Human Action

This note was originally published at 8am on December 10, 2012 for Hedgeye subscribers.

“Nations stumble upon establishments which are indeed the result of human action…”



That’s a simple but appropriate quote for central planners to noodle over this morning. It comes from Adam Ferguson’s economic history work that is cited by Ralph Raico in the book I am currently studying, Classical Liberalism and the Austrian School (pg 27).


Human Action, of course, wasn’t Hayek – it was the title of Ludvig von Misses’ magnum opus in 1949. If you want to begin to attempt to understand the difference between Keneysian and Austrian economics, start there.


Inasmuch as there are some differences between Bernanke and Krugman, there are between von Misses and Hayek as well.  In the former versus the latter, we are talking about derivatives of centrally planned versus free-market based economic ideologies.


Back to the Global Macro Grind


France, Italy, and Japan are “stumbling upon establishments” (Hayek) of Keynesian economic policy decisions again this morning:

  1. FRANCE Industrial Production growth for OCT = down another -1.1% (after a -2.5% drop in SEP)
  2. ITALY GDP Growth = down -2.4% year-over-year for Q3 of 2012
  3. JAPAN GDP Growth = down -3.5% QoQ SAAR for Q3 of 2012

I know. It’s too bad all 3 of these centrally planned economies are out of bullets and couldn’t jack up government spending like the USA did (+9.5% annualized government spending ramp in Q312). Maybe that’s why Italy’s Super Mario Monti says ‘I’m out!’


On the globally interconnected risks associated with sovereign Debt & Deficit Spending, as the late Milton Friedman said in 1991, maybe “there’s only one thing left to do: fight.” On that score, instead of being taxed by the #PoliticalClass and signing off on an unlimited US Debt Ceiling, at least some Americans still look ready to stand up for their individual liberties.


But what if the USA gets a debt/deficit deal? Short-term, I assume stocks will rip. But, in the long-run, what will happen to the US economy? What will happen to your children’s liberties?


In the long-run, for America to achieve sustainable economic growth, it needs:

  1. To restore its competitive advantage as one of the last standing free-market economies
  2. To resuscitate the credibility of her hard earned currency – the world’s reserve currency

The #PoliticalClass, of course, thinks they only get paid if we don’t get what we need. Then they perpetuate pinning us all against one another via class, gender, and race warfare.


The good news last week was that the government got out of the way. There was no fiscal deal. There was no Ben Bernanke decision to print to double-infinity and beyond either.


With the US Dollar up +0.35% on the week, you also got a real-time tax cut:

  1. CRB Commodities Index (19 commodities) = down another -1% wk-over-wk (down -8.4% from the Bernanke SEP Top)
  2. Brent and WTIC Oil prices = down another -3.7% and -3.3% wk-over-wk, respectively
  3. Corn = down another -2% wk-over-wk (down over 12% from all-time highs in 2012)

At the same time, institutional investors betting that the USA becomes more like France got sacked for the 1st week in the last 3:

  1. CFTC Futures & Options contracts (betting net long commodities) = down -3.4% on the week to 898,000 net long positions
  2. Gold saw net long positions get hammered by the most since March = down -25% wk-over-wk to 127,000 net longs
  3. Wheat got crunched for another -20% wk-over-wk drop in net long positions = down to 34,000 net longs

People who drive to work and eat throughout the day loved it; institutions long inflation didn’t. Last week’s net long positions in farm goods fell -10% wk-over-wk and are down almost 50% from their 2012 all-time highs (Wheat’s net long position is down -57% from its all-time high).


Get the government out of the way, and you’ll take expectations for asset price inflation in food and energy prices away. That’s something that you don’t hear out of Bernanke and Geithner do you? You’d think Obama’s “middle class” warfare thing would pick up on the marketing opportunity as well. Not.


And that’s really sad because our Human Actions should be better than that. On government policy orders, the difference between Hayek and Von Mises was actually that Hayek was more socially liberal. “For the tradition that Hayek recommends, on the contrary, such order is best understood as coming about through a process of adaptive evolution.” (Raico, page 27).


And that’s all I have to write about that. Short commodities on green and buy consumption on red until we really make this Italy.


Our immediate-term Risk Ranges for Gold, Oil (Brent), US Dollar, EUR/USD, UST 10yr Yield, and the SP500 are now $1684-1713, $106.51-109.53, $80.11-80.67, $1.28-1.30, 1.58-1.65%, and 1406-1419, respectively.


Best of luck out there this week,



Keith R. McCullough
Chief Executive Officer


Human Action - Chart of the Day


Human Action - Virtual Portfolio

Is PM Mispriced Growth?

Among the questions we have received post initiation one of the more consistent is “why no love for PM?”  More specifically, “isn’t PM mispriced versus other large cap staples companies?”


Our response takes us back to one of our favