Consumer Confidence: Bottoms Are Processes, Not Points...


U.S. consumer confidence rose slightly in March, but sentiment remained near an all-time low according to the Reuters/University of Michigan Surveys of Consumer Confidence. The final index of confidence rose to 57.3 in March from 56.3 in February. This was a touch above consensus expectation of a 56.6 reading.

Since Obama’s State of the Union Address late last month and with his daily addresses to the media, consumers now have a better picture of how he is handling the crisis. To a certain extent, this means that consumers can now weigh in on the state of the future economy with more knowledge and our belief is that most like what they hear. Despite the employment outlook continuing to look dim, consumers are not hiding in a hole. As evidenced by the Commerce Department report, consumer spending edged up 0.2% in February, consumers are finding more reasons to get out (and spend) and feel better about themselves—be it with a trip to a casual dining restaurant or a trip to the mall with the kids. All of this adds up to stability in the confidence indicators.

What is not included in this number is the fact that stocks are seeing their biggest monthly rally since 1974; the S&P is now up 23% from the March low. Taken together, the improved sentiment about the government's ability to fix the financial system, better-than-expected economic news, and surprise EPS announcements from early cycle companies are driving the market higher.

The implication is that the next move in confidence in April is higher not lower.

Howard Penney
Managing Director


"The object of this competition is not to be mean to the losers but to find a winner. The process makes you mean because you get frustrated."
-Simon Cowell

Finding winners in this globally interconnected market place of countries, currencies, and companies is all of a sudden a very easy thing to do. In the last month, we've successfully shifted our focus away from where the proverbial puck of negativity had been, proactively anticipating where it was headed next .

Like zipping a pass onto Yale Hockey sniper Sean Backman's tape tonight against Vermont, we want to be playing with a sense of urgency out there, aligning ourselves with the winners of this world who want that biscuit bad!

The "biscuit"? Yessir! That would be what we men/women of the ice call the puck - and if you want to be a winner in this world, you better be hungry for it. Gone are the levered long days of working for the compromised, conflicted, and constrained. Back are the days where the handshake and credibility that you establish with the boys on the back of the bus have always been.

Accountability and Trust trade at a premium again. Both of those business principles are the winners in this global arena - and no matter where you go, there they are.

While the manic media's #1 story on Bloomberg this morning has something to do with President Obama "seeking the support" of the bankers (all 12 or 25 of them are having a luncheon in NYC at noon - how pleasant), there's a much bigger story going on here in the real world. Countries, companies, and currencies who have aligned themselves with what The Client (China) NEEDS are winning again.

You see, the art of managing money from Wall Street to the Hong Kong has always been having money to manage. Somewhere along the line here a lot of people forgot that the money they were levering up was not their own. Finally, they're being punished for this lack of fiduciary responsibility the old fashioned way - redemptions and regulations are for them. That's what the losers deserve. Go to de penalty box, eh, and feel shame...

The Client always comes first, and if you've maintained that principle in your investment strategy in 2009, you are probably crushing it. The Client is China, and no she doesn't need any more of them US Bonds or Financials. The XLF (SP Financials Sector) is down -25% for the YTD, while the XLK (SP Technology Sector) is up +5%. Meanwhile, as global cost of capital begins to rise (from zero, yes - eventually it does go up), and the access to it continues to tighten, the bubble boy safety net of what was once the US Bond market stability no longer has a goalie.

Like Americans in the 19th century, the Chinese  of the 21st kind would like to have both a roof over their head and a stock market of their own. There is nothing in this world that is so impressively powerful as what Adam Smith called that Invisible Hand of self interest. If that sounds too capitalistic or too competitive for you, I guess that's too bad - ask one of these young Bulldogs playing in the Sweet Sixteen in Bridgeport, CT tonight what they think about that...

This isn't a political thing. This is a winners thing - we need to get the biscuits to the people in this world who can score. That's it - call me a knucklehead ideologue or whatever it is that most people rightly call us hockey players - we're cool with it.

After closing up another +2.3% last night at 832, the SP500 is up +13.2% for March to-date and UP +23% from the March 9th lows. March Madness that is! And you can bet your Madoff that a lot of preachers of the Great Depression are now those who are rightly depressed for being short this move - it's the biggest monthly win the SP500 has had since 1974!

Remember that silly ole community organizer from Chicago that all of the Wall Street "Wizards" laughed at for calling the US market a "bargain"? Well, you can accuse Barack Obama of being a lot of things, but one of them isn't that he is a loser. My scorecard reads Obama +19.5% in the SP500 since he saw some value - Oracle of Obama?

It's not just Obama making his first ever call on a market that's proven to be a winner. The Chinese locals saw the Shanghai Composite Index close at another new YTD high last night at +30.4%. The boys from down under have had a big run aligning themselves with The Client - the Australian stock market added another +0.82% last night taking their stock market back to flat for the YTD and +10% for March. Canada is also +11% for the month (+1% YTD), while Brazil has charged higher again taking 2009 YTD performance to +13.5%.

With the UCONN Huskies moving into the Elite Eight last night, there is March Madness in Connecticut from the hard floors to the ice. My "contacts" are telling me that the Russians are having a big party watching the whole thing (they love hockey) - the Russian Trading system is tacking on another +1% this morning, taking its March to-date performance to +39%! The only American winning performance that's been comparable to that Russian rip has been the marked-to-market price of West Texas Crude Oil... but that there Texas stuff aint local folks - its global... and oh baby does The Client need a lot of it!

Next time you see the smoke and mirrors from the losing team (Elliott Spitzer speaking on "the integrity of capital markets" at Columbia University, or Larry Kudlow talking about how "they" all missed this crisis on his show last night), just ignore them, and look ahead to the leadership being provided by the winners of this world.

I'll be feeding my investment team the biscuit this afternoon, as we proactively prepare with some pre-game refreshments for Yale Hockey vs. Vermont. The puck drops at 630PM EST.

Have a great weekend - Go Yale Hockey!


QQQQ - PowerShares NASDAQ 100 - We bought QQQQ on Wednesday (3/25) on the pullback. We believe the NASDAQ has moved into a very bullish tradable range and is breaking out from an intermediate TREND perspective alongside the more Tech specific XLK etf.

USO - Oil Fund- We bought oil on Wednesday (3/25) for a TRADE and are positive on the commodity from a TREND perspective. With the uptick of volatility in the contango, we're buying the curve with USO rather than the front month contract.  

EWC - iShares Canada-We bought Canada on Friday (3/20) into the selloff. We want to own what THE client (China) needs, namely commodities, as China builds out its infrastructure. Canada will benefit from commodity reflation, especially as the USD breaks down. We're net positive Harper's leadership, which diverges from Canada's socialist past, and believe next year's Olympics in gold-rich Vancouver should provide a positive catalyst for investors to get long the country.   

DJP - iPath Dow Jones-AIG Commodity -With the USD breaking down we want to be long commodity re-flation. DJP broadens our asset class allocation beyond oil and gold.  

XLK - SPDR Technology-Technology looks positive on a TRADE and TREND basis and is +5% YTD. Fundamentally, the sector has shown signs of stabilization over the last several weeks. Semiconductor stocks, which are early cycle, have provided numerous positive data points on the back of destocking in the channel and overall end demand appears to be stabilizing.  Software earnings from ADBE and ORCL were less than toxic this week and point to a "less bad" environment. As the world stabilizes, M&A should pick up given cash rich balance sheets in this sector and an IBM/JAVA transaction may well prove the catalyst to get things going.

EWA - iShares Australia-EWA has a nice dividend yield of 7.54% on the trailing 12-months.  With interest rates at 3.25% (further room to stimulate) and a $26.5BN stimulus package in place, plus a commodity based economy with proximity to China's H1 reacceleration, there are a lot of ways to win being long Australia.

GLD - SPDR Gold- We bought gold on a down day. We believe gold will re-find its bullish TREND.

DVY - Dow Jones Select Dividend -We like DVY's high dividend yield of 5.85%.


XLI - SPDR Industrials- Looks positive for a TRADE and negative as a TREND.

EWL - iShares Switzerland - We shorted Switzerland for a TRADE on an up move Wednesday (3/25) and believe the country offers a good opportunity to get in on the short side of Western Europe, and in particular European financials. Switzerland has nearly run out of room to cut its interest rate and due to the country's reliance on the financial sector is in a favorable trading range. Increasingly Swiss banks are being forced by governments to reveal their customers, thereby reducing the incentive of Switzerland as a tax-free haven.

LQD  - iShares Corporate Bonds- Corporate bonds have had a huge move off their 2008 lows and we expect with the eventual rising of interest rates in the back half of 2009 that bonds will give some of that move back. Moody's estimates US corporate bond default rates to climb to 15.1% in 2009, up from a previous 2009 estimate of 10.4%.

EWJ - iShares Japan - Into the strength associated with the recent market squeeze, we re-shorted the Japanese equity market rally via EWJ. This is a tactical short; we expect the market there to pull back when reality sinks in over the coming weeks. Japan has experienced major GDP contraction-it dropped 3.2% in Q4 '08 on a quarterly basis, and we see no catalyst for growth to return this year. We believe the BOJ's recent program to provide $10 Billion in loans to repair banks' capital ratios and a plan to combat rising yields by buying treasuries are at best a "band aid".

EWU - iShares UK -The UK economy is in its deepest recession since WWII. We're bearish on the country because of a number of macro factors. From a monetary standpoint we believe the Central Bank has done "too little too late" to manage the interest rate and now it is running out of room to cut. The benchmark currently stands at 0.50% after a 50bps reduction on 3/5. While the Central Bank is printing money and buying government Treasuries to help capitalize its increasingly nationalized banks, the country has a considerable ways to go to attain its 2% inflation target. Unemployment  is on the rise, housing prices continue to fall, and the trade deficit continues to steepen month-over-month.

DIA -Diamonds Trust-We shorted the DJIA on Friday (3/13) and Tuesday (3/24).

EWW - iShares Mexico- We're short Mexico due in part to the country's dependence on export revenues from one monopolistic oil company, PEMEX. Mexican oil exports contribute significantly to the country's total export revenue and PEMEX pays a sizable percentage of taxes and royalties to the federal government's budget. This relationship is unstable due to the volatility of oil prices, the inability of PEMEX to pay down its debt, and the fact that PEMEX's crude oil production has been in decline since 2004 and is down 10% YTD.  Additionally, the potential geo-political risks associated with the burgeoning power of regional drug lords signals that the country's economy is under serious duress.

IFN -The India Fund- We have had a consistently negative bias on Indian equities since we launched the firm early last year. We believe the growth story of "Chindia" is dead. We contest that the Indian population, grappling with rampant poverty, a class divide, and poor health and education services, will not be able to sustain internal consumption levels sufficient to meet targeted growth level. Other negative trends we've followed include: the reversal of foreign investment, the decrease in equity issuance, and a massive national deficit. Trade data for February paints a grim picture with exports declining by 15.87% Y/Y and imports sliding by 18.22%.

XLP - SPDR Consumer Staples-Consumer Staples was the second worst sector yesterday. XLP has a positive TRADE and negative TREND duration.

SHY - iShares 1-3 Year Treasury Bonds- On 2/26 we witnessed 2-Year Treasuries climb 10 bps to 1.09%. Anywhere north of +0.97% moves the bonds that trade on those yields into a negative intermediate "Trend." If you pull up a three year chart of 2-Year Treasuries you'll see the massive macro Trend of interest rates starting to move in the opposite direction. We call this chart the "Queen Mary" and its new-found positive slope means that America's cost of capital will start to go up, implying that access to capital will tighten. Yield is inversely correlated to bond price, so the rising yield is bearish for Treasuries


Last night the WSJ stated that CityCenter is preparing for a potential bankruptcy filing of CityCenter, as the $220MM funding payment due today looks unlikely to be made. This news comes on the heels of Dubai World filing a lawsuit against MGM this Monday alleging that MGM's admissions in its 10-K constitute a breach of the CityCenter Joint Venture Agreement and puts the CityCenter development project at risk.

Our take on the lawsuit is that Dubai was simply taking precautions given the cross-default provision in the CityCenter financing which would be triggered by a default on MGM’s credit facility. We also believe that this may have been the first step in a series of moves for Dubai World to try to take a larger stake in CityCenter and possibly remove the cross-default risk. And as we wrote about in previous posts, while we do not believe it is likely that MGM will file for bankruptcy protection this year, we have little doubt that, barring a transaction, they can avoid a technical default.

The preparation for a filing of CityCenter looks like it’s the next step in this dance. We believe that perversely, a filing of CityCenter is a positive for MGM credit and equity. The filing will at least delay $500MM of funding that MGM needs to contribute to CityCenter in 2009, and roughly $200-300MM of incremental funding in 2010. If CityCenter does not open it would also relieve competitive pressure on MGM’s other casino assets in Vegas. However, given the scope of the project and the 10,000 employees that would be out of work should it not open, we believe that the local and possible federal (Mr. Reid?) government may not let this project fail.

The other issue is the completion guarantee provided by both parties ($600MM in addition to the required equity contribution). For MGM this guarantee is a large contingent liability in CityCenter bankruptcy. Additionally, as we learned from LVS, halting construction isn’t cheap either. Finally, it is possible that Dubai World may have funding issues; the financial state of the company is unclear.

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The Street projects Q1 EBITDA of $151 million for WYNN. We think the number will be closer to $120 million with the shortfall originating in Las Vegas. Our Las Vegas property level EBITDA for the two Wynn properties combined (Wynn Las Vegas and Encore) is only $33 million versus the Street around $60 million.

As we’ve been writing about since June of 2008, the Street continues to underestimate the margin degradation from falling room rates. In our June 6/22/08 note, “MEAN MARGIN MEAN REVERSION”, we determined that the most of the huge margin expansion over the last 15 years in Las Vegas was driven by room rates as depicted in the first chart. Well, we are on the downside of that cycle now, in a big way. WYNN’s Las Vegas EBITDA margin could fall by almost 13 percentage points on a year-over-year basis in Q1. With bad luck on the tables, that number could be even lower.

We think RevPAR could fall by over 30% in Q1-Q3, and 10% in Q4 as the comparisons ease. Part of the decline is due to the additional rooms from Encore. However, most of it is due to soft demand. Wynn’s focus on maintaining occupancy will continue to drive margins down as rates fall. See the second chart below.

All is not lost for WYNN. We continue to be positive on Macau. We’ve worked through our model pretty extensively and we don’t believe the company faces any covenant or liquidity issues. I know some in the investment community are predicting a covenant breach but we are not in that camp. However, we are in the camp that Street estimates need to come down, particularly for Q1.

Rooms and F&B pricing drove industry EBITDA higher in Las Vegas
Precipitous ADR declines are driving margins significantly lower

Eye on Commercial Real Estate

Per today’s WSJ article, there are $700bn in securitized loans backed by office buildings, hotels, stores and other investment property, and the delinquency rate has more than doubled over six months to near 2%. The implications for retail-retailed REITs is obvious (check out the charts for Simon, General Growth and Taubman). As the stability of ownership becomes a greater focus, we whipped up a little analysis showing the percent of stores leased versus owned for a select group of retailers. Note that even the owned properties are not completely out of the woods (i.e. Sears) as there’s no reason why an owned property cannot default – similarly a lease is not broken just because the deed changes hands. But there certainly is a greater margin of error for those that lease the majority of their stores.

What's A Great Recession?

As we all know, some people in our business have no shame in poaching other people’s work. Today, I actually heard one of the manic media networks refer to the inverse correlation of US Dollar down/US Stocks up as “Breaking The Buck” – I wonder where they came up with that! They don’t like to cite me because I YouTube them – you know, hold them accountable and stuff, I guess…

Today I am getting a lot of questions as to why we coined this the “Great Recession”, and sometimes its just easier to capture a simple answer with a picture rather than prose. Today saw the release of the latest US GDP data, and Andrew Barber has incorporated that data in the chart below. That’s what The Great Recession looks like.

Most economists call a recession 2 consecutive quarters of falling GDP. So we have that - but what we really have here is the Greatest peak-to-trough belly flop versus consensus Wall Street expectations (think the ooh and the ahh of Private Equity and “Chindia” of 2007) in US history. No, this is NOT a Great Depression. Pre the Great One in the 1930’s, depressions happened all the time:

1. 1893-94 = GDP down -9%
2. 1907-08 = GDP down -10%
3. 1919 = GDP down -13%

My Partner, Todd Jordan, asked in an early note today, “what is a depression anyway?” Well Todd, I think it’s when people are depressed – and a lot of the shameless rats in this business should be… but it is definitely not what we are seeing here, from a US economic perspective, in 2009.

Keith R. McCullough
CEO / Chief Investment Officer

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