall Street 1.0 prognosticators.  This is primarily driven by the math of our predictive algorithms and further supported by incremental data points.


For us, the price of oil is a critical data point when contemplating economic growth.  As I wrote two weeks ago:


“Charles Hall, Steven Balogh, and David Murphy did an analysis of the connection between the price of oil and when recession can be expected, examining the Minimum Energy Return on Investment (EROI). In their assessment, recession is likely to occur when oil amounts to more than 5.5% of GDP. Logically, this makes sense. Even based on the very tainted calculation of CPI, the average U.S. consumer spends 9% of his or her income directly on energy, with the majority allocated to gasoline. This obviously also excludes the derivative impact of increasing energy costs, such, as we noted above, the increasing costs of food.”


Incidentally, Brent oil at $116 per barrel is equivalent to 5.5% of U.S. GDP based on current usage patterns.  Brent is trading at $124 per barrel this morning.


The most recent data point supporting lower global economic growth came from the mining giant BHP Billiton this morning who said they are seeing signs of “flattening” of iron ore demand from China.  It seems when China tells you they are going to gear down economic growth, they actually will.


T.S. Eliot once wrote:


“Only those who will risk going too far can possibly find out how far one can go.”

From a personal perspective, I’d agree with Eliot, from a portfolio risk management perspective, not so much.


Our immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, and the SP500 are now $1, $122.96-127.19, $79.33-79.88, and 1, respectively.


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


Risky Expectations - Chart of the Day


Risky Expectations - vp 3 20

Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.45%
  • SHORT SIGNALS 78.37%


The Macau Metro Monitor, March 20, 2012



The government announced the replacement of current Director of Labour Affairs Bureau (DSAL) Shuen Ka Hung, by Wong Chi Hong, the head of the Human Resources Office (GRH). Apparently Shuen’s performance fell short of the Chief Executive’s expectations, and the speculation is that there will be a change of labour policies to rely more on imported workers.    

The Secretary for Economy and Finance, Tam Pak Yuen said it is the government's top priority to improve the quality of local workers to help resolve the bottleneck situation in Macau’s economic development.



In defense of Okada's room comps Robert Lim Joseph, the chairman emeritus of the Philippines’ National Association of Independent Travel Agencies (NAITAS) told reporters, “the hotel accommodations, even if they were first-class and other freebies are very common in the industry.  Of course, when gaming officials go here, we also would give them the best. We will not place them in a cheap hotel. It would always be first-class accommodations.”


The Chairman saw no reason to charge with Pagcor chairman Cristino Naguiat of wrong doing since Okada’s gaming license had already been approved before Naguiat travelled to Macau. “So there’s more reason to dismiss allegations that Naguiat was bribed to allow Okada to operate his business in the country,” Joseph said.



Within 2 weeks, the Maritime Administration will decide whether to add new routes proposed in 3 applications for new ferry operations in Pac On Ferry Pier.  The new routes would depart from Taipa, to Zhuhai’s Wanzai, Hong Kong’s Sheung Wan and Shenzhen’s Shekou.  There are currently eight ferry routes that depart from Taipa’s Pac On temporary ferry terminal, to Hong Kong and nearby Mainland cities.



At December 31, 2011 there were over 50,000 Macau residents working in the gaming sector, representing a 12% increase QoQ, according to DSEC Manpower Survey released yesterday.  Almost half of those employees - or 22k worked as croupiers, a figure that also rose 16.7% QoQ.  


In December 2011 the average monthly salary for full-time workers (excluding bonuses and profit sharing) working in casinos was 16,720 patacas, (US$2,090), up 6.5% YoY, whilst that of croupiers was 14,700 patacas (US$1,837). In December there were more than 2,000 vacancies for casino positions of which 1,500 were for croupiers.

Risk Managing Non-Events

This note was originally published at 8am on March 06, 2012. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“The human mind does not deal well with non-events.”

-Daniel Kahneman


When you are me, analytical life can get lonely. Every single major Growth Slowing call I have made since 2007 has been met with doubt, denial, and disdain. But growth still slowed.


Whether I’m out for a run, on a plane, or in the shower, I’m constantly trying to re-think better ways to communicate our process. What is it that we do? How do we model our assumptions? What are the risk management signals?


Ultimately, I’ve come to the conclusion that I can always do better, but I can’t make it any more simple than stating it each and every day before it occurs. I’ll call this Risk Managing Non-Events.


Back to the Global Macro Grind


What is a Non-Event? You can ask Dan Kahneman for his definition – mine is that Non-Events are constantly occurring and tipping the slopes and probabilities of events becoming obvious.


