"I know a lot of people have very strong and definite plans that they've worked out on all kinds of things, but we're subject to a tremendous number of outside influences and the vast majority of them cannot be predicted. So my idea is to stay flexible."
- Henry Singleton
I have to admit, I didn’t know who Henry Singleton was when I first read the quote above – I just really liked the quote. Then I read a little bit about Mr. Singleton and I really liked him too. He was what I would call a great American.
Singleton graduated from the Naval Academy in 1940 and went to work as an electrical engineer. As the United States upped its involvement in World War II, Singleton was eventually sent to Europe as a member of the Office of Strategic Services, which was the forerunner to the CIA.
After serving his country, Singleton returned to the U.S. to get a graduate degree in electrical engineering from MIT. He would then make his way out to California where he and a former Naval Academy roommate, with the backing of legendary venture capital investor Arthur Rock, would start Teledyne, a company that had decades of success before being acquired by Allegheny Steel. None other than Warren Buffett once said:
“Henry Singleton of Teledyne has the best operating and capital deployment record in American business.”
Lofty praise, indeed.
One of Singleton’s keys to success was his willingness to be flexible. Nothing could be more accurate for those of us that actively invest in the stock market. The ability to change your mind and change your exposures on new information is a critical to succeeding as a money manager.
Yesterday, I did a brief interview on National Public Radio. The key question they wanted answered was why August was so quiet and whether that meant things were getting better. Now perhaps I’m being a little inflexible, but my response was that they shouldn’t confuse absence of news with good news. In fact, as we look forward there are a number of major events that we need to manage risk around, such as:
- The U.S. Election – As we’ve noted, this race is basically a dead heat with Romney likely doing a bit better than many polls indicate based on higher voter engagement for Republicans. We are confident in saying, especially with the addition of Paul Ryan to the ticket, that the economic policy outcomes will be very different under a President Obama or President Romney.
- The U.S. Debt Ceiling – Do you remember this little critter last summer that led to a dramatic sell off in risk assets and a literal shutdown in Washington D.C.? Well, it’s going to become an issue again very soon. According to analysis from our healthcare team, the U.S. Treasury will issue $592 billion in debt through year end, which will put them in breach of the debt ceiling of $16.4 billion sometime before 2013.
- Fiscal Cliff – It’s funny how we are hearing less and less about the fiscal cliff these days, since the issue hasn’t gone away. In 2013, we have the toxic short term growth combination of higher taxes and lower government spending coming our way (less government spending will be good in the long run, of course). Reasonably this could be a 2% plus headwind to economic growth next year. The non-partisan CBO actually has 2013 growth pegged at an anemic +0.5% in 2013.
- Japanese Debt Ceiling Debate – Just because Japan is in a different time zone, doesn’t mean it doesn’t exist. Currently, legislation to enable the Japanese government to sell debt to finance 40% of the federal budget is stuck in the upper house as the opposition party is attempting to force Prime Minister Nodo to fix an election date. Japan’s government could run out of money by October if this legislation is not passed.
- Chinese Growth – I highlighted the Chinese flash PMIs yesterday that showed inventories building and sales declining heading. In the Chart of the Day, we show Chinese steel prices that illustrate much the same story economically. Rebar, in particular, is required for large scale construction and to the extent prices are declining it bodes poorly for economic activity and suggests the upcoming quarters will be replete with negative economic data.
- European Debt – The Eurocrats are on vacation so the news flow has been minimal and, on the margin, that’s been positive. That said, nothing has been solved and we will likely see more “solutions” and “summits” in the coming months. In fact, news out this morning has the German finance minister stating they will be preparing for a scenario in which Greece leaves the Eurozone.
It’s Friday, so I do want to leave you on a more cheery note heading into the weekend, so I decided to leave out my 7th potential catalyst, which would have been the potential for an Israeli strike on Iran this fall. Certainly, oil is signaling something along these lines lately.
On a much more cheery note, my colleague Jay Van Sciver, our Industrials Sector Head, will be joining our client call this morning to discuss his sectors and one of his favorite names, PACCAR. Van Sciver has a differentiated view on the upcoming trucking cycle, which is likely to lead to fewer truck sales and more parts sales. Get this, truck OEMs, such as PACCAR, actually make more money selling parts. If you can’t join us for the call this morning, ping and get on a call with Van Sciver. His long call on PACCAR is almost as compelling as is short case on United Airlines.
