Loss Aversion

“The concept of loss aversion is certainly the most significant contribution of psychology to behavioral economics.”

-Daniel Kahneman


If you got the US Dollar and Growth Slowing right, you got a lot of other things right in the month of May. With the US Dollar Index +5.5% for the month, mostly everything stocks and commodities deflated, big time. We call that Deflating The Inflation.


Gains on the short side were bountiful, but how do you deal with the losses? What institutional pressures, if any, do you feel? If you are no longer institutionalized, do institutional performance pressures affect how your positions move?


No matter where you go in this profession, these are behavioral questions that an over-supplied industry still needs to answer. It may not be what every strategist is allowed to write about, but it’s what all of our clients talk to me about. As Kahneman astutely summarizes in Chapter 28 of Thinking, Fast and Slow, “Still, threats are privileged above opportunities, as they should be.”


Back to the Global Macro Grind


Just because you need a certain return on your invested capital doesn’t mean Mr. Market owes you one. If I can tell you at 14-15 VIX that Growth Slowing is your research call (VIX YTD low = 14.26 on March 26th), that’s a huge opportunity to manage your risk.


Notwithstanding that it’s been glaringly obvious that all of Asia and Europe have been slowing since February-March (the data doesn’t lie; perma-bull economists do), here’s what the US Growth Slowing data looked like:

  1. US GDP: Q1 slows to 1.88% (versus 2.97% in Q4)
  2. US Fixed Investment Growth: Q1 slows to 0.61% (versus 0.78% in Q4)
  3. US Final Retail Sales Growth: Q1 accelerates to 1.67% (versus 1.16% in Q4)

Accelerates? Oh, right – we have to take the inflation from the gas pumps, groceries, etc. out of the Final Retail Sales acceleration. That’s called the GDP Deflator. That matters, primarily because you have to subtract the Deflator from US GDP:

  1. Q4 2011 US GDP Deflator = 0.84%
  2. Q1 2012 US GDP Deflator = 1.65%

In other words, inflation (using the Government’s conflicted calculation of it) doubled, sequentially, in Q1 versus Q4, and that’s why real growth (inflation adjusted) slowed.


This is why we are so focused on getting the US Dollar right. Get that right and you’ll get growth’s slope right. Gas is priced in Dollars. Therefore, when Ben Bernanke arbitrarily opted to devalue the US Dollar on January 25th, 2012, oil, gold, etc. ripped to their final February crescendos … and that, in turn, slowed real (inflation adjusted) US Consumption Growth.


It also freaked out fixed investments made by people like me who run small to medium sized businesses in this country. Growth Slowing is what Soros would call reflexive. It feeds on itself, erodes confidence, and slows the pace of hiring.


It also slows the pace of asset price appreciation. Stocks, Commodities, and Bonds are leading indicators – they get it:

  1. US Stocks = SP500 was down -6.2% in May and the Russell 2000 is down -10% since peaking on March 26th
  2. Commodities (CRB Index, 19 commodities) = down -16.2% since topping in late February
  3. Bonds (US Treasuries) = 10-year bond yields are down -35.9% from their March 2012 lower long-term high

I don’t need to take a “survey” or ask a company like CAT’s CFO for a look on Growth Slowing. Been there, tried doing both – it doesn’t work. Markets are a lot smarter than both of those qualitative narratives. These are lessons we all should have learned and incorporated into our risk management and research process since 2008.


Where do we go from here?


I don’t know.


I Embrace Uncertainty each and every risk management morning. I take the economic data as issued. And I work with my team on probability weighting what the new price (markets) and fundamental (economic) data means in our models.


Today’s data was not good. China’s PMI (50.4 in May vs 53.3 in April) showed a re-acceleration of Growth Slowing on the downside. South Korea printed its 3rd consecutive y/y decline in Exports (another May number) and in the US, yesterday’s PMI print for May of 52 (a 7.4% decline versus April), was nasty. So are June 1 declines in stock and commodity market prices.


