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COH: Anatomy Of A Short

Hedgeye Retail Sector Head Brian McGough has delivered a 9-point breakdown of fundamentals and durations of Coach (COH). We think Coach as a brand is just fine, but we are keen to short the stock in the immediate-term TRADE and intermediate-term TREND durations. With 8 out of 9 negatives, this image speaks for itself.

 

COH: Anatomy Of A Short  - coachCHART


THE HIDDEN TAXES OF SOVEREIGN DEBT

Takeaway: Every dollar of sovereign debt is a dollar of [future] tax. Who's going to foot the bill?

SUMMARY BULLETS

 

  • In the note below, we review a recent analysis put forth by the bi-partisan American Enterprise Institute titled: “A Simple Measure of the Distributional Burden of Debt Accumulation” which was co-authored by Aspen Gorry of UC Santa Cruz and Matthew Jensen of AEI.
  • One of their primary conclusions was that sovereign debt expansion implies incremental taxes and, like tax policy, these costs of servicing incremental federal debt is incredibly progressive.
  • A key takeaway we had was that, because of this highly progressive nature of debt service, the rich will bear the lion’s share of the burden in a revenue boosting scenario and the poor (i.e. households who receive a disproportionate amount of gov’t benefits) will bear the lion’s share of the burden in an expenditure reduction scenario. Moreover, if the GOP has its way, the poor will pick up the tab via regressive spending cuts; if the Democrats have their way, the rich will pay via progressive tax hikes.
  • Lastly, to the extent this continues to edge higher, the marginal propensity for politicians to pursue tax hikes (via voter preference) should also increase.

 

Those who’ve grown familiar with our team’s work over the last few years know that we aren’t afraid to evolve, often borrowing new ideas from risk managers, authors and academics alike. Moreover, we like to use those ideas to help develop the structural views and biases we manage immediate-to-intermediate-term risk within.

 

In this vein, one of the more prominent conclusions we’ve weaved into our own research process is the idea that there is a critical threshold (~90% of GDP) where the stock of sovereign debt in an economy structurally impairs economic growth. This thesis was originally demonstrated through the empirical analysis of Carmen Reinhart and Kenneth Rogoff as has since been expanded upon and cited by other scholars in the field. Their work is one of the primary reasons we continue to hold the view that economic growth is likely to remain structurally depressed across a number of developed economies for the foreseeable future.

 

THE HIDDEN TAXES OF SOVEREIGN DEBT - 9

 

Why sovereign debt slows economic growth at that critical threshold is still up for debate. From our vantage point, sovereign debt loads that great imply to a certain extent that the government is crowding out private investment, on the margin, due to its deficit financing needs. Another hypothesis we’ve posited is that the threat of future tax hikes and spending cuts loom large in the psyches of consumers and businesses alike, causing them to slow their rate of consumption and investment growth – two occurrences that perpetuate incremental sovereign budget deficits! A third, more simple hypothesis is that it likely takes economies some time to grow the stock of sovereign debt to 90%-plus of GDP and that is may just well be that an older, less productive society is left behind to foot the bill.

 

There’s likely a handful of other explanations to the aforementioned question; in the prose below, however, we focus specifically on the second hypothesis from above – particularly with regards to the costs of servicing sovereign debt imposed upon US consumers.

 

A few days back, the bi-partisan American Enterprise Institute published a paper titled: “A Simple Measure of the Distributional Burden of Debt Accumulation” which was co-authored by Aspen Gorry of UC Santa Cruz and Matthew Jensen of AEI. From a critique standpoint, we like that there are no major assumptions in their analysis and that it is overwhelmingly fact-based, sourcing the [presumed] bi-partisan CBO and Tax Policy Center for the bulk of their forward-looking data (though we are all aware of the fact that the CBO’s forecasts of “long run” real interest rates and GDP growth tend to be a bit aggressive). The article mostly walks through their methodologies – which we find generally sound – allowing the reader to focus extensively on the detailed tables of data analysis presented throughout the paper. They even do a good job of remaining bi-partisan, as advertised. All told, the paper is definitely a good read and the analysis is quite thought-provoking; we send our thanks to the client who initially passed it along.

 

The primary conclusions from the article is that incremental sovereign debt implies incremental taxes and, like tax policy, these costs of servicing incremental federal debt is incredibly progressive. Moreover, when operating under the key assumption that the revenue source for all federal expenditures (including sovereign debt service) is the government’s power to “tax” the public via outright tax hikes or lower future expenditures relative to previously-established policy, we should arrive at the conclusion that any budget outlook with persistent deficits implies equally persistent tax hikes.

 

One key takeaway that we had is that, because of this highly progressive nature of debt service, the rich will bear the lion’s share of the burden in a revenue boosting scenario and the poor (i.e. households who receive a disproportionate amount of gov’t benefits) will bear the lion’s share of the burden in an expenditure reduction scenario. Now we know why President Obama was so keen to focus on Governor Romney’s alleged “$5 trillion tax cut” during Wednesday night’s debate.

 

Lastly, the paper sheds light on exactly why both the existing stock of debt and the rate of future debt accumulation are so critical when discussing changes to fiscal policy: it’s not just about having an ideological debate about spending, taxes and the size of the government, but rather about the most important discussion of them all – who’s footing the bill? If the GOP has its way, the poor will pick up the tab via regressive spending cuts (assuming they are in conjunction with tax cuts); if the Democrats have their way, the rich will eventually pay via progressive tax hikes (though lower-income earners could still wind up “paying” via incrementally faster inflation and incrementally slower economic/employment growth).

 

Given that there’s 15.3x the number of US households at or below the median income than those making $200k-plus (91 million vs. 5.9 million), it’s not difficult to anticipate a future where tax hikes are increasingly favored over spending cuts – especially considering that politicians in a democratic government are generally incentivized to pursue populist means. It’s worth noting that the US’s Gini Index (a standard measure of income inequality) rose for the first time since 1993 last year (at .477 currently). To the extent this continues to edge higher, the marginal propensity for politicians to pursue tax hikes (via voter preference) should also increase.

 

A collection of the key tables is below; we encourage you to check out the appendix of the paper as well  - some great data. We especially enjoyed the tables highlighting the annual projected debt service costs levered upon US households as a result of the Bush and Obama presidencies.

 

Darius Dale

Senior Analyst

 

THE HIDDEN TAXES OF SOVEREIGN DEBT - 1

 

THE HIDDEN TAXES OF SOVEREIGN DEBT - 2

 

THE HIDDEN TAXES OF SOVEREIGN DEBT - 3

 

THE HIDDEN TAXES OF SOVEREIGN DEBT - 4


Obama Rally: SP500 Levels, Refreshed

Takeaway: The economy is not the stock market. Sometime in October though, I think they will collide.

POSITIONS: Shorting Basic Materials (XLB) and Russell (IWM)

 

Signals are signals. So is political noise. If you don’t think there was any irony in the US employment rate dropping to the precise rate when Obama took office (7.8%), I’ll take the other side of that trade.

 

I’ll also take the other side of the bullish call I made around this time yesterday. Romney Rally becomes Obama Rally (look at Intrade) – and we know what that means for our hard earned currency (US Dollar Debauchery) and commodity inflation.

 

The economy is not the stock market. Sometime in October though, I think they will collide.

 

Across risk management durations, here are the lines that matter to me most:

 

  1. Immediate-term TRADE overbought = 1468
  2. Immediate-term TRADE support = 1448
  3. Intermediate-term TREND support = 1419

 

In other words, overbought is as overbought does, so I hit the button. It’s not political. Neither is my process. The title of this note just is.

 

Get ready for #EarningsSlowing season next week and enjoy the weekend,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Obama Rally: SP500 Levels, Refreshed - SPX


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BYI: We Have A Winner

Our Gaming, Leisure and Lodging team recently spent some time in Las Vegas speaking with executives at various gaming companies and one name that impressed us is Bally Technologies (BYI). Keith bought the name in our Real-Time Alerts yesterday.

 

Bally has a nice product cycle ahead of it and the announcements they made at the G2E show this week were positives in our view. Their customers are providing incontrovertible feedback. Historically, BYI is a reel spinning slot supplier and now they’re making the move to video. Approximately 80% of units shipped  in North America are video and unbeknownst to most investors, BYI’s recent video slot shipments have also been around 80% of its total.  So their video content is already driving higher share recently, and this will likely increase their high teens overall share.

 

 

BYI: We Have A Winner  - BYI2 normal

 

 

Things are going well for Bally’s stock right now and we’re in-line with the September quarter. Looking out at 2013, however, we believe estimates may be too low. Shipments to Illinois and Canada could help exceed expectations and push earnings higher.


Lowering Expectations

LOWERING EXPECTATIONS

 

 

CLIENT TALKING POINTS

 

LOWERING EXPECTATIONS

Big companies like FedEx (FDX) and Caterpillar (CAT) have already provided caution to the earnings slowdown that is occurring and it’s spreading throughout the market quickly as third-quarter earnings reports come in day after day. Just look at Zynga (ZNGA) which was down -19% pre-market. Looks like people are starting to realize that people would rather put gas in their car then buy virtual goods in Farmville. Wait and see. As we head into next week, you’re going to see weak guidance across the board, regardless of what Romney and Obama have up their sleeves.

