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Analysts and the media community consistently reported a 27.3% plunge in December international visitation to Las Vegas through McCarran airport. I will concede that the international data coming out of the airport is very misleading. My junior analyst and crack researcher Rory Green spent time with people at the airport to fully understand the process.

Rather than a 27.3% decline, the number of international passengers through McCarran Airport actually increased 1.2%. Not exactly blistering growth but compared to what was communicated to the investment community, it might as well have been. The following chart details the actually year over year monthly change in international passengers in 2008.

I remain very negative on the near term and intermediate prospects for Las Vegas. The demise of the world economy will put increasing pressure on the overseas consumer’s ability to jump on a plane to visit Las Vegas and the dollar isn’t as cheap as it used to be. However, I do think the Street may be misreading two recent data points, including December’s international visitation number. As we wrote about in “NO NEW GATES NEEDED HERE”, McCarran’s total passenger traffic drop in December, while similar to November, should translate into a lower gaming revenue decline than November’s -16%.

Blame Canada...

Canada’s Prime Minister Stephen Harper is preparing to introduce a budget that will include a massive stimulus package that could lead to a C$60 billion deficit over the next couple of years. As recently as October, Harper derided deficit spending and encouraged investors to “buy stocks because they were cheap”, so this is a major about face for the Conservative leader and on the margin improves our view of Canada as it indicates a more normal and rational political situation in Canada – assuming the budget passes tomorrow.

Following the abrogation of Parliament late last year, ahead of a planned vote of non-confidence that would have brought down the Conservative government, it seems that Harper may have learned his lesson. While the NDP and Bloc Quebecois have publicly stated that they do not support Prime Minister Harper and will not support this budget, the Liberals have been more coy. Specifically, Liberal Leader Michael Ignatieff, who is also the leader of the Minority, said on Friday:

“On Tuesday, we'll all see whether the prime minister has learned to listen. If he hasn't learned to listen, he's not going to lead for long."

If the Liberal vote is in favor of the budget, it will pass and the Conservatives will remain in power.

The key debate between the Conservatives and the opposition will be on the tax component of the stimulus plan. The opposition leader, Michael Iganatieff of the Liberal Party, is pushing for a package weighted to investment versus tax cuts, with the tax cut component skewed to lower income Canadians. It seems that if the budget, which is to be released tomorrow, satisfies these primary components, the budget should pass.

On the margin, both Harper’s willingness to govern with ideological flexibility and the general thawing of the political process in Canada are positive for our view on Canada. While we are not crazy about deficit spending, Canada has the lowest debt to GDP ratio of any of the Group of Seven countries at ~29% and while this spending is projected to take that ratio up to closer to ~35%, Canada will still have a relatively strong balance sheet.

We have outlined our current Trade levels for the TSX 300 below, which are Buy at 8,424 and Sell at 9,101.

Daryl G. Jones
Managing Director

YouTubing" Larry Summers' "Meet The Press" Interview...

Below I have paraphrased parts of the Larry Summers interview from the January 25th segment of Meet The Press (questions and answers were all words they used… and I shortened the Q&A for the sake of hitting on their most critical points).

DG: David Gregory – Interim Moderator for NBC’s Meet The Press
LS: Larry Summers - Director, National Economic Council
KM: Keith McCullough - CIO, Research Edge LLC

DG: If you have a hole in the economy that’s a at least a trillion, maybe two trillion, don’t you need that stimulus?
LS: David, we have what economists call a multiplier… we surveyed a range of economists, and to a lot of experts both Democrat and Republican… and the President took a balanced point of view between new investments… and also tax cuts, because we recognize we have to help households and businesses to be able to spend.

KM: Backing out the socialist verbiage from the real economic formula of GDP = C +I + G + (ex-im), stimulus means (G), as in government spending, and we should not mistake it for legitimate (I) Investment. Summers knows this – he also sounded like he knows the real (G) number is larger than the proposed $825B. As the market’s expectations for (G) increases, the US Dollar should begin to weaken again (like it is today). Does (G) have a multiplier effect? Sure… but God help us if Obama and Summers are depending on that “range of economists” who missed proactively preparing for this market crash altogether. The only thing worse than one or two “economists” being wrong is a whole room full of them in Washington pandering to a new Administration.

DG: Only $250B worth of stimulus this year (according to Goldman Sachs)… only $250B worth of impact this year, don’t you want more of a jumpstart?
LS: The President has committed through a letter from his OMD Director, Peter Orzag, that ¾ of this $825B program will be spent in the first 18 months… we are doing everything we can … but we aren’t going to rush things to the point of being wasteful… speed is a crucial concern… but these problems aren’t going to be solved that fast. We also have to be mindful of having the right kind of plan that will carry us forward over time.

KM: My math has 0.75% of 825B = $618.75B worth of stimulus being spent in the first 18 months. That’s a big number, and one that could get a lot bigger as the winds begin to blow towards the next election cycle. Transparency and accountability rules are what the President is talking about – let’s see if he can deliver on his rhetoric and print that number, on time. I agree that managing this number reactively is not the patient solution that this country needs – the political pundits and the media want the money spent yesterday, with their crackberry and a coffee on the side – be careful who we are feeding rhetoric to here.

DG: If the size of the package is important… if the deficit is a concern, why not put some of that spending off until later?
LS: David, respectfully, I would disagree with the Washington Post – there are cops being laid off across the country, saving their jobs is saving jobs … its helping the economy, its protecting our neighborhoods… responsibility is integral to the Presidents style of leadership.

KM: In English, this is a big spending Democrat talking – oh baby is he going to spend it, and then some… they won’t worry about the debt until it’s too late. This is the Robert Rubin school of American leverage – ask the folks over at Citigroup or Goldman how that treated them.

DG: Bush tax cuts - why would you want to raise taxes right now? Why not put that expiration date off until say 2013? Why is that a bad idea?
LS: 2013? First it’s a bad idea because we simply can’t afford it! We have a trillion dollar deficit… but understand this, there will be tax cuts for the other 95% of Americans.

KM: This was the funniest question Gregory asked – reminding me that he wasn’t in the area code of being capable of having a real Tim Russert like economic debate – 2013? Even Summers looked at him funny! Then he gave him the obvious answer.

DG: Banking Crisis – $700B has been dedicated, will more money be needed down the road?
LS: we’re gratified that Congress has given the President the authorization he needs to unlock the $700B that the Bush administration worked with congress to create… the Presidents financial recovery program is going to be very different from what we have seen so far – it’s going to emphasize transparency – it’s going to emphasize accountability… perhaps most importantly, the priority has to be getting credit flowing again so that the economy will operate…

KM: Blame Bush for the “burden” but be “gratified” that he got you the the bag money – this is so hypocritical that it’s very sad… the rest of Summers answer I can sign off on – Transparency, Accountability, and Trust – but that’s something I have been saying for 14 months. Thanks for the knucks Mr. Summers!

DG: Will more money be needed? Do tax payers have to expect we are not done paying it?
LS: We can make important progress and get started with the support that has been provided… what ultimately will be necessary is something that will play out over time… we are going to be proactive… the President is going to do what is necessary, but only in the context of responsibility… in the context of trust…

KM: There is that Research Edge lingo again – that’s right Mr. Summers, you need to be “proactive” as you come to realize that the answer to this questions is simply YES.

DG: Why can’t you just make them lend?
LS: sure it does… who knows what the government could do… it wouldn’t be responsible for an institution to raise its lending without having capital - frankly that’s why there needs to be more capital – but they need to lend more in a way that’s consistent with their solvency and their capital adequacy…

KM: Summers was clear on this and it was his unifying point across the interview – he needs to give them more and more bailout moneys before he can make them lend it – after all, “who knows what” a socialized government can do?

DG: what do you say to someone who is trying to prepare for their future? They have lost confidence – they say what do I do?
LS: This is why I believe President Obama was elected – this is why his call for an age of responsibility as we manage our own finances, as we do our own jobs, is so very important … people need to work hard and play by the rules… those of us responsible for economic policy need to do everything we can to make this economy work…

KM: Other than hope and pray, I agree that people need to start managing their own finances in a self directed way – what I do not agree with is having my government feel like they are the ones responsible for “making this economy work.”

Keith R. McCullough
CEO & Chief Investment Officer

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US Housing: Bullish Bottom Forming?

One month of data does not an intermediate “Trend” make , but this is a data point that the bears were not prepared for. This month’s existing home sales came in +6.5% higher than last month’s # (see charts below), and more importantly, inventories came down hard, as a result.

The bears will cling and claw to the fact that 45% of these home sales came in “distressed” situations – but who cares? aren’t distressed homes still homes? No, these aren’t Wall Street homes – sales in the Northeast were actually down -1.4% again – but don’t sales in the West and the South being up +13.5% and +7.5% matter? You bet your Madoff they do… unloading the Main Street inventory overhang in this country matters, big time.

Months of supply came down to 9.3. This is down significantly from the peak and the 11.2 months recorded in November. As the facts change, I do – these facts are bullish; particularly in the face of a zero percent Fed funds rate, and an Obama administration focused on getting banks to lend to those seeking new lows in 30 year mortgage rates.

