Invisible Gorillas

“Miracles happen everyday, change your perception of what a miracle is and you'll see them all around you.”

-Jon Bon Jovi


The Invisible Gorilla was an experiment performed by Professors Christopher Chabris and Daniel Simons at Harvard University in 2004.  In the experiment, candidates were asked to watch a short video of six people, three in white shirts and three in black shirts, pass a basketball around and count the passes. At a point in the video, a gorilla wanders into the action, faces the camera and pounds its chest.  In total, the gorilla is on screen for almost 9 seconds.


In theory, a gorilla wandering into the middle of an otherwise normal scene sounds like an event that would be relatively easy to notice.  The results, on the other hand, suggest otherwise.  Professors Chabris and Simons found that almost 50% of the people that watched the video did not notice the gorilla.  In fact, it was as if the gorilla was completely invisible. 


There are two key takeaways from the experiment.  First, we miss a great deal of what happens around us.  Second, we actually do not even realize that we miss things.  As stock market operators, we obviously pride ourselves in attention to detail and acute analytical skills.  The fact remains that both your and my skills of perception are just not as strong as we believe them to be.


As I think about this experiment, the scariest thing to me is the idea of overconfidence.  I would imagine that most of you believe that if you were to watch the video, you would see the gorilla.  The reality, though, is that only 50% would see it.  You may believe you have great skills of perception, but the facts suggest otherwise.  But, if you know just that, then you have a leg up on the competition.


I will give you an example of a hidden gorilla in the investing world.  Apple recently reported earnings and while Hedgeye currently doesn’t have a technology analyst, we had a healthy debate in our morning meeting on the stock.  On one side there were the bears who basically opined that Apple was a product cycle company and was only as good as its next product, that margins on its hardware sales inevitably had to revert to the mean, and, basically, that Apple couldn’t justify its valuation longer term.


On the other side of the debate was the Hidden Gorilla argument.  In effect, the proponents of Apple in our morning meeting argued that it is somewhat irrelevant to argue about price points on Apple hardware products or fret over the number of iPhones that were sold in the quarter because Apple is actually a software company.  Specifically, via its iTunes online store Apple has become the go-to marketplace for all critical digital content on the internet (from movies to music to books to TV shows to games).  In that business, Apple keeps 30% of the revenue and the publisher keeps 70% of the revenue, but unlike other ecommerce businesses, like say Amazon, Apple has no physical infrastructure costs so the business in theory generates very high and sustainable returns on capital.


Yesterday, Jeff Gundlach gave a really interesting presentation on his general view of the global economy.  He had one slide that discussed Apple and made a comparison between Google’s rapid rise and decline with the conjecture that as Apple effectively “becomes the market” it may have a similar path in the future.   Gundlach may be right on Apple, or in fact he may be missing the Invisible Gorilla, which is that Apple is a much better long term business than its valuation suggests. 


In the Chart of the Day today (yes it incorporates a picture of a gorilla), we compare the overall unemployment rate in the United States versus the unemployment rate for those aged 16 – 24.  In the U.S., the unemployment rate is currently 8.2% and the unemployment rate for the youngest demographic is double that at 16.4%.  This is perhaps the hidden gorilla in the U.S. economy, which is that the youngest demographic is massively underemployed.


In Europe, the unemployed ratio of the youngest demographic versus the average is even more extreme.  Spain exemplifies this more than any major European economy.  This morning Spanish unemployment ticked up to 24.4%.  Youth unemployment in Spain also ticked up, to a staggering 52.0%.  Trust me when I say this: a generation of unemployed is not a positive leading indicator for the outlook of any nation or region.


So, not surprisingly given the employment data the Spanish 10-year yield is back up testing the 6% line this morning. The only real positive indicator I have found as of late is that the perpetual contra indicator Standard & Poor’s cut Spain’s credit rating for the second time this year from A to BBB+ “citing struggling banks and deficit concerns”. Of course, it does beg the question . . . why was Spain rated A to being with?  But, who knows, perhaps the Invisible Gorilla in Europe is that rating agencies will get this one right . . .


While we are on the topic of European sovereign debt, Italy held a debt auction overnight.  In fact, Italy sold €5.95 billion of BTPs with 4-10 years maturity versus a maximum target of €6.25 billion. The 10-year average yield was 5.84% versus 5.24% prior and the bid-to-cover was 1.48 versus 1.65 prior.  Not even the Invisible Gorillas were buying at this auction.


