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Walking Away

“In many cases, they simply walked away.”

-Hampton Sides


That’s a quote about the Anasazi people of Chaco Canyon in Chapter 31 of Blood and Thunder. By 1150 AD, “just as quickly as they had burst upon the scene, the Chacoan culture ebbed… the Anasazi had overfarmed, overhunted, and overlogged.


After a 200 year ( AD) “cultural boom that has no parallel in North American pre-history… archeologists have come to call this the Chaco Phenomenon… this environmental upheaval led, predictably enough, to a social upheaval.” (pages 266-267)


Whether some study history doesn’t matter. Markets do. They rise and fall. For centuries,  ideologies, regimes, and civilizations have lived and died by the sword of evolution. Just when you don’t think it could never happen to yours, it starts happening.


Back to the Global Macro Grind


How long can Keynesian governments over-spend, over-consume, and over-promise on bailout resources that they do not have?


I don’t know. And neither did Jim Rickards on our Currency Wars conference call yesterday. What we both agreed on, however, is that within the framework of considering global markets as a complex system, we’re getting real close to the tipping point.


Rickards explained it using “critical threshold” math. I always discuss it internally within the Chaos Theory of emergent properties triggering phase transitions. For those of you who are Keynesians or Monetarists, we’re talking a different risk management language here. Alongside physics, applied math, etc., we’ve chosen to think outside the Western academic box. We’ve evolved.


To simplify the complex, a “phase transition” is the transformation of a dynamic system (global markets, across asset classes) from one state to another. Pundits don’t get why they call it this, but they call it something like “risk on, risk off.”


Unfortunately, phase transitions don’t happen like the Karate Kid learning how to wax. There is no centrally timed “on, off.” There is no “smoothing mechanism” or certainty in analyzing when emergent properties (risk spreads) move into a phase transition.


In thermodynamics, you can understand what a phase transition is by reading an 8th grade Chinese textbook (they have them in English too). “For example, a liquid may become gas upon heating to the boiling point.” (Wikipedia)


What’s the market’s boiling point?


To answer that question, many people who have not evolved their process in this business would answer using the US stock market and maybe a 50-day moving average sprinkled with some storytelling dust.


*Risk Manager Note: the US stock market is not the dynamic and globally interconnected currency, commodity, bond, etc. market that our 27 multi-factor, multi-duration model is writing about every day.


Jim Rickards is very good because markets have humbled him enough over the years to answer the aforementioned question with “I don’t know.” That’s also a cornerstone of what we (Chaos and Complexity Theorists) do vs. what they (Keynesian Policy Makers) do.


We Embrace Uncertainty.


One suggestion I had to answering the most frequent question I get from clients (again, what’s the boiling point, or point when this entire centrally planned gong show of broken policy promises implodes) was measuring Spread Risk in key Global Macro relationships:

  1. The long-term spread between Money Supply (rising as they print money) and Velocity of Money (falling, fast)
  2. The long-term spread between the US Dollar and the CRB Commodities Index
  3. The long-term spread between the SP500 priced nominally versus priced in Gold (see Rickards’ Chart of The Day)

I’ve probably geeked out enough on the math this morning, but since Paul Ryan is going all-math on CNN’ers, I’m cool with it.  I’ll also leave you this morning with more questions than any of us have answers.


But that’s cool too - if that’s the story of your professional life, you really are constantly learning and evolving.


The Hedgeye Portfolio is beta adjusted net short for this morning’s US market open. We continue to think you sell stocks and commodities at VIX 14-15 and buy bonds there too.


Timing matters; especially when entire populations of investors are Walking Away from something that’s been abused and broken – the market’s trust.


My immediate-term risk ranges for Gold, Oil (Brent), US Dollar, EUR/USD, 10yr Treasury Yield, and the SP500 are now $1, $111.79-113.76, $81.11-81.97, $1.23-1.26, 1.58-1.71%, and 1, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Walking Away - Chart of the Day


Walking Away - Virtual Portfolio


TODAY’S S&P 500 SET-UP – August 30, 2012

As we look at today’s set up for the S&P 500, the range is 18 points or -0.67% downside to 1401 and 0.60% upside to 1419. 











