Is The Nasty, Good?

I will not mince words - this week’s 626,000 new jobless claims was a nasty number. This report is up significantly from a revised 591,000 for last week and 44,000 above the 4 week moving average.

In a perverse way, this is going to ultimately end up as a positive for the US stock market. At this stage, I think the US market needs nasty and socialistic data in order to break the buck. If we break the buck, short sellers get squeezed, and the US market continues to make higher lows versus November’s.

Breaking the buck will also, in a Darwinian way, force terrible management teams in corporate America to face the You Tubes of being the guys that fired their people right before export demand accelerates. That type of reactive management stands in stark contrast to our views of proactively managing risk. Those execs who built capacity at the economic cycles top, and bought back stock to pander to their momentum investor wants, behaved, as our President put it, “shamefully.”

The only way to right size this sinking ship of public equity market cap is to let the liquid long American Capitalist of the New Reality start eating into these reactive corporate management team’s cakes.

That’s change I can believe in.

Keith R. McCullough
CEO / Chief Investment Officer

EYE ON ROMANIA: When You Can’t Cut

Banca Nationala a Romaniei announced a 25 basis point cut for the monetary policy rate yesterday, lowering Romania’s benchmark rate to 10%, the first such cut since June 2007.

We believe the diminutive size of this cut in the face of massive decline in asset valuation reflects extreme currency fears; a very significant percentage of total Romanian consumption is Euro denominated. The ugly balance between supporting the Leu and sustaining growth has left Romania’ leaders in a potentially untenable position if external demand does not rebound in the coming months.

Romania is one of the many countries we’re following in Eastern Europe. It lit up our screens last year with a GDP of 9.1% in 3Q ’08, the highest GDP growth rate in Europe (east or west), yet the chart below confirms that Romania, like the rest of Europe, has experienced severe contraction. The BET is already down -29.7% from its high this year on 1/06, and closed down -3.26% today while the Leu is off 15% against the Euro and 26% against the dollar for the trailing 12 month period.

The government predicts GDP growth at 2.5% this year. The announcement of this rate cut by central bankers stated that they will actively target inflation between 2.5-4.5% this year, and will be releasing a 12-month calendar for upcoming rate decision meetings later this week.

Stock markets are leading indicators. Clearly, Mr. Market is telling us there is no way Romania prints the GDP number they officially “expect.”

Matthew Hedrick


I still expect WYNN’s quarter to look ugly and numbers to come down. However, WYNN’s stock is down 38% year-to-date and there are a couple of catalysts. Not necessarily long catalysts, but catalysts to potentially halt this precipitous stock decline.

As WYNN indicated on Tuesday’s pre-announcement conference call to announce they weren’t pre-announcing earnings yet, the company has some cost levers to pull. Management identified $75-100 million in labor cost savings. Second, the high margin Mass Market business is actually growing, albeit slowly in Macau, and Wynn Macau has, temporarily at least, reversed its recent market share erosion. January is only one month but the Mass Market has held up well despite the tighter visa restrictions.

Wynn Macau is tracking below our estimate for RC revenue in Q1 but above for MM. This is a decent trade off since MM is much higher margin. See today’s post “MACAU: JAN COULD’VE BEEN WORSE” for a more detailed analysis of Macau’s recent performance.

WYNN’s balance sheet is pristine which is highly unusual in this industry. PENN is the only other gaming operator with sub 3x leverage. The longer term outlook for Macau remains favorable, particularly if Beijing loosens visa restrictions ahead of the new Macau Chief Executive taking over later this year, as we expect.

We realize this isn’t exactly a bull thesis on the stock but it’s not a bearish one any more either.