Before winding this note down, I wanted to flag a call out from my colleague Darius Dale in a research note on Japan yesterday.  He wrote:


“As it stands now, Ozawa, who remains one of the most influential members of the ruling Democratic Party of Japan (w/ influence over up to a third of the party by some estimates), opposes the DPJ’s VAT hike bill. His exoneration means he is now free to stir the pot and rally support to defeat the bill from within. Further, his platform centers on expansionary fiscal policy, which, in addition to wanting a shot at regaining full control of the Diet via a snap election, is preventing the LDP from coming to the table to negotiate with the DPJ on its VAT hike proposal.”


Ichiro Ozawa has gone from being the Invisible Gorilla to being the 1,000 pound gorilla in the room, which according to Darius increases the risk that the VAT tax may not get passed and Japanese debt gets downgraded.


Perhaps the miracle that Jon Bon Jovi speaks of in the quote at the start is that we will get out of this global sovereign debt mess unscathed, or, at the very least, that it won’t end all that poorly.  Personally, I remain skeptical.


Keep your eyes out for invisible gorillas,


Daryl G. Jones

Director of Research


Invisible Gorillas - Chart of the Day


Invisible Gorillas - Virtual Portfolio

Unproductive Works

This note was originally published at 8am on April 13, 2012. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Panics do not destroy capital; they merely reveal the extent to which it has been previously destroyed by its betrayal into hopelessly unproductive works.”

-John Stuart Mill


John Stuart Mill was arguably the most influential philosopher of the nineteenth century and his writings are still widely studied.  Mill is probably best known for “On Liberty”, which discusses the limits of power that can be justly exercised by society over the individual.  Underscoring his views on liberty are the harm principle and the idea that the individual should have the right to act as she wants as long as those actions do not harm others.  To Mill, protecting and defending individual rights in the face of a potentially tyrannical majority are critical.


One way a majority can negatively influence the rights of the minority is through capital allocation by the government.  We often cite the long run historical work of Reinhart and Rogoff that highlights when government debt-as-a-percentage of GDP reaches 90%, or more, economic growth slows.  Certainly governments play a critical role in providing certain services that are critical and broadly benefit society, but, at a point, government works become unproductive.


With all that is happening in the world, I’m sure many of you missed the U.S. budget numbers for March.  As I said on twitter ( @HedgeyeDJ ), they were, in one word, ugly.  The federal government received $171 billion in revenue and spent $369 billion for a total budget deficit of -$198 billion, or 5.5% year-over-year monthly growth in the deficit. This is the largest March budget deficit of any nation, ever. 


Almost exactly a year ago, in a note titled “The Case of the Missing Stimulus”, I wrote:


“Interestingly, if we look at government spending in the 2008 – 2010 period we can actually see the impact of the stimulus act on government ledgers. In fact, according to the U.S. federal government spent $2.98 trillion in 2008 and $3.59 trillion in 2010. So, the net increase over this period was just over $600 billion, which roughly equates to the spending portion of The Stimulus.”


My point in that note was that while there was a one-time step up in government spending, there has not been a step down as the stimulus plan has been anniversaried.  A year later the same story holds. 


The Chart of the Day today highlights government outlays by month going back ten years.  The conclusion is that the “one-time” increasing in government spending for the stimulus plan has led to a seemingly permanent increase in government spending.  Given the anemic growth we’ve seen in the U.S. over the last 18 months, it is pretty clear this spending fits the category of Unproductive Works.


At 11 am eastern today we will be holding our quarterly theme call. (Please email if you are qualified subscriber and do not currently have the dial in information.)  The quarterly theme call is our summary of what we think will matter in the coming quarter from a global macro perspective and the best way to play the themes via asset allocation.  The themes for this quarter are as follows:

  • The Last War: Fed Fighting - We take a historical look at U.S. Federal Reserve policy to contextualize the impact of Ben Bernanke's Policy to Inflate, Extend & Pretend rock-bottom interest rates, and Burn the Buck on the broader economy and financial markets from Main Street to Wall Street.
  • Bernanke Bubbles - A highlight of the top ten leverage price bubble charts perpetuated and encouraged by The Bernank's policy stance.
  • Obvious Asymmetric Risks - In a macro environment of slow global growth and historically low interest rates we present asymmetric risks to capitalize on over the intermediate term. Low equity market volatility is but one signal of what's ahead for investors.

Underlying much of the discussion today, will be our view that global growth is slowing.  On that note, and despite rumors to the contrary, Chinese GDP growth came in at 8.1%.  This was well short of the estimate of 8.4% growth and dramatically below the “whisper” number of 9.0% that was floated yesterday.  This is the 5thconsecutive decline and the slowest growth rate in three years.  As our Asian Analyst Darius Dale would likely tell you, the actual number shouldn’t surprise anyone as the Chinese have already told us they are going to slow growth.


In other global macro news, European sovereign debt issues are once again front and center.  Yesterday, I wrote a note on Spain and the impact of further decline in real estate prices on Spanish growth (if you didn’t read the note and want a copy, ping  Spanish 5-year CDS are wider again this morning at 492 basis points.  Meanwhile, Spanish equities are down another -2% taking their return in the year-to-date to -14%.  As if that wasn’t bad enough, Spanish CPI was also up +0.7% for the month.  (Not so great for the 23% of Spaniards that are unemployed.)


If you are looking for a positive catalyst today, Chairman Bernanke speaks at 1 pm today in New York.  Even if he doesn’t hint at it, no doubts rumors of QE 3, 4, 5, and 6 will be spreading faster than Chinese growth ahead of his speech.


As you head into the weekend and start contemplating the upcoming Presidential election, I’ll leave you with a quote from a guy that knows a thing or two about U.S government, former President George Washington, who said:


“Government is not reason; it is not eloquent; it is force. Like fire, it is a dangerous servant and a fearful master.”




The immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, Japanese Yen (vs USD), Euro/USD, and the SP500 are now $1617-1675, $118.89-122.64, $78.74-79.66, $79.83-83.02, $1.31-1.33, and 1354-1392, respectively.


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


Unproductive Works - Chart of the Day


Unproductive Works - Virtual Portfolio

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TODAY’S S&P 500 SET-UP – April 27, 2012

As we look at today’s set up for the S&P 500, the range is 11 points or -0.64% downside to 1391 and 0.14% upside to 1402. 












    • Down from the prior day’s trading of 1631
  • VOLUME: on 4/26 NYSE 780.19
    • Decrease versus prior day’s trading of -5.11%
  • VIX:  as of 4/26 was at 16.24
    • Decrease versus most recent day’s trading of -3.45%
    • Year-to-date decrease of -30.60%
  • SPX PUT/CALL RATIO: as of 04/26 closed at 1.31
    • Down from the day prior at 1.45 


  • TED SPREAD: as of this morning 38
  • 3-MONTH T-BILL YIELD: as of this morning 0.09%
  • 10-Year: as of this morning 1.93
    • Down from prior day’s trading of 1.94
  • YIELD CURVE: as of this morning 1.68
    • Unchanged from prior day’s trading 

MACRO DATA POINTS (Bloomberg Estimates):

  • 8:30am: Employment Cost Index (1Q), est. 0.5% (prior 0.4%)
  • 8:30am: GDP (Q/q) (Annualized) 1Q A, est. 2.5% (prior 3.0%)
  • 8:30am: Personal Consumption, 1Q A, est. 2.3% (prior 2.1%)
  • 9:55am: U.Mich Confidence, Apr. F, est. 75.7 (prior 75.7) 


  • Obama speaks to troops at Ft. Stewart in Hinesville, Ga.
  • FCC meets on practice of billing for unauthorized charges known as “cramming,” national broadband plan,  11am
  • House, Senate in session:
    • House Ways and Means panel holds hearing on premium support model for Medicare, 9am 


  • U.S. GDP probably gained at 2.5% annual rate after biggest increase in consumer spending in yr, economists est.
  • Ford Motor’s European outlook may be focus for investors as automaker releases earnings today
  • Merck may comment on new drugs, M&A as part of earnings discussion
  • Real estate investors competing to buy Manhattan apartment buildings have sent prices to record highs: Real Capital Analytics
  • Yuan declined more than 0.5% from central bank’s reference rate
  • for first time ahead of China-U.S. talks next week
  • Spanish Economy Minister Luis de Guindos ruled out seeking a bailout hours before S&P cut rating
  • Samsung overtook Nokia as world’s biggest vendor of mobile phones: Strategy Analytics
  • Global earnings: Nomura profit beats est.
  • Goldman Sachs banker Matthew Korenberg has been subject of U.S. insider-trading probe for 2 1/2 years related to Galleon: lawyer  Client
  • Companies must resubmit clean-energy loan applications in Washington by today for U.S guarantees denied last year
  • Huse approved a Republican-backed cybersecurity bill yesterday; Obama has called measure flawed and threated veto 