Got tipping points? Consider the following Growth Slowing Signals in our globally interconnected Macro Model from the last month:

  1. Basic Materials Stocks (XLB) stopped going up on February 3rd, 2011 (now down -3.1% from YTD top)
  2. India’s Stock Market (INP) stopped going up on February 21st, 2011 (now down -6.8% from YTD top)
  3. Small Cap Stocks (IWM) stopped going up on February 23rd, 2011 (now down -3.1% from YTD top)

Those are obviously just leading indicators from big, liquid, stock markets. All the while, Copper, 10-year US Treasury yields, and Global Yield Spreads continued to flag what they started flagging immediately after the Ben Bernanke’s January 25thPolicy To Inflate to 2014 – Growth Expectations started falling as Inflation Expectations started spiking.


Overlay immediate-term leading indicators (real-time market prices, yields, and spreads) with our long-term Fundamental Research View that:


A)     Debt (when crossing 90% of GDP) structurally impairs long-term growth (Reinhart & Rogoff data supports this view)

B)     Inflation, from a certain time/price level, slows real (inflation adjusted) growth


All the while, have a Keynesian economist promise you that they can centrally plan just the right amount of “inflation” for just the right amount of employment and economic growth.


And you have yourself an “event” (versus consensus expectations) in the making…


Non-events are the proverbial grains of sand falling on the pyramid of risk that is our globally interconnected Macro Model. One by one, price by price, data point by data point, they fall onto the sand-pile of expectations.  


Then, one day… week… or month, they become “events.”


If the deep simplicity of Chaos Theory is this obvious, how do we almighty chosen ones from the Ivy League routinely get this wrong?


“A general limitation of the human mind is its imperfect ability to reconstruct past states of knowledge, or beliefs, that have changed.” –Daniel Kahneman (Thinking, Fast and Slow – page 202)


That’s why we have to humble ourselves and Embrace Uncertainty. The idea that going to Yale immunizes my mind from being human under pressure is as ridiculous as Bernanke not seeing inflation at $120 oil.


There may have been a day in this business, without internet connections or Twitter, that you could have legitimately had an information edge on a company and its implied valuation. A lot has changed since then. Today, my 4-year old son can pull up cash flow multiples with two clicks on Yahoo finance (provided that I give him the ticker!).


Risk Managing Non-Events is the next frontier of finance. Yes, it’s a lot harder to do than proclaiming our mystery of faith on the “right” earnings “multiple” for the SP500. That’s why we do it every morning. Risk never sleeps.


My immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, and the SP500 are now $1691-1735, $121.12-123.98, $79.03-79.74, and 1356-1366, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Risk Managing Non-Events - Chart of the Day


Risk Managing Non-Events - Virtual Portfolio


TODAY’S S&P 500 SET-UP – March 20, 2012

As we look at today’s set up for the S&P 500, the range is 26 points or -1.76% downside to 1385 and 0.09% upside to 1411. 












  • ADVANCE/DECLINE LINE: 766 (1051) 
  • VOLUME: NYSE 721.40 (-56.23%)
  • VIX:  15.04 3.94% YTD PERFORMANCE: -35.73%
  • SPX PUT/CALL RATIO: 1.28 from 1.94 (-34.02%)


  • TED SPREAD: 39.74
  • 3-MONTH T-BILL YIELD: 0.09%
  • 10-Year: 2.34 from 2.38
  • YIELD CURVE: 1.98 from 2.00


MACRO DATA POINTS (Bloomberg Estimates):

  • 7:45am/8:55am: ICSC/Redbook weekly retail sales
  • 8:30am: Housing Starts, Feb., est. 700k (prior 699k)
  • 8:30am: Housing Starts (M/m), Feb., est. 0.1% (prior 1.5%)
  • 8:30am: Building Permits, Feb., est. 686k (prior 682k (revised))
  • 8:30am: Building Permits (M/m), Feb., est. 0.6% (prior 0.7%)
  • 11:30am: U.S. to sell $40b 4-week bills
  • 12:45pm: Bernanke lectures at George Washington U. (1 of 4)
  • 4:30pm: API inventories
  • 5:30pm: Fed’s Kocherlakota speaks in St. Louis, Missouri 