No one likes losing. I think it was Billy Beane in Moneyball who said “I hate losing more than I like winning.” And when it comes to dealing with Loss Aversion, I think your clients probably think about it that way too.


My immediate-term support and resistance ranges for Gold, Oil (WTIC), US Dollar, EUR/USD, and the SP500 are now $1, $84.92-90.14, $82.24-83.51, $1.22-1.25, and 1, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Loss Aversion - Chart of the Day


Loss Aversion - Virtual Portfolio


The Macau Metro Monitor, June 1, 2012




Macau gross gaming revenues rose 7.3% YoY to MOP26.078 billion (HKD 25.32 billion, USD 3.26 billion). 



Sands China Ltd withdrew its judicial appeal to get parcels 7 and 8 on Cotai.  On December 2010, the Macau government rejected a land concession application by Sands China for Cotai lots 7 and 8.  On January 2011, the company filed a judicial appeal with the Court of Second Instance.


In its 2011 annual report, the company said that it would record a charge for all or some portion of the US$101.1 million in capitalized construction costs as of December 31, 2011 should the company not get the land rights or receive a full reimbursement of its capitalized investment in the project.


Sands China CEO Ed Tracy said in a statement Friday the company is focused on opening the next phase of Sands Cotai Central this fall and "accelerating" the development of Parcel 3, "bringing it to the market as quickly as possible."



According to China Real Estate Index System (CREIS), average housing prices in 100 major Chinese cities fell by a slower pace MoM in May, slipping 0.31% from April to 8,684 Yuan $ a square meter.  April prices fell 0.34% MoM.  It was the first instance of a narrower decline, after four months of accelerating losses.  On a YoY basis, May fell 1.53%, compared with April's -0.71%.  

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HedgeyeRetail Chart of The Day

We wonder if Ron Johnson is doing this math on where his revenue dollars are going. The recipient will fight tooth and nail to hang on to the $$$.




Let everyone fret over a percent here or a percent there. Let’s think about absolute numbers for a minute.


Though JC Penney no longer reports monthy comps, let’s assume that sales for the month followed the 1Q trajectory, and were down ~20% for the month of May. That suggests ~$240mm in lower sales versus last May. Kohl’s should be loving that, right? One would think. But despite 55% store overlap (5-mile radius), KSS could not capture a single dollar. In fact, it gave up ~$35mm of them.


Ron Johnson’s biggest problem, however, rests not in the fact that Macy’s captured ~$80mm, or that Gap/Old Navy nabbed $25mm. But rather that TJX and Ross Stores garnered a combined ~$110mm. With JCP’s EDLP strategy under such scrutiny, not only will Johnson need to pull the needle out of the consumer’s arm after 30-years of conditioning to wait for a sale, but now he has to worry about wrangling traffic away from the off-pricers.

This is going to take A LOT LONGER than a year.



CONCLUSION: The timing of our bullish thesis on Brazilian equities has been delayed as a result of the accumulation of negative effects stemming from the recent slew of policy maneuvers. We’ll likely revisit Brazil on the long side in the coming months, but, for now, we expect continued lower-highs in the BRL (vs. the USD) and Brazilian equities on a TRADE and TREND basis.




“… we can’t stress this enough: we expect both Brazil’s equity market and currency to experience continued downside over the intermediate term post the MAY 29-30 central bank meeting if their actions are perceived to be in line with the broader central plan of Brazilian policymakers. The strongest TREND-duration short thesis for Brazilian equities (i.e. the opposite of our long thesis) is quite consensus at this juncture, given that the Bovespa Index has indeed crashed from its MAR 13 YTD high (-20.1%).


Shorting Brazil from here requires true guts, but if the USD continues to make higher-highs over the intermediate-term – dragging cross-asset volatility up alongside it (the two are +94% correlated on an immediate-term duration) – Brazilian equities and the Brazilian real will likely continue to get tattooed if policymakers don’t commit to providing international investors with higher rates of expected return(s) via doing what they must to stem the tide/reverse the trend in the exchange rate (i.e. selling dollars, lowering cross-border IOF taxes, introducing a rhetorical floor for the BRL, hiking rates [not likely], etc.).”