    • Calpine (CPN) 6:00am, $(0.13)
    • Covidien (COV) 6:00am, $1.03
    • Magellan Health Services (MGLN) 6:30am, $0.90
    • Newell Rubbermaid (NWL) 6:30am, $0.31
    • Barnes Group (B) 6:30am, $0.44
    • Goodyear Tire & Rubber/The (GT) 6:30am, $0.07
    • Coventry Health Care (CVH) 6:30am, $0.67
    • Ford Motor (F) 7:00am, $0.35
    • DTE Energy (DTE) 7:00am, $1.09
    • International Paper (IP) 7:00am, $0.50
    • Merck (MRK) 7:00am, $0.98
    • Simon Property Group (SPG) 7:00am, $1.68
    • Procter & Gamble (PG) 7:00am, $0.92
    • Lazard Ltd (LAZ) 7:00am, $0.24
    • VF (VFC) 7:00am, $1.88
    • Imax (IMX CN) 7:00am, $0.07
    • Flir Systems (FLIR) 7:30am, $0.33
    • Ventas (VTR) 7:30am, $0.86
    • American Axle (AXL) 7:30am, $0.64
    • KKR & LP (KKR) 8:00am, $0.72
    • Pilgrim’s Pride (PPC) 8:00am, $0.09
    • Canadian Utilities Ltd (CU CN) 8:07am, C$1.36
    • TransCanada (TRP CN) 8:11am, C$0.54
    • Chevron (CVX) 8:30am, $3.28 


  • Gold Traders Get More Bullish as Central Banks Buy: Commodities
  • Oil Falls From Four-Week High as Spain Cut Renews Demand Concern
  • Copper Swings Between Gains, Drops on Lower Stocks, Debt Crisis
  • Soybeans Set for Third Monthly Advance on South American Crops
  • Sugar Smuggling Into China Soars to Highest in 17 Years on Price
  • Gold May Fall in London as Stronger Dollar Curbs Investor Demand
  • Copper Stockpiles in China Climb to Record, StanChart Says
  • Gold May Advance Above $1,700, Infinity Says: Technical Analysis
  • Mercuria Seeks Investor for 20% Stake as It Expands in China
  • Cnooc Cuts Costs With Bonds After Bohai Oil Find: China Credit
  • California’s Mad Cow Had Been Euthanized After Falling Ill
  • Newmont First-Quarter Profit Beats Estimates on Gold Production
  • YPF Grab Spurs Biggest Jump in Default Risk: Argentina Credit
  • Cocoa Heads for Third Weekly Gain as Investors Buy; Sugar Drops
  • Global 2012 Steel Use to Rise 3.6% on U.S. Recovery, Group Says
  • Mittal Aids India-Pakistan Detente With Border Refinery: Energy























The Hedgeye Macro Team



The Macau Metro Monitor, April 27, 2012




The unemployment rate for January-March 2012 was 2.0%, down by 0.1% point over the previous period (December 2011-February 2012).  Total labour force was 347,000 and the labour force participation rate stood at 72.9%. 

AMZN: Key 1Q Deltas

No secret that AMZN smoked the quarter. They give sparse guidance and disclosure -- combined with meteoric growth on a massive $48bn revenue base and sub-2% margins, this company has never been afraid to print a number three standard deviations from the mean. 


Importantly, after 3 quarters of deterioration in the underlying 2 yr top line trends, 1Q marked a reacceleration in growth with the midpoint of 2Q guidance suggesting additional improvement in underlying trends moving through 1H. Although EBIT guidance of (-$260mm) to $40mm was shy of expectations ($152mm E), its worth noting that AMZN has remained profitable after guiding to a potential operating loss in both of the last 2 quarters. 


What Drove the Beat?