Bottoms are processes, not points…

Keith R. McCullough
CEO & Chief Investment Officer

The Year Of The Ox

The Year Of The Ox - asset allocation012609

"The Ox is the sign of prosperity through fortitude and hard work. This powerful sign is a born leader, being quite dependable and possessing an innate ability to achieve great things. As one might guess, such people are dependable, calm, and modest. Like their animal namesake, the Ox is unswervingly patient, tireless in their work, and capable of enduring any amount of hardship without complaint."
-Attributes Of The Ox (Wikipedia)
The best news in global macro this morning is that most Asian stock markets are closed for Chinese New Year. This means that the positive momentum that continues to build in the Shanghai Stock Exchange will live at least until next week when trading resumes, and the Asian markets that were under assault last week at least get a breather!
China's stock market is up almost +9% for 2009. This compares favorably with the SP500 which is down -7.9% year-to-date, and all other major stock markets around the world. With the TED spread narrowing, interest rates being cut to zero, and stimulus starting to flow, there is no longer the same "Liquidity Crisis" that global financial markets faced in the fall of 2008. Those, like the Chinese, who own the both the liquidity and duration of their own investments are in the catbird's seat to buy up assets from forced sellers.
What we have now is an "Illiquidity Crisis" that continues to assert itself where countries and companies alike need to meet their maker - the marked to market maker that is.  This, of course, goes hand in hand with the Crisis in Credibility that we have been harping on for the past while. If you said, thought, or assumed you could wait this out before The New Reality's rules of transparency and accountability revealed your illiquidity problem, your Depression may be as severe as Nouriel Roubini will remind everyone in Davos, Switzerland this week.
With most of Asia closed for the holiday, Japan was front center being 'You Tubed'. This socialized bureaucracy continues to perplex the "valuation" buyers, but as Marty Whitman says, "a bargain that remains a bargain... is no bargain." Japan closed down another -0.81% overnight at 7,682, taking it to -13.3% for 2009 to date, underperforming American stocks (ex horse and buggy whip US Financials) by a significant margin.
I have long been short Japan, and I see no fundamental catalyst that could sustain a rally in Japanese shares in sight. That said, everything has a price... and I will likely be booking another gain here on the short side in the near term. Re-short Japan on an up day, not a down one - rinse and repeat.
Although they we don't have to pull out the paddles yet, the global equity market patient (ex-China) is back in the emergency room. Make no mistake, the year to date performance of the US stock market has put many investors who don't own the duration of their investments behind the eight ball, and this will have an impact into month end later on this week.
In our Hedgeye Asset Allocation Model, I am down -1.34% for the year to date. Losing money is unacceptable. I do not blame the market - I look in the mirror, unlearn, and re-learn so that I can be flexible enough to get back to winning. Being long a 6% position in Gold helped offset losses in US Equity exposure last week. For the week, the model portfolio was down -0.21%.
In Russia, although stocks are trading up a hopeful +5.6% this morning, these guys are having a heck of a time re-learning any of history's lessons. When I re-read the attributes of the Ox, I think of the opposite force of nature in Siberia, or the office Hank Paulson is thankfully packing up this morning in Washington. Reactive, emotional, and wrong are quite different attributes than dependable, calm, and patient. History will write herself for Putin and Paulson alike - that you can lever up a long bet on. Although the Nikkei in Japan is still over 6% higher than its October 2008 low, the Russian Trading System Index is -4% below hers. Vladdy, the global equity and currency markets have voted.
In the intermediate term, Russia's failure and Paulson's exit are net positives for both American military and financial relevance in The New Reality. Although Tim Geithner is far from a comforting answer to everything that I'd rather forget, he is likely going to be confirmed by the Senate today as the new head of the US Treasury - so... we are all going to have to deal with him now - he will be held accountable by our You Tube.
Can Geithner pick up right where Hank "The Market Tank" blew up? For sure... that's probably why the US stock market is headed back to the emergency room - market participants are going to need to see what happens when we drop this guy in the dunk tank before he gets anyone's vote of confidence.
Confidence seems to be manifesting itself into the "re-flation" trade again. Last week, the CRB Commodities index outperformed the SP500 by a good 400 basis points after gold and oil put in +7% and +27% week over week moves, respectively. This was all the more impressive when you consider that commodities re-flated in the face of an appreciating US Dollar. This isn't supposed to happen - but neither is the US Treasury market ever supposed to go down.
The bubble in US Treasury Bonds is the last big one that remains. Can it pop? You tell me... there are plenty of expert bubble watchers out there these days who will surely chime in. The cost of long term capital shot up +30 basis points last week, taking 10 year US Treasury yields to 2.62%. This morning yields on the 10 year have moved 3 basis points higher yet again to 2.65%, and from a quantitative perspective, yields are starting to break out from the shark line we have been using at 2.34%.
Shark line? That's the line where the shorts get eaten. If you are short yield (long bonds), that's bad. We don't like being short the sharks - we prefer being long the ox. This situation needs to be monitored very closely, as the bond market is shaking. Don't forget that the Japanese and Chinese own us on this front - any material level of selling  down their respective exposures will require Obama, Volcker, and Summers to dress up like Ox this winter. "The Ox is the sign of prosperity through fortitude and hard work." The days of the quick crackberry fix are over - this is going to take time.
Best of luck out there this week.

