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Little Light at End of European Tunnel

Here’s an overview of Eastern Europe exposure by apparel/footwear brand. Adi and Nike are most exposed. Not good that the athletic retail base in Western Europe is weakening on the margin.

More than a few people have asked me to rank exposure to Eastern Europe for apparel and footwear companies given the turmoil in its financial markets over the past week. The good news is that most US companies have no more than about 5% exposure in revenue and profits. The bad news is that this is not about direct exposure, but rather indirect exposure throughout the rest of Europe and the World if the situation there worsens.

As it relates to direct exposure, the two top companies on the list are Adidas and Nike at 9% and 6%, respectively. Also worth noting that the two key Western European sporting goods retailers are on the skids – with JJB Sports (22% of the UK market) on the verge of going away. Sports Direct (37% share) has been doing better, and is likely to benefit from JJB’s problems. That’s a challenge in itself given the often irrational pricing behavior of Sports Direct’s management team. This is not good…

Quote Of The Week: Tiger Woods

Tiger is making his comeback. On Friday, he was asked about expectations. Effectively, the media wants to know what he expects of himself in his first tour event post his rehab.

Question: Can you just talk about what your expectations are for the week, whether it's results oriented or play oriented?

Tiger Woods: Well, nothing changes from every time I enter, it's to win. So that's my intent, to go in there and win, and nothing has ever changed.

At the highest levels of competition, from sports to business, we’re looking for new leadership in this country. We want leaders who are transparent, accountable, and trustworthy. We want leaders whose handshake means more than the money they have made. We want winners who can win without using performance enhancing drugs or excessive leverage.

No excuses. No pretense. Tiger is a winner, and that’s what he wakes up expecting to do, every day of his life.

To all of those in positions of leadership in this country, from the US government to corporate America – this is the kind of leadership we can believe in.

Keith R. McCullough
CEO / Chief Investment Officer

Converse: Multi-Generational Relevance

You gotta take notice when facebook has more registered fans for Converse than it does for Starbucks, The Yankees, Disney, and God – combined! Brand relevancy remains big here.

There’s a story in today’s NY Post that highlights how Converse is leveraging its heritage to sell co-branded product with rock bands like The Who and Pink Floyd. Makes sense to me, as part of the aging hipster crowd, but let’s look at a much bigger snapshot of the Brand’s relevance to today’s core consumer. What better place to start than Facebook? Consider that on FB’s ‘favorite products’ board, Converse represents 4 of the top 40 groups, representing over 5 million members. Even if I assume that half these are dupes (consumers belonging to more than one group) it would rank Converse above the following brands and personalities…

1) Facebook and YouTube (2.2mm and 2.1mm fans, respectively)
2) Adidas and Nike (1.2mm fans each)
3) Twilight (1.9mm)
4) McDonald’s (1.3mm)
5) Starbucks (1.1mm)
6) Stewie Griffin (1.8mm)
7) Dr. House (2.5mm)
8) Christiano Ronaldo (2.4mm)
9) The NY Yankees (only 200k, and the 12th most popular sports team – but #1 in the US).
10) Rihanna (1.9mm – the most popular musician)
11) Disney (540k)
12) The Planet Earth (220k)
13) God (2.5k)

The only other Consumer brand to rank above Converse is Coke – which has just shy of 3mm registered fans.

Almost makes you wish that Converse was more than its current (estimated) 7-8% of Nike, Inc revenue. Current Brand strength at Converse can't offset the rollover in profit growth in the global core near-term. Nonetheless, it shows how Nike has done an exceptional job in keeping the Brand relevant under its ownership, and why it's likely to emerge from this environment a net share gainer across most businesses.

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Chart of the Week: Safety Trade Peaking?

The global macro facts in the rear view mirror are what they are at this point – crystal clear. We are thankful to have carried both a long position in gold (up until recently - we shorted gold this week), and a 46-86% position in US Dollars over the course of the year in our Asset Allocation Model. As prices and expectations change, we do – and we think this Safety Trade is finally peaking.

For 2009 YTD, gold is up over +13% and the SP500 is down -14.8%. Alongside US centric equity portfolio deflation we have a continuation of the nasty year over year deflation in both US real estate prices and the overall Commodities Index (CRB Index is down -12% for the YTD). In the face of pervasively bearish deflation and US Financial media sentiment, the US Dollar has “re-flated” +7% for the YTD.

Calling the next big asset class move from here is going to be a critical differentiator for this year’s performance. The world is now being soaked with government issued liquidity and, as a result, we are finally starting to see risk spreads narrow and premiums on corporate bond yields dampen. Looking at this chart below, you can see that there has been a 150 basis point drop in those freak-out bond yields you saw during the October/November. Despite this, gold is raging to higher highs?

Either gold is signaling that bond yields and risk spreads are going to blow out to those October/November highs, or the whole wide world of underperforming wealth managers who are now fire engine chasing this relative performance trade in cash/gold are teeing themselves up to get tagged.

We have seen this movie before – remember that black stuff called oil that kept chugging higher despite the fundamentals of oil supplies rising in the face of slowing demand? The only demand that remained (at the top) was that of the incremental asset allocator getting sucked into the vortex of the “its different this time” peak…

There has always been a baseline of demand for gold – we know this. We have been bullish on gold since 2005, and we still can be if we see a lower price. However, right here and now is where we get paid to manage risk - with the TED Spread trading 96 basis points wide (vs. Oct/Nov 400-500 bps), and both corporate bond yields and spreads narrowing sequentially vs. Q4 of 2008, the question is – is the speculation of the momentum trading community signaling a peak in the Safety Trade?