Upon analyzing today’s -50bps SELIC Rate cut and associated COPOM commentary, it’s clear to us that Brazilian officials have no desire to protect the nation’s currency from capital flight associated with the latest King Dollar breakout – a phenomenon only exacerbated by the recent spate of increased capital controls and advance of the sovereign further into the Brazilian financial markets.




The benchmark SELIC Rate has now been reduced to an all-time low of 8.5% on the strength of a consensus decision by the COPOM (129 of 154 decisions) – which is the first to be publically disclosed on an individual basis under the new statue. While don’t have their full minutes (to be released on JUN 8), we feel comfortable in saying  their latest guidance is more dovish than their previous statement – which, inadvertently or explicitly, is in line with Rousseff and Mantega’s desires for a structurally lower domestic cost of capital and a weaker currency (generally at the expense of the Brazilian private sector and foreign investors): 

  • APR: “… even considering that the activity recovery has occurred more slowly than anticipated, the Committee believes that, given the cumulative and lagged effects of policy actions implemented so far [i.e. 350bps of rate cuts], any movement of additional monetary easing should be conducted with parsimony.”
  • MAY: “The COPOM considers that, at the moment, the risks to the inflation trajectory are limited. The committee also notes that, until now, given the fragility of the global economy, the contribution of the external sector has been disinflationary. Given this, and giving continuity to the adjustment process of monetary conditions, the COPOM decided to reduce the SELIC rate to 8.5 percent per year without a bias.” 

As such, we are no longer inclined to trade Brazilian equities with a bullish bias over the intermediate term (though we wouldn’t fight the onset of an unhealthy, centrally planned asset price pop out of the FED if one were to occur). While Brazil’s TREND-duration GROWTH and INFLATION outlooks continue to be supportive of a 2H12 rebound in both the currency and equity market, poor POLICY should continue weigh the BRL and the Bovespa over the immediate-to-intermediate term.


While we wouldn’t recommend shorting and holding Brazilian equities from here (the Bovespa has experienced a -21.8% YTD peak-to-present crash), we do find it prudent to wait and watch for quantitative confirmation of an immediate-term TRADE breakout or confirmation that the index won’t break down through its AUG ’11 lows before dabbling on the long side again.




Deflating the Inflation only works to stimulate economic output only if a country’s currency remains relatively strong enough to reap the benefit of the disinflationary forces – particularly in an economy like Brazil, which is simply laden with structural inflationary pressures (email us for our TAIL duration AUG ’11 Brazil Black Book). Brazil’s disinflationary tailwind stemming from our initial Deflating the Inflation theme (APR ’11) peaked in FEB and should continue be a headwind on the margin through at least SEPT (holding current market prices flat through year-end).






All told, the timing of our bullish thesis on Brazilian equities has been delayed as a result of the accumulation of negative effects stemming from the recent slew of policy maneuvers. We’ll likely revisit Brazil on the long side in the coming months, but, for now, we expect continued lower-highs in the BRL (vs. the USD) and Brazilian equities on a TRADE and TREND basis. Alas, POLICY remains the hardest factor to model – though arguably the most important to get right in today’s Global Macro environment.


Darius Dale

Senior Analyst

Mid-Tier Math Not Adding Up

Overall, an in-line-ish month for sales. Beats outnumbered misses by 2 to 1. But the standard deviation was generally benign. Not a surprise given that we just passed retail earnings season, and June – not May – is the real important month for the quarter.


We wonder if Ron Johnson is adding up where his lost revenue dollars are going. It’s not KSS. GPS and M can’t account for it. Enter the off-price retailers. Not only will he need to recondition the consumer to buy full price, but to stop treasure-hunting. Good luck.


No Shade for the Mid Tier: Of the 5 misses this morning, GPS (+2% vs. +2.2E) and KSS (-4.2% vs. -0.7E) were two of the most notable in light of DDS & JCP pulling out of the sample earlier this year. As we’ve highlighted in the past, mid tier retail will become increasingly vulnerable to share losses in 2H as pricing remains uncertain despite the expectations for margin expansion in light of easing costs.