The Year Of The Ox - etfs012609


Despite my initial gut, it makes a ton of sense. If my price math is right, the big winner is ZQK as it mitigates balance sheet risk. VFC buys eps leaving Nike as the stand alone candidate for TBL.

I didn’t see this one coming… The buzz out of ASR (Action Sports Retailer trade expo) is that VF Corp is buying DC Shoes from Quiksilver. There are two things to consider. 1) Does the deal fit strategically for VFC, 2) why in the world would ZQK sell its fastest-growing business, and 3) what does this mean for the investment case for each.

1) Does The Deal Fit? At first glance, my sense would be ‘No’ given what appears to be meaningful overlap between DC Shoes and VFC’s Vans. But the reality is that distribution is radically different, with Vans geared disproportionately toward company-owned stores, National Chains, and Shoe Chains, and DC geared towards athletic specialty and department stores – and at a 30% premium to Vans. VFC gives DC a platform to grow in Europe – a region where skate is a solid market, but one where DC has largely failed to grow under Quiksilver’s leadership.

Another consideration is that with VF Corp growing Vans, Reef, and The North Face footwear, it increasingly needs scale as the Asian factories gain leverage in this new reality where factories are closing, and pushing costs to US brands and retailers that are losing leverage on the margin. This would help VFC in that regard.

Another factor to keep in mind is that VFC was one of two likely buyers for Timberland. If this deal goes through, it’s basically up to Nike to step in and buy Timberland.

2) What is ZQK Thinking? Why sell its fastest-growing division? This is a function of ‘want vs. need.’ Does the company want to divest DC? I know for certain that the answer is No. But with the stock just over a bone, and with the EBITDA multiple well above the earnings multiple – it’s clear that the balance sheet matters far more than just about anything business-related.

So what would ZQK look like ex-DC? It’s impossible to tell for sure given that lack of any price disclosure. ZQK bought DC for about $100mm in 2004 when DC was at $100mm in revs and 9x EBITDA. On one hand, multiples have been crushed – which is stating the obvious. In addition, DC has failed to realize any scale benefits, and margins are still sitting near 10%. On the flip side, ZQK has grown DC from $100mm to about $475mm. If I assume 10% EBIT margins, 3% D&A, and a 5x cash flow multiple – then it suggests about $300mm in cash to ZQK. That’s not to mention divesting ZQK’s biggest working capital drag (footwear is the biggest drag after the now-divested hardgoods business). Based on those assumptions, my math is that this divestiture would be accretive.

Backing this business out of ZQK, my math leaves me with about $0.35-$0.40 per share in earnings. Not bad for a $1.50 stock whose debt/EBITDA goes from 5x to 4.2x with such a deal (and from over 8x with hardgoods). That’s not to mention that this would leave ZQK with a core apparel business (Quik and Roxy) where it could refocus on getting margins back into the double digits – something I thing is very much within reach.

3) What Does this Mean for the Stocks?
• ZQK: If this deal happens in the ballpark of the numbers I discussed, my math suggests a value today for ZQK at least 2x where it went out on Friday. A year out (if the co can realize margin goals) then we’re talking much higher.

• VFC: This would conveniently come at a time when VFC’s base business is fizzing out, and earnings expectations are way too high for 2009. The purchase price in question will not break VFC’s bank, and will help the company grow earnings – even if not organically. Again, this is all price-dependant, but at face value this is a positive for VFC.

• TBL: Bad for TBL. There were two likely suitors. VFC and NKE. A field of one would not help TBL’s bidding dynamics.

• Other bidders? Nike would not touch DC, in my humble opinion. Not because it does not like the category. Quite the opposite, actually. Mark Parker (CEO) is very much in tune with the relevance of the skate consumer. But that is why Nike has developed its own skate brand over the past 5 years. Keep in mind that Nike bought Hurley to better understand the skate consumer. Now Nike skate (6.0, etc…) eclipses Hurley in size. Nike’s motto is ‘why buy another brand when we can beat them organically with our own?’ Regardless of whether or not they can win, as long as they believe it, then they’ll deploy the capital internally as opposed to externally – and likely get a higher ROI. I’d be surprised to see other bidders here unless the announced price is egregiously low.

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