Everything has a time and a price. We think that the answer to that question, for the immediate term “Trade”, is yes.

Keith R. McCullough
CEO / Chief Investment Officer

US Market Performance: Week Ended 2/20/09...

Index Performance:

Week Ended 2/20/09:
DJ (6.2%), SP500 (6.9%), Nasdaq (6.1%), Russell2000 (8.3%)

FEB09’ To-Date:
DJ (7.9%), SP500 (6.8%), Nasdaq (2.4%), Russell2000 (7.3%)

2009 Year To-Date:
DJ (16.1%), SP500 (14.8%), Nasdaq (8.6%), Russell2000 (17.7%)

Keith R. McCullough
CEO / Chief Investment Officer

Time To Drop The Gloves

"How much can you know about yourself if you've never been in a fight?"
 -Brad Pitt, Fight Club
One of our rising young analysts here at Research Edge who is also a martial artist, Christian Drake, reminded me of an important lesson that I had to learn the hard way in life. That lesson came while I was playing junior hockey 15 hours away from home at the age of 16 against men 3-4 years older than I in an ice cold barn - when he dropped the gloves, I had nowhere to hide. Now my front teeth are fake.
Losing a fight in the wake of a disciplined and repeatable process is largely forgivable. Pitiful performance stemming from fiduciary malfeasance and laziness is not. The last year has certainly been a financial fight. What have you learned about yourself?  Perhaps more importantly, what have you done about it? Initiative and innovation are born of self-reflection... self-awareness... accountability...
At this stage of the fight, I am hardly going to hide from the fact that I am just starting to "make the call" to be Long America. One down day in the market doesn't a loser make. Those seats are reserved for those who were bullish 50% higher in the SP500 from yesterday's close.
Fifty percent - yes, for you history fans out there, you know that's a huge number! And yes, markets are both leading indicators and discounting mechanisms of everything that you see the manic media flashing you today. The US market has been signaling the malfeasance of Madoff to the Texan who was knighted in Antigua for almost 16 months now. And Guess what? There are plenty more cockroaches where those ones came from. The good news is that, finally, we're going to smoke them out of their holes. Boys, it's time to drop the gloves.
As of yesterday's close, the SP500 is down -13.8% for 2009 to-date. That's also a big number! So don't wake up to this note feeling like now is the time to get bearish. I hope we have been proactively preparing you for this for well over 12 months now. Success in the arena of life is most obviously won when proactive preparation meets obvious opportunity.
I won't hammer on the 6 reasons that I issued in yesterday's missive as to why this morning is different than those mornings in and around November 20th. Overnight, the herd's emotions may have changed, but those 6 macro factors haven't.
Some "economists" and spectators of this full contact sport still think that markets move on "rational expectations" - I don't. I'm more of a meat and potatoes Darwin kind of a guy. When a 230lb Albertan defensemen loses a few screws out there on the ice, you take one look into his eyes and realize what the real world practitioner better figure out about the definition of "rational."
Darwin's theories support what I think the horse and buggy whip US Financials, and anyone who needs leverage to run their business are going through right now - "the struggle for existence." At the end of the day, seeing the XLF (S&P Financials ETF) down another -5% yesterday, and down -40% for 2009 to-date, is a clean cut reminder that the New Reality is here. This isn't new this morning folks - this is an ole school brawl and the rules of mark to market are reigning supreme on these stock prices and their shareholders alike. Being willfully blind doesn't work when you are in a fight.
If you want to straight line this newfound consensus that companies and their market caps can lose their teeth across the entire globe of trade, you can go and do that... but at these prices in the US market I dare say making short sales on that being a unique investment idea is borderline reckless. Some people call this "meme theory" (humans innately want to mimic the behavior of the crowd), and others call this the "herd mentality", which is pretty much aligned with the same inspiration that people in this business generally have to cling to consensus rather than drop the gloves and fight the crowd when the timing is right.
On yesterday's gap up open for the US stock market I made some sales. You can call that "over-trading" - I call it fighting for survival. There is a very relevant mathematical difference between yesterday's intraday test of 800 in the SP500 versus it's smack down 778 close. If you have a proactive process that allows you to play both defense and offense in this market, use it.
From here, I see 2% downside in the SP500 and +6% up. That's BUY/COVER the 761 line and SELL/SHORT the 823 line. As one of my old junior coaches used to tell me "Backcheck, Forecheck - Paycheck." The next bull market does not cometh  - this is a market that needs to be traded.
In terms of Asset Allocation, some of those profitable sales resulted in taking my position in Cash back up to 64%. I sold out of our long position in China for a gain, and that leaves our exposure to International Equities at 6% (all in Brazil). I have an 18% position in US Equities, and I will double that exposure, at a price. Why? Well, primarily because I can. Not using leverage has it's perks. So does having  the liquidity associated with a large cash position and owning my own duration.
Who owns your duration? I hope it's not some fly by night Swissy Fund of Fund... or God forbid an investment banking CEO who is about to be shot out back behind that barn of the horse and buggy whip...
After a fifty percent throttling by that big burly defensemen called Mr. Market, what have you learned about yourself? Perhaps more importantly, what have you done about it?
Darwin said you better evolve, or you will go away. It's time to drop the gloves - I'm not letting my small part of this country turn into Japan. You can bet your Madoff on that.
Have a great weekend.

Time To Drop The Gloves - 296

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