Think of it like this…If we were to assume that JCP sales in May were down similar to the (-20%) decline we saw in 1Q12, that would equate to ~$240mm in mid tier dollars up for grabs. That alone makes Kohl’s and Macy’s lives easier. Macy’s sales were up $80mm. But KSS was DOWN $35mm?? Anyone want to explain that one? Either JCP is getting much better – which it is not, or there are other retailers scooping up the share. KSS is missing the boat here big time.


The kicker is that the off price retailers are taking share. Why? They’ve got the goods, and the consumer LOVES a bargain. I wonder if Ron Johnson knows that he’s going to have to not only condition the consumer away from looking for bargins in full price stores, but now he’ll have to worry about battling the value proposition at off-pricers as well.  


GPS: While GPS’ +2% comp miss was minor and expectations ran up from +1.4% to +2.2% into this morning’s print, each of GPS’ businesses’ underlying 2 yr trends eroded 200bps+ sequentially with the exception of international though it remained (-4%). While May only accounts for 31% of 2Q sales for GPS, June accounts for closer to 41% and although top line compares ease into 2H, they become more difficult in June first.


KSS: Aside from BKE, KSS was May’s biggest laggard with comps -4.2% vs. -0.7E. Most notably, KSS’ sales were -2.6% on a +7% increase in inventories driving the month’s sales to inventory spread to new lows -11.2% from -5% in 1Q12. This just after KSS announced they would be implementing a new EDLP strategy in response to JCP’s “Fair and Square” roll out. In the first quarter, with e-commerce sales +34% and new stores contributing ~1.7 points to the 1.9% top line growth, we estimate the core brick and mortar business contracted LSD. We continue to like KSS on the short side in light of the mid tier domino effect that we expect to play out further in 2H as both top and bottom line compares get increasingly difficult over the intermediate term. 



Off-Price Outperformance: ROST and TJX continue to outperform the SSS group as a whole coming in +8% vs +4.8E and +8% vs 4.9E, respectively, bucking consensus by 300bps+ each, the 2 largest beats on the morning excluding the smaller cap participants (CATO, SSI, BONT, ZUMZ). The spread between the consolidated off-price comp and the total SSS comp remains prevalent at about +4.5 points wide. Given our expectation for pricing to break down across the mid tier in 2H12 driven primarily by JCP/KSS EDLP, off priced retailers have the opportunity to capitalize on industry-wide inventory growth with better buys and a value proposition that already resonates with the consumer. In other words, the quality and availability of goods in the off price channel will only go up from here.


ROST: Posted revenues +13% with inventories -1% maintaining a mid teen sales to inventory spread.  


TJX: Sales came in +10% accelerating sequentially over +7% growth in May. TJX highlighted inventories as being “in great shape and turning fast” this morning following the 1Q12 inventory spread jumping 11 points from 4Q11 to +15% with inventories -3% headed into May. 


High End Remains Strong: High end retail (SKS, JWN, M) exceeded expectations in May with JWN comps in line (+5.3% vs. +5.3E), SKS beating (+4% vs. +3.3E) and M delivering 20bps of upside driven primarily by online +42% in May and 36% YTD. While the consolidated high end comp accelerated 200bps to +5%, the spread between high and low end contracted slightly on the margin from 10 points to 6 points.


COST: After uncharacteristically missing April consensus for the second month in a row in April, COST posted a 3 peat this morning with comps +4% vs. +4.4E. Gasoline deflation and FX combined negatively impact comps by 150bps though all major categories posted positive comps and AUR remained flat despite gas prices declining slightly from $3.86 to $3.84 year over year. 


Mid-Tier Math Not Adding Up - KSS SIGMA


Mid-Tier Math Not Adding Up - TGT monthly sales grid


Mid-Tier Math Not Adding Up - monthly SSS comp


Mid-Tier Math Not Adding Up - total SSS comp

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