    • Increase versus the prior day’s trading of 386
  • VOLUME: on 08/29 NYSE 509.30
    • Decrease versus prior day’s trading of -1.39%
  • VIX:  as of 08/29 was at 17.06
    • Increase versus most recent day’s trading of 3.46%
    • Year-to-date decrease of -27.09%
  • SPX PUT/CALL RATIO: as of 08/29 closed at 1.69
    • Up from the day prior at 1.49


  • TED SPREAD: as of this morning 32.55
  • 3-MONTH T-BILL YIELD: as of this morning 0.10%
  • 10-Year: as of this morning 1.64%
    • Decrease from prior day’s trading of 1.65%
  • YIELD CURVE: as of this morning 1.38
    • Unchanged from prior day’s trading

MACRO DATA POINTS (Bloomberg Estimates)

  • 8:30am: Personal Income, July, est. 0.3% (prior 0.5%)
  • 8:30am: Personal Spending, July, est. 0.5% (prior 0.0%)
  • 8:30am: PCE Deflator M/m, July, est. 0.1% (prior 0.1%)
  • 8:30am: PCE Core M/m, July, est. 0.1% (prior 0.2%)
  • 8:30am: Initial Jobless Claims, Aug. 24, est. 370k (prior 372k)
  • 9:45am: Bloomberg Consumer Comfort, Aug. 26 (prior -47.4)
  • 10am: Freddie Mac mortgage rates
  • 10:30am: EIA natural-gas change
  • 11am: Kansas City Fed Manufacturing Activity, Aug. est. 3 (prior 5)
  • 11am: Fed to purchase $1.5b-$2b notes 2/15/2036-8/15/2042
  • 1pm: U.S. to sell $29b 7-yr. notes
  • TBA: ICSC Chain Store Sales Y/y, Aug. (prior 1.9%)


    • Romney accepts Republican nomination as candidate for presidency
    • House, Senate not in session
    • FERC meets on coordination between natural gas, electricity markets in Mid-Atlantic Region, 9am
    • SEC holds closed meeting on enforcement matters, 2pm
    • California holds trial auction of carbon allowances, 1pm


  • Isaac’s threat to offshore energy production eases
  • China’s Wen says Spain, Italy and Greece must step up overhaul
  • Barclays names Antony Jenkins as CEO to replace Diamond
  • Euro-area economic confidence falls more than forecast
  • CIBC 3Q earnings beat est.; boosts dividend to C$0.94
  • Caterpillar says China growth may recover on stimulus
  • Japan Air seeks $8.4b in biggest IPO since Facebook
  • WPP cuts sales growth forecast as clients reduce spending
  • German unemployment rises for 5th month in August
  • Nokia Siemens said to be close to selling business-support unit
  • Mando may buy former affiliate Halla Climate from Visteon
  • Pandora jumps in extending trading after break-even 2Q earns
  • Samsung unveils pen-equipped Galaxy phone to keep lead on Apple
  • Comcast said near U.S. approval to encrypt cable signals
  • Hewlett-Packard plans first Windows 8 touch-screen laptops
  • August same-store sales may gain 1.8% on back-to-school


    • Royal Bank of Canada (RY CN) 6am, C$1.18
    • China Sunergy (CSUN) 6am, $(1.41)
    • Toronto-Dominion (TD CN) 6:30am, C$1.83
    • Ciena (CIEN US) 7am, $(0.02)
    • Esterline Technologies (ESL) 4pm, $1.11
    • Cascade (CASC) 4pm, $1.29
    • Zumiez (ZUMZ) 4pm, $0.13
    • SAIC (SAI) 4:02pm, $0.33
    • National Bank of Canada (NA CN) 4:15pm, C$1.90
    • Omnivision (OVTI) 4:18pm, $0.24
    • Splunk (SPLK) 4:35pm, $(0.03)