  • U.S. CFTC may vote on rule defining swap dealers under the Dodd-Frank Act, 9:30am
  • President Barack Obama meets with Irish Prime Minister Enda Kenny, 10:10am
  • FDIC board will meet to consider notices of proposed rulemaking on assessments for large banks and enforcement of subsidiary, affiliate contracts under FDIC receivership, 10am
  • Republican primary in Illinois
  • Deadline for presidential candidates, super-PACs to file updated finance reports with Federal Elections Commission
  • Ron Paul to appear on Tonight Show with Jay Leno, 11:30pm
  • House, Senate:
    • Treasury Secretary Tim Geithner testifies to House Financial Services on global financial system, 10am
    • Senate Environment and Public Works panel holds hearing on EPA’s mercury and air toxics standards for power plants, 10am
    • House Oversight holds hearing on Energy Dept.’s stimulus spending, 10am
    • Senate Banking holds hearing on Obama’s nominees to Federal Reserve’s Board of Governors, 10am
    • House Armed Services Committee holds hearing on developments in Afghanistan, 10am
    • House Appropriations subcommittee hears from Commerce Secretary John Bryson on the agency’s budget request, 10am
    • Senate Commerce subcommittee holds hearing on commercial airline safety oversight, 2:45pm 


  • U.S. housing starts probably increased to 700k annual rate in Feb., a 3-mo. high, economists est.
  • Senate Banking Committee to hold hearing on Fed nominations of Jeremy Stein, Jerome Powell
  • Glencore said to near Viterra acquisition with Agrium, Richardson, deal may be announced within 24 hrs
  • GE Capital’s Aa2 rating by Moody’s may be cut below its parent; both are under review
  • Berkshire Hathaway directors, including Warren Buffett, won dismissal of shreholder claims over challenged stock trades by former Berkshire executive David Sokol
  • Fed Chairman Ben Bernanke to give first of four lectures at George Washington School of Business
  • Facebook CEO Mark Zuckerberg is said to take low profile in early IPO marketing
  • CVC said to hire Goldman Sachs to explore a possible sale of a stake in Formula One in an IPO
  • House Republicans will call for overhauling U.S. tax code by reducing rates, brackets
  • China’s vehicle sales this yr may miss industry group’s growth forecast as economic conditions damp demand
  • No IPOs scheduled 


    • JA Solar (JASO) 6:02am, $(0.63)
    • Tiffany (TIF) 6:55am, $1.42
    • DSW (DSW) 7:00am, $0.50
    • Jefferies Group (JEF) 8:00am, $0.29
    • Oracle (ORCL) 4:00pm, $0.56
    • SAIC (SAI) 4:02pm, $0.33
    • Jabil Circuit (JBL) 4:02pm, $0.58
    • Cintas (CTAS) 4:07pm, $0.52
    • Laredo Petroleum Holdings (LPI US) Post-Mkt, NA 


GOLD – rising UST yields is bad for Gold on the margin. Period. Gold’s intermediate-term TREND line of $1691 remains broken as 10yr yields remain comfortably above my intermediate-term TREND line of 2.03%. 

  • Record Cotton Harvest Seen Cutting Prices for Gap: Commodities
  • Copper Falls as Stockpiles Expand in China, Biggest Consumer
  • Gold Declines on Concern Strengthening Economy Will Cut Demand
  • Nickel-Ore, Bauxite Exports From Indonesia to Drop on Ban
  • Oil Drops From Three-Week High on Speculation Supplies Rising
  • Shipping Targets for Bears Dwindling After $99 Billion Plunge
  • Corn Declines a Second Day on Early U.S. Planting, Wheat Slips
  • Jewelers in India Extend Strike Seeking Withdrawal of Taxes
  • Palm Oil Declines to One-Week Low on Soybean Planting Prospects
  • India Seen Increasing Raw Sugar Exports Ahead of Brazil Harvest
  • Ship Owners Losing After $11.4 Billion Battle for Boxes: Freight
  • Australian State Says Uranium Prospects Attracting China, India
  • Oil Supplies Climb to Six-Month High in Survey: Energy Markets
  • China Increases Fuel Prices as Crude Gains
  • China Steel Growth Has Flattened as Economy Shifts, BHP Says
  • Less Grain Means More Gain as Export Prices Rise: BGOV Barometer
  • Gold Stocks Due for Rebound Versus Metal Price: Chart of the Day 





US Dollar – our intermediate-term TREND line of support of $79.33 is once again under assault by central planners who are absolutely hooked on the inflation policy born out of it (Obama’s % chance of winning the election just shot up to another new high of 60.5% in the Hedgeye Election Indicator (+200bps wk/wk) - stock market inflation is a big factor in our back-test).











CHINA – got Growth Slowing yet? Interestingly, but not surprisingly, the Hang Seng (-1.1%) snapped its immediate-term TRADE line of 21,255 overnight, joining India’s Sensex as the 2nd major Asian Equity market to break a significant line of momentum.










The Hedgeye Macro Team



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