 

 

STRONG AIN’T WRONG

There’s nothing wrong with a strong currency and the United States should focus on restoring confidence in the greenback. Strengthening the dollar helps strengthen America; your neighbor isn’t going to complain about commodity prices going lower, that’s for sure. The dollar and cereal boxes have a lot in common these days - they’re shrinking. Let’s see where next week takes us and remember: get the dollar right, you get a lot of other things right. 

 

_______________________________________________________

 

ASSET ALLOCATION

 

Cash:                UP

 

U.S. Equities:   Flat

 

Int'l Equities:   DOWN   

 

Commodities: Flat

 

Fixed Income:  Flat

 

Int'l Currencies: Flat  

 

 

_______________________________________________________

 

TOP LONG IDEAS

 

BRINKER INTL (EAT)

Remains our top long in casual dining as new sales layers (pizza) and strong-performing remodels (~5% comps) should maintain sales momentum. The company is continuing to enhance returns for shareholders through share buybacks . The stock trades at a discount to DIN (7.7x vs 9.3x EV/EBITDA) and in line with the group at 7.3x.

  • TRADE:  LONG
  • TREND:  LONG
  • TAIL:      LONG            

 

PACCAR (PCAR)

Emissions regulations in the US focusing on greenhouse gases should end the disruptive pre-buy cycle and allow PCAR to improve margins. Improved capacity utilization, truck fleet aging, and less volatile used truck prices all should support higher long-run profitability. In the near-term, Paccar may benefit from engine certification issues at Navistar, allowing it to gain market share. Longer-term, Paccar enjos a strong position in a structurally advantaged industry and an attractive valuation.

  • TRADE:  LONG
  • TREND:  LONG
  • TAIL:      LONG

 

UNDER ARMOUR (UA)

This company’s on track to post $3Bn in revenues by ’14 – impressive given a $1.5Bn print in 2011. Perhaps more impressive is the breadth of growth drivers that will get it there – women’s, accessories, new underwear platform etc. in addition to footwear. UA is gaining share in both apparel and footwear quarter-to-date. While some may be concerned over the loss of UA’s SVP/Sourcing we’re 8% ahead of the Street in the upcoming quarter and buyers on weakness.

  • TRADE:  LONG
  • TREND:  LONG
  • TAIL:      LONG

  

_______________________________________________________

 

THREE FOR THE ROAD

 

TWEET OF THE DAY

“If #obama can't stand up to #Romney and challenge him on facts. How do we expect him to stand up to Iran and other world leaders ? #debate” -@greenbergcap

 

 

QUOTE OF THE DAY

“I don't mind what Congress does, as long as they don't do it in the streets and frighten the horses.” -Victor Hugo

                       

 

STAT OF THE DAY

US September Non-Farm Payrolls rise slightly less than expected, up by 114,000 in September; Jobless Rate falls to 7.8%


THE HEDGEYE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP – October 5, 2012


As we look at today’s set up for the S&P 500, the range is 20 points or -1.05% downside to 1446 and 0.31% upside to 1466. 

                                            

SECTOR AND GLOBAL PERFORMANCE


THE HEDGEYE DAILY OUTLOOK - 1a

 

THE HEDGEYE DAILY OUTLOOK - 2

 

THE HEDGEYE DAILY OUTLOOK - 3

 

THE HEDGEYE DAILY OUTLOOK - 9

 

 

EQUITY SENTIMENT:


FLOWS – they’ve convinced me I can trade this tape w/ a bullish bias, but they haven’t convinced The People; Equity Fund Flows negative for the 3rd consecutive wk despite the US stock market at 4.5 yr highs (Lipper data had outflows of another -$2.4B wk-over-wk vs -$1.3B last); no trust = no volume.

  • ADVANCE/DECLINE LINE: on 10/04 NYSE 1384
    • Increase versus the prior day’s trading of -2
  • VOLUME: on 10/04 NYSE 674.72
    • Increase versus prior day’s trading of 1.32%
  • VIX:  as of 10/04 was at 14.55
    • Decrease versus most recent day’s trading of -5.70%
    • Year-to-date decrease of -37.82%
  • SPX PUT/CALL RATIO: as of 10/04 closed at 1.58
    • Down from the day prior at 1.93

CREDIT/ECONOMIC MARKET LOOK:

  • TED SPREAD: as of this morning 25.09
  • 3-MONTH T-BILL YIELD: as of this morning 0.10%
  • 10-Year: as of this morning 1.68%
    • Increase from prior day’s trading of 1.67%
  • YIELD CURVE: as of this morning 1.44
    • Up from prior day’s trading at 1.43

MACRO DATA POINTS (Bloomberg Estimates)

  • 8:30 am: Non-farm Payrolls change, Sept. est. 115k (prior 96k)
  • Change in Private Payrolls, Sept. est. 130k (prior 103k)
  • Change in Manufacturing Payrolls, Sept. est. 0k (prior -15k)
  • Unemployment Rate, Sept. est. 8.2% (prior 8.1%)
  • 10:00am: Fed’s Dudley at conference in New York
  • 11:00am: Fed’s Duke speaks in New York on neighborhood stabilization
  • 1pm: Baker Hughes rig count
  • 3:00pm: Consumer credit, Aug. est. $7.5b (prior -$3.276b)

GOVERNMENT:

    • Most provisions of FCC rule requiring cable companies to share programming with competitors lapse on this date
    • Obama campaigns in Fairfax, Va.; Cleveland
    • Romney campaigns in Abingdon, Va.; St. Petersburg, Fla.

WHAT TO WATCH:

  • Jobless rate probably climed as US employers limited hiring
  • Jobless data seen aiding Romney if rates soars from 8.1%
  • EU doubts on deficit cutting may hinder Spain’s path to bailout
  • BOJ refrains from more stimulus as political pressure mounts
  • Zynga cuts forecast for FY adj. Ebitda and bookings
  • OCBC, CIMB said to mull bids for GE’s Bank of Ayudhya stake
  • FDA advisory panel meets on use of Optical Coherence Tomography technology for treatment of glaucoma
  • Sprint said to take fresh look at MetroPCS after Feb. talks
  • Paulson hedge funds said to further cut 2012 losses in Sept.
  • Credit Suisse sued by US regulator over faulty MBS’s
  • California refiners ration gasoline as prices soar to record
  • UnitedHealth said in talks with Brazil’s Amil Participacoes
  • Hewlett-Packard’s long-term ratings may be cut by Moody’s
  • Palo Alto Networks said to be readying secondary stock offering
  • G-7, IMF Meeting, Nobel Prizes, Sandusky: Week Ahead Oct. 6-13

EARNINGS:

    • Constellation Brands (STZ), 7:31am, $0.54

COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)

 

OIL – bubbles trade like this as they are popping, violently; not a shocker to see Oil meltup alongside the Euro yesterday; neither should it surprise you that Oil is back down this morn alongside the same. Our immediate-term TRADE duration correlation b/t USD and WTIC = -0.78.

  • Gold Seen Advancing After Reaching 10-Month High on Stimulus
  • Gold Traders More Bullish as Holdings Reach Record: Commodities
  • Palm Oil Stockpiles in Malaysia Set for Record on Production
  • Copper Swings Between Gains and Declines Before U.S. Jobs Report
  • Rubber Drops to Pare Fifth Weekly Gain as BOJ Holds Off Stimulus
  • Robusta Coffee Falls to One-Week Low on Stockpiles; Cocoa Climbs
  • Iron-Ore Swaps Fall 0.2% in London Trading, Clarkson Data Show
  • Oil’s Best Second Half to Hand OPEC $1 Trillion: Energy Markets
  • Soybeans Fall 0.2% to $15.4775 a Bushel, Erasing Earlier Gains
  • Oil May Fall as U.S. Crude Production Increases, Survey Shows
  • Ivory Coast Cocoa Farmers to Put Pay Raise in Crop Production
  • Silver Set to Beat Gold on QE3 in 2011 Re-Run: Chart of the Day
  • Savers Push $374 Billion U.S. Utility Industry to Shift: Energy
  • Palm Oil Climbs as Plunge to Three-Year Low Spurs Import Demand

THE HEDGEYE DAILY OUTLOOK - 4

 

 

CURRENCIES


EURO – big up move yesterday so we re-shorted the EUR/USD just inside of our long-term TAIL risk line of $1.31; Greece +3.6% this morning after telling the world they lied again (so they need more bailout moneys); Spain’s bailout is Rumor Off, for now, as the IBEX remains bearish TRADE (7903 resistance).

 

THE HEDGEYE DAILY OUTLOOK - 5

 

 

EUROPEAN MARKETS


THE HEDGEYE DAILY OUTLOOK - 6

 


ASIAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 7

 

 

MIDDLE EAST


THE HEDGEYE DAILY OUTLOOK - 8

 

 

 

The Hedgeye Macro Team

 

 

 

 

 


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Hedgeye CEO Keith McCullough handpicks the “best of the best” long and short ideas delivered to him by our team of over 30 research analysts across myriad sectors.

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