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"Not everything that is faced can be changed. But nothing can be changed until it is faced."
~ James Baldwin
Clearly, after yesterday’s big intraday US stock market reversal, we are not out of the woods yet - and we effectively won’t be until we can put the US Financials rumor mill on the back burner. To do that, we need to let some of these financially geared companies go away. We’re socializing the losses of our financial system anyway, so rather than behaving completely like the Japanese government, let’s just get on with it and let some of these banks go to zero.
The media is picking up on a story that speaks to this very point. It turns out that the old battle axe of getting unpopular things done, Paul Volcker, is already butting heads with the bailout bureaucrat, Larry Summers. Anyone who has read the respective histories of these two gentlemen will not be surprised by this. Volcker is a doer and Summers is a Rubinite.
What’s a Rubinite? Someone who comes from the Robert Rubin school of Goldman Sachs gone public. Goldman, when it was a partnership, was one of the greatest success stories that this country will ever see. Goldman, as a public company, is a training ground for leverage traders and politicians.
I agree with Jeremy Grantham’s recent assessment that “Rubin is the guy who was last seen exhorting Citibank to take more leverage and keep swinging … he was part of the establishment that failed to express early, loud concerns over slipping financial standards, and in fact helped create an environment where prudence was a career risk and CEOs felt obliged to keep dancing.”
The reality is that Summers, much like Hank Paulson, is a Rubinite. Tim Geithner is a Summers man, and so is the new head of the CFTC (actually Gary Gensler was appointed into Treasury by Robert Rubin). Follow the bouncing ball folks… it has finally rolled up to the big cigar smoking Volcker’s feet – and he doesn’t like the smell of it.
Does our financial system have a Crisis in Credibility? You bet your Madoff it does – yesterday’s intraday 200 basis point selloff in the SP500 probably had as much to do with Harry Markopolos’ Madoff testimony as it did the rumor that Bank of America is going to be nationalized. Markets are functions of confidence. They don’t go up, sustainably, when there is no trust. Trust is earned, not appointed. Trust takes forever to build and a minute to lose.
Obama, unfortunately, has already appointed two politicians (Geithner and Daschle) who violated America’s trust. Whether it is not paying their taxes or hobnobbing with the Rubinites, this is American Idol season, and America has voted – she doesn’t like what she sees, and she shouldn’t. Obama’s promise was one of hope – hope that things will change. The New Reality is that “nothing can be changed until it is faced.” President Obama, “C’mon Man”, enough with the knucks and the hoops, you need to seriously get it together, and fast.
Insiders on Obama’s political team are already blowing with the political wind. The man’s big smile has lost him 9 full percentage points in approval ratings in the last few weeks. Not everything Democrat is Obama. But Obama now stands for the new Democrat majority. If accountability is what Obama wants, and that’s exactly what Americans are giving him.
Does this charged political environment matter to stocks? You tell me. Some “smart” people in this business used to tell me “there is no edge in macro” – now that’s all those people want to trade on… As this increasingly interconnected marketplace of global economic and geopolitical factors changes, we need to continuously ask ourselves why we aren’t changing our positioning alongside it.
Any objective global macro investment process will reveal at least as many negatives right now as there are positives. Importantly, that statement has an implied positive embedded within it. Six and twelve months ago, there were far many more negatives than there were positives, with the most glaring being a breakdown of the global credit mechanism. Now that’s changed.
Alongside the global rate cutting and stimulus party, we have seen the TED Spread (3mth LIBOR minus 3mth Treasuries) narrow by almost 400 basis points since the October Liquidity Crisis. This morning the TED Spread is only 95 basis points wide. Alongside this, we are seeing a continued steepening of the US Yield Curve. The spread between 10 and 2-year Treasury yields has widened to almost 200 basis points. If you are hostage to using leverage to run your business, this is very bad. If you are a liquid long capitalist looking to borrow short, and lend long, this is very good.
The SP500 is trading in a very tight range, and that, combined with a Volatility Index (VIX) that has been cut in half since October are also becoming positive macro factors. US market volume is beginning to accelerate on the market’s up moves (as opposed to the down ones), and the market’s breadth is recovering.
These positives are offset by a host of negatives that the guys trying to sell books (Roubini, Schiff, etc…) will remind you of – the bear case went prime time with the SP500 10% lower, so I won’t repeat consensus or my bearish call from last year. The most negative factor that remains as a headwind for the US stock market is the US Dollar. If we don’t break the buck, the stock market won’t be breaking out to the upside anytime soon.
My line in the sand for the US Dollar Index is 84.38. Breaking down below that line combined with an SP500 breakout and close through 864 is going to have every Depressionista in the league feel shame on the short side. In the meantime, you can buy/cover SP500 support of 811 understanding that "not everything that is faced can be changed. But nothing can be changed until it is faced.”
Best of luck out there today.

Roubinites - etfs020509


I’m confident that China will provide YUM with unit growth for a long time. I’m also confident that the current rate of growth is not sustainable into 2010. We also now know that MCD is getting aggressive with its discounting in China. This will not be good for industry profitability.

We all know now that SBUX was growing too aggressively in the U.S. Some of us had questioned the company’s growth trajectory when it started to experience sales cannibalization from new openings. At that time, SBUX management continued to defend its growth despite some level of cannibalization.
Analyst question and management response from SBUX’s fiscal 3Q07 earnings call:

Analyst: On your comment on slowing the U.S. store growth modestly, you mentioned cannibalization as one of the issues. Historically when you've opened new stores, you've always typically cannibalized existing stores. Is the difference now that the stores that were cannibalized, were they not ramping up as much, or is it just the new stores aren't I guess opening at the same type of volumes?