Revenue: +34% vs. +31E (North America contributed 20 points of growth, Int’l 14 points)

  • North America: +36% vs. +34E
  • International: +31% vs. +28E


Gross Margin: +114bps vs. -47E


SG&A: +54% vs. +46E (+295bps as % of sales vs. +230)


EBIT Margin: -181bps vs. -277E


Equity Method Investment (net of tax): $89mm benefit vs. $17mm unfavorable impact LY ($0.19 benefit)




Below is the AMZN SIGMA and the Key Takeaways from this evening’s conference call:


Quarterly Review:


TTM FCF: -39% to $1.15bn

ROIC: 12% (Down from 24%)

Stock repurchase in Q: 5.3mm shares at $960mm



North America: +36% Sequential Deceleration

  • Media: +17% Acceleration
  • EGM: +45% Deceleration
  • Other: +65.3% Acceleration
  • EBIT margin: -61 bps


International: +31% (+32% constant currency) Sequential Acceleration

  • Media: +21% (+18% cc) Acceleration
  • EGM: +40% (+42% cc) Acceleration
  • Other: +24% (+26% cc) Deceleration
  • EBIT margin: -313 bps


Worldwide: +34% (+34% constant currency) Sequential Deceleration

  • Media: +19% (+19% cc) Acceleration
  • EGM: +40% (+43% cc) Deceleration
  • Other: +61% (+61% cc) Acceleration
  • EBIT margin: -181 bps


Additional Metrics:

Worldwide paid unit growth: +49%

Active Customer Accounts exceeded 173mm

Worldwide active seller accounts exceeded 2mm

Seller units: 39% of paid units vs. 35% paid LY


SG&A: +54% (+295bps as % of sales)

Fulfillment: +52% (+115 bps as % of sales)

Marketing: +47% (+32 bps as % of sales)

Technology/Content: +63% (+129 bps as % of sales)

G&A: +50% (+17 bps as % of sales)

Other: +39% (+1 bps as % of sales)



Balance Sheet:

Inventories: +47% (turns 10.4, down from 11.6 LY)

Accounts payable days down 62 from 66

Capex: $386mm (reflects business growth, investments in tech infrastructure incl AWS and additional capacity to support fulfillment operations)


2Q Guidance:

Revenues: $11.9 billion to $13.3 billion (+20%-34% vs. +30E)

  • Anticipates 240bps unfavorable impact from FX

Operating Income: $(260) million and $40 million vs. $152.4

Capex: $0.8 to $0.9bn



Q&A Rundown:


2012 Fulfillment Center Plans:

  • Have announced 13 fulfillment centers thus far for 2012
  • Any changes will be announced but experiencing strong growth at retail as well as third party growth increasing over 60%, FTA also strong


North American Operating Margins:

  • Investing heavily in both NA & International
  • Have launched new Int'l' geographies over the last few years where AMZN continues to invest which is some of the dynamic impacting international margins vs. North America


Third Party Growth

  • Strong growth across Int'l as well as North America
  • Investing on behalf of customers and sellers as well as retail for the required capacity
  • Fulfilled by Amazon having a positive impact on all of the geographies AMZN operates in


Employee base growth:

  • Adding a great deal of resources across a number of areas
  • Vast majority of Q1 employee growth in operations and customer service
  • A lot of Q4 hires are temporary with a lot of those going permanent coming out of 2011 in 1Q12



  • Currently have inventory on hand to support the Amazon Supply business
  • Inventory increases have been broad across a number of different business, categories and geographies


Amazon Supply

  • Have been serving businesses for sometime- Amazon supply is a separate URL with an interesting selection to continue to serve businesses


Kindle Fire:

  • Pleased with the growth seen in Kindle Fire
  • Customers buying a lot of content particularly in North America
  • Part of acceleration in Media growth in NA due to Kindle content


Media growth:

  • Video games are a seasonal business and brought down growth in Q4 which did not continue into 1Q12
  • Adding more video content which is reflected in top line guidance


Category headwinds/tailwinds:

  • Supply issues related to Thailand floods created a headwind in 4Q11 & 1Q12 in categories including cameras, audio equipment & office equipment- It helped in cases where third party sellers still had inventory
  • Had strong broad based growth in Q1 across many categories
  • Strong growth in kindle globally
  • AWS is growing fast


Europe impact on international sales

  • Having some impact on performance


Mobile purchasing behavior:

  • Mobile business is growing fast and is an exciting opportunity
  • Will continue to work on the category to enhance the customer experience over time



  • Approx 50% of sales collect a sales tax or value added tax (several states in the US today and a large number of geographies outside of the US)
  • Have good businesses in those geographies

 AMZN: Key 1Q Deltas - AMZN SIGMA

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