Our immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar, EUR/USD, 10yr UST Yield, and the SP500 are 1, 113.96-116.21, 81.28-82.13, 1.23-1.25, 1.62-1.75% and 1.
Enjoy the weekend!
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
This note was originally published at 8am on August 10, 2012 for Hedgeye subscribers.
“Observe due measure, for right timing is in all things the most important factor.”
Efficient market folks say they can’t time markets. Take their word for it. It’s our job, not theirs.
Whether you practice the art of short selling in gnomic, hymnic, or genealogical form, at some point in the decision making process we all have to do the same thing – timestamp our position.
We waited, watched, and finally re-shorted the SP500 yesterday at 10:21AM EST (1405). Given all the perma-bullish narratives I’ve had to listen to for the last few weeks, I must say I enjoyed the experience quite thoroughly.
Back to the Global Macro Grind…
To timestamp or not to timestamp, remains the question. All of you who do this with real money understand the concept obviously. Timing stares at you from your P&L every day. For the Old Wall’s finest strategists, the whole accountability exercise still appears to be quite foreign.
If you’re one of the many non-timestamping strategists who had a 3% US GDP growth forecast and 1500-1600 target for the SP500 back in March, you had the entire 2012 fundamental thesis wrong. In order to remain bullish, the best move from here is to beg for bailouts and just change your thesis entirely because the “market is up year-to-date.”
Since the March 26th YTD high for the Russell2000 (+5.5% higher at 846) and the April 2nd YTD high for the SP500 (+1.2% higher at 1419) if nothing else, we’ve been consistent with both our research call (#GrowthSlowing) and our risk management process (#timestamps).
Looking back at the tapes, since February 15th this will be the 9th time we have made a risk management call on the SP500 itself without violating Rule #1 (don’t lose money). We’ve shorted it 8 times and bought it once (bought SPY on May 17th when plenty a March Perma-Bull was in the fetal position).
I’m not trying to evangelize or puff out my chest here. We haven’t killed it with all these calls. They haven’t been the worst timed calls to land in your inbox either. They aren’t meant to be anything other than immediate-term risk signals (which go both ways).
I’m just reminding you that there are some firms in this industry that have at least attempted to evolve the research and risk management process while many haven’t changed a darn thing.
Maybe this time we’ll be wrong. Maybe we’ll be right. The only thing I can tell you is that there will be no maybe when the position is closed.
Timing Matters. In some parts of this country, so does winning and losing – and being held accountable to both.
My immediate-term risk ranges (support and resistance) for Gold, Oil (Brent), US Dollar, EUR/USD, and the SP500 are now $1603-1624, $108.96-114.11, $81.95-83.01, $1.20-1.23, and 1388-1405, respectively.
Best of luck out there today and have a great weekend,
Keith R. McCullough
Chief Executive Officer
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The Macau Metro Monitor, August 24, 2012
SALARY GROWTH IN GAMING BEATS INFLATION Macau Business
In June, average earnings of full-time employees in the gaming industry stood at MOP17,740 (US$2,218), up by 7.8% YoY--increasing faster than CPI (6.44%). At the end of the first half of 2012, the gaming sector had 52,800 workers, up by 11.6%. The figure doesn’t include junket promoters and junket associates. Overall, there were over 1,800 job vacancies in the gaming industry.
Takeaway: The ability of restaurant companies to manage earnings has boosted stock prices but cannot continue in perpetuity.
Now that earnings season is over, we decided to examine the trend in top- and bottom-line results versus expectations over the last couple of years. Conclusive takeaways are difficult to make in this case, but it certainly seems that restaurant companies have succeeded in managing EPS results over the the majority of the past eight quarters of reported earnings.
The restaurant stocks we have included in this note have produced earnings results that have, in general, exceeded consensus EPS expectations by a greater margin than sales expectations over the last eight quarters. From a price reaction perspective, it seems that sales beats/misses have possibly been more important to investors. We would add that we are not comfortable making that assertion definitively given the arbitrary duration – three days - of the price reactions we have aggregated and the broader market and industry moves that can obscure investors’ reaction to earnings results. That aside, we do think that the charts below make for interesting viewing.
The stocks included are as follows:
Casual Dining: RUTH, TXRH, DRI, BJRI, CAKE, DIN, BWLD, RT, EAT, CBRL
Quick Service: MCD, SBUX, WEN, GMCR, CMG, SONC, PEET, DPZ, PZZA, YUM, PNRA
EPS Surprises Far-Outstripping Sales Surprises in Recent Quarters
Companies within the restaurant industry seem to have succeeded in managing the bottom line over the last eight quarters. As the charts below illustrate, casual dining, in particular, has been able to pull levers either within operating costs or other expenses, in order to exceed EPS expectations more consistently than top-line expectations.
QSR Earnings Callouts
CMG: Chipotle Mexican Grill reported 2Q earnings that were in line from a sales perspective and 13% above EPS expectations. Nevertheless, due to comparable sales growth in 2Q lagging expectations, the stock traded off -21.5% over the three days following the announcement.
GMCR: Green Mountain Coffee Roasters reported EPS of $0.52 versus $0.49 consensus for 3QFY12 but missed the top-line number and struck a cautious tone on future sales trends. The stock sold off on the news but recovered and traded sharply higher, we believe on short covering, based on comments from management on a new demand forecasting model. We still believe that the bull case for Green Mountain’s stock is fanciful at best and will be publishing detailed work on the difficult pricing environment the company could face as its patents expire and competition intensifies in the single-serve category.
Casual Dining Earnings Callouts
BWLD: Buffalo Wild Wings missed the Street’s 2Q top- and bottom-line expectations and traded off almost 6% over the following three days. The bottom line miss was more meaningful, in terms of magnitude, than the top line as commodity costs continued (and continue) to pressure the P&L.
TXRH: Texas Roadhouse reported a strong EPS beat of 18% ($0.28 versus $0.24) but top-line results were only in line and beef inflation commentary also likely weighed on investor sentiment. We believe that this stock is one to stay away from on the long side given the commodity outlook and slowing industry sales. Additionally, the company’s Return on Incremental Invested Capital is decelerating.
QSR Beat/Miss Trends
Casual Dining Beat/Miss Trends
Takeaway: $BA - The Australian market for commercial aircraft is small and Qantas' cancellation has more to do with its own operating challenges.
Boeing: Hard Sell-off on Cancellation
Long-term TAIL support of 69.91 holds; immediate-term TRADE upside to 73.11
Boeing sold off today following a cancellation by Qantas. We note that Qantas has its own operational issues, in addition to needing a “u”. The Australian market for commercial aircraft is about 1/10th the size of the US’s, which is only ~15% itself. Today’s decline highlights the risk of being in consensus long names. While it may not mean we will be wrong longer-term, it may increase downside volatility.
- Cycle: Boeing is in the midst of a long up cycle in commercial Aerospace, with 7 years trailing revenue in backlog. The company also has a major product cycle in the 787.
- Industry Structure: Boeing has a largely unassailable competitive position in a highly consolidated industry.
- Valuation: The valuation of Boeing is attractive at these levels on a sector relative basis, in our view, both in a DCF and on screening metrics like relative EV/S (0.5 standard deviations below the trailing 8-year mean).
- Sector Relative: With growth slowing and estimates in the industrial sector under pressure, we believe BA remains an attractive destination for investors.
- Sentiment: Unfortunately, consensus seems to agree with us. We note that consensus can be right.
- Global aircraft fleet aging has set-up robust backlogs for commercial aircraft makers
- Strong deliveries in the late 1980s/early 1990s were partly driven by deregulation (US, UK, Japan in the 70s and 80s and, in the early 90s, Europe), which drove demand growth
- Late 1980s/early 1990s deliveries are now retired or approaching retirement (20 to 25 year sum)
- Boeing and Airbus have very high backlogs as deliveries have trailed orders for much of the last decade
Fleet aging is particularly noticeable in the US. Though only about 15% of commercial aircraft orders, the US aircraft fleet will need to be replenished over time.
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