Management: If you look at the cannibalization factor today as we did several years ago, and it's more in pockets than it is across the company, but, we're seeing in these pockets certain cannibalization dependent upon where those stores are located. But we don't see this as an issue that basically overrides the opportunities that we see for continuing our growth.

As we go forward, we're going to continue to infill markets where the opportunities exist, factoring in some form of potential cannibalization in our plans, whether they are total overall revenue or 3% to 7% comps.

And again on its fiscal 4Q07 earnings call:

Analyst…just on the U.S. unit growth topic and cannibalization, I think you’ve noted in the past some pockets of likely cannibalization across the U.S. but not the driver to further slowing your unit growth. I’m just wondering if you could talk about the magnitude of potential cannibalization.

Management: On the store count, we had reduced the U.S. slightly this year, but when we look at this traffic softening, we’re looking at it from an economic environment as we see it all across the retail industry. And our perspective, the saturation comments are overblown. Our perspective hasn’t changed. We’re still opening new stores knowing that the surrounding stores will experience some level of pressure but also the understanding of the convenience that will drive the customer frequency. And we’ve said once, we’ve said quite a few times that we just need to be where the customer is, so again we’re balancing that and this little pause in ’08 will give us a chance to recalibrate, look at this, and continue to grow towards the 10,000 stores.

Only one quarter later, SBUX announced its plan to slow its U.S. growth and to close 100 underperforming stores in the U.S. in an effort to “potentially reduce cannibalization of existing stores.” And, that was just the beginning!!

Based on SBUX’s defensive comments from late 2007 and performance since then, you can understand why I am concerned by YUM management’s statements yesterday justifying its continued aggressive unit growth in China:

YUM Management’s comments on cannibalization – 4Q08 : Again, in the China division we opened up 500 units in 2008 and our plans are for high growth again in 2009 across all tier cities. The growth continued to be strong. That is one of the things we look at whether we look at the performance. We assume a sales transfer, some sales transfer will occur and despite that, we have great returns. We often do want to cannibalize ourselves so to speak in places we have a very high performing restaurant we almost need to take some of the sales off with that built into our business plan as well. As we open up new units on average, just for people who look at us, we start out at a rate that is lower than our total sales average because we do go into some smaller tier cities that have high returns but then grow quicker over time is how we have seen those markets perform and obviously as we go into a share of the city you see some sales transfer there. So far we have not seen anything unusual or different on actual sales transfer versus our projected sales transfer. So again all systems are a go on the new unit front. We are very confident about our model we get great returns. We keep going as long as we keep getting great sites and great trade zones.

Sound familiar?

I’m not saying there are no growth opportunities for YUM in China. It’s the rate of growth that I am questioning, and right now they are pushing the envelope of growth in China. YUM’s aggressive growth posture is also occurring at a time when the competition is getting more aggressive with discounting. Yesterday, McDonald's offered its biggest price discounts in China as it faces slower sales trends in a slowing economy.


Total Macau Baccarat revenue declined 19% YoY in January but increased 12% sequentially from December 2008 due to seasonality. The YoY decline was isolated in the Rolling Chip (RC) business which fell 26%. RC turnover also declined 26% so there were no hold issues there. Surprisingly, Mass Market (MM) revenue actually increased 5%.

The lack of credit available to RC players continues to drive Macau revenues lower. The junkets flooded the market with credit in the first half of 2009 making upcoming comparisons very difficult. The MM business has picked up some of the slack although visa restrictions have limited the impact. From a long term perspective, the relative strength of the MM is encouraging since a) visa restrictions could be loosened, and b) margins are considerably higher in MM than RC.

In terms of market share, MGM gained an impressive 400 bps of total market share sequentially and improved its share on both segments. Wynn Macau also performed well on a relative basis. It gained modest market share (200 bps) and put it back at the average levels experienced in 2008 after several months of declines. Finally, Galaxy used market leading junket commission rates to gain 300 bps of market share in RC. LVS was the clear loser in market share with Sands Macau and The Venetian losing approximately 400 and 300bps, respectively, of total share sequentially.

Net/net the month could’ve been worse. There is no remedy for the tough RC comps but any growth in MM is encouraging.

MGM, WYNN, and Galaxy improved
RC in rough shape