  • Dust Bowl Kansas Farmers Set to Plant Winter Wheat: Commodities
  • Africa Gas Rush Imperils $100 Billion in Australian LNG: Energy
  • U.S. Gasoline a Bargain as Motorists Pay 63% Less Than Norway
  • Oil Declines for a Second Day as Stockpiles Rise, Storm Weakens
  • Copper Rises on Reduced Concern About Euro-Region Debt Crisis
  • Wheat Drops as Rally May Prompt Farmer Sales; Soybeans Decline
  • Gold Set to Advance on Speculation Bernanke to Hint at Stimulus
  • Cocoa Rises as West Africa May Have Little to Sell; Coffee Falls
  • Weakening Tropical Storm Isaac Eases U.S. Gulf Energy Risk
  • France’s Wine Production Will Be ‘Extraordinarily Low’ in 2012
  • China’s Iron Ore Output Dropped 10% in August as Prices Slid
  • India Set to Get Above-Average Monsoon Rains in Next Two Weeks
  • Record Gas Trade Shows Italy Craves Hub by 2015: Energy Markets
  • China Copper Demand Seen Growing at Slowest Pace in 15 Years
  • Grain-Barge Logjam From Isaac Rains Compounding Drought Slowdown
  • Wheat Imports by Thailand May Double as Local Rice Prices Surge
  • Copper Set to Decline on Ichimoku Cloud Top: Technical Analysis





USD – manic media back-pedaling, hard, on the Bernanke bailout drugs tomorrow; Washington Post article may have stole little Hilsenrath’s thunder, suggesting what Gold prices have all wk, no drugs for u. With the USD/Gold immediate-term TRADE inverse correlation -0.91 right now, this matters, big time. Paul Ryan is USD bullish, on the margin.






RUSSIA – big economy, big beta – watching this one closely as the USD makes higher-lows and Oil/Gold lower-highs; Russian Stocks (RTSI) have led European losers this wk and now the RTSI just moved back into crash mode (-20% from YTD top); beta is not alpha.






JAPAN – another lower-high for Japanese stocks on another fundamental growth miss (Japanese Retail Sales -0.8% y/y now that subsidies burned off); Nikkei is down -12.4% since #GrowthSlowing began, globally, in March; ugly session in Asian Equities taking them to flat for AUG.










The Hedgeye Macro Team

Our Expert Call With Jim Rickards

Today we held an expert call for our Hedgeye Risk Manager and Macro vertical subscribers with CEO Keith McCullough and currency expert, lawyer and investment banker Jim Rickards. We live tweeted the call so that everyone could get insight into what Rickards’ thoughts are on the global currency wars, the US dollar, reverting back to the gold standard and monetary policy in the US and Europe.


Below are some of the highlights we think best represent the call and the ideas behind it. You can check the @Hedgeye Twitter account for a full play by play.


-John Taylor, Bob Barbera would make excellent replacements for Federal Reserve Board of Governors.


-In a crisis, there's not a central bank that wants gold. If you get CHAOS, countries may have to go to gold standard.


-Regarding the Eurozone crisis: you don't need to diffuse debt of Italy, etc. you just need to take care of enough to reinstate confidence in the markets.


-China is dying to diversify away from dollars and is looking at Euros. Once Europe has act together, China will invest heavily.


-50-year-old Greeks will throw Molotov cocktails rather than take pay cuts. 25-year-old Greeks will take entry level jobs with pleasure as they just want to work and have a different set of future incentives laid out for them.


-The Euro is getting stronger and stronger. Those thinking of par? No country is leaving the Eurozone; new members will be added.


-If GDP growth expectations are at 2% but we really want 4%, delivering something like 3% looks really good psychologically. So when the Fed says it expects 2% GDP growth, it really wants something more like 4% in order to manage expectations.


-Net exports are the key to getting out of this mess. Double exports in 5 years, we have a 1-1.5% increase in GDP which is decent.

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Takeaway: Despite the ugly quarter, IGT gains share

Now that Aristocrat has reported its 1H2012 results, we can tally up results for ship share in 1H2012.  Below are our observations:

  • IGT gains the most share in 1H2012, garnering 33% share of the market, up 350bps YoY
    • An abnormally large number of used units and shipments to Canada drove part of the gain.  In 2Q12, IGT shipped 1,700 used units to N.A. compared to a normal run rate of 500 used units.  If we strip out the used units, then IGT’s share would have increased over 2% YoY to 30% in 2H12.
  • WMS was the biggest share loser in 1H12, with ship share falling to 19% from 23% in 1H11
  • Konami wasn’t far behind WMS, losing 300bps of market share YoY.  Konami ended 1H12 with ship share of 12%.
  • BYI gained less than 1% of market share, ending 1H12 with 16% share.  Despite having better product, their share could have been impacted by maintaining higher pricing and less discounting than their competitors.
  • ALL’s share fell over 100bps to 10% in 1H12.   
    • The company’s share loss would have been greater if not for the estimated 370 refurbished units sold in 1H12.  If we strip out the refurnished units and IGT’s used units, ALL’s share should have fallen slightly less than 2% YoY.
  • MGAM, while very small, was the second largest share gainer in 1H12.  They gained almost 1% of share, moving up to 2%.
  • We suspect that Speilo’s share also saw a big spike in 2Q12 given their material participation in the Canadian replacement market.  This should hold true through 2013, given their large market share in Canada. 


CRUISERS: Navigating Choppy Waters

Takeaway: Cruisers have a rough road (or is it sea?) ahead of them as they continue to offer aggressive promotions and pricing $RCL $CCL

Pricing trends continue to worsen although not dramatically as cruise line operators lose steam. The two big players in the space, Royal Carribean Cruises (RCL) and Carnival (CCL) have provided tepid guidance and we believe that trends are slightly worse than what management has put forth. Our proprietary cruise survey data remains choppy for 2012 and 2013 (pardon the pun).


There’s some good news, however, in the form of continued strength in Europe and Asia/Australia. While not enough to offset the weak market in North America, pricing for Europe has improved for CCL since July and pricing in Asia/Australia remains robust for both RCL and CCL in the fiscal fourth quarter of 2012. Heading into 2013, summer pricing for the year suggests a small pick up for both operators.



CRUISERS: Navigating Choppy Waters - YTD cruisers



In terms of stock performance, RCL is clearly the winner, up 10.5% year-to-date compared with CCL, which is up only 7.8% YTD. Both companies have a tough road ahead of them as they continue to aggressively offer discounts and promotions for various areas, especially Mexico and South America.


Takeaway: Pricing trends a little worse

Our proprietary cruise pricing survey continues to provide choppy data for the rest of 2012 and early 2013.  Unfortunately, the incremental good news of European improvement and continued strength in Asia/Australia is more than offset by North America weakness.  Overall, we think trends are slightly worse than when CCL and RCL management gave guidance on their respective earnings releases and calls.


Our pricing model tracks price changes relative to that provided on the last earnings call i.e. RCL - July 20 and CCL - June 22.  Since CCL reported earnings a month earlier than RCL, we have confirmed that the conclusions described below also apply if the reference date is July 20.  


First, the good news.  FQ4 2012 is looking better for CCL relative to what we saw at the end of July.  CCL European pricing, while lower YoY, continues to improve since the end of July.  Costa pricing has somewhat stabilized.  Europe accounts for 35% of CCL’s total capacity in F4Q.  As for RCL Europe, improvement in Royal Caribbean and Azamara pricing offset discounting in the Celebrity itineraries in F4Q.  Pricing in Asia/Australia also remains robust for both RCL and CCL in FQ4 2012.


Now, some bad news.  RCL’s FQ4 Caribbean pricing seems to be losing steam, which may push yields closer to the flat line.  More importantly, 2013 is not off to a good start for both cruise lines.  Weaker Caribbean could pressure upcoming earnings if current trends hold.  CCL mentioned in its 2Q conference call that F1Q 2013 will be the toughest fiscal quarter comp in ’13 due to an exceptionally strong performance from North America 1Q 2012.  Our survey indicates CCL pricing is under further pressure in F1Q than just tough comparisons.  Also, keep an eye on Mexico & South America as there is some pretty steep discounting and aggressive promotions occurring in those regions. 


Summer 2013 pricing may pick up given easy European comps but expectations are not necessarily low.  For FY2013, the Street is anticipating 3.1% and 2.6% net yield growth (current dollars) for CCL and RCL, respectively. 


We mentioned in our June 4 note, CHART DU JOUR: CRUISE VALUATION SPREAD, that there was a pair trading opportunity by buying RCL and shorting CCL due to a valuation disparity and RCL's better positioning post-Costa Concordia.  Since early June, CCL's valuation premium has shrunk from 6x PE to 3x PE (where it was on the day of the Concordia incident).  While RCL has gained some market share in Europe, the company’s disappointing results show it is certainly not immune to the slowdown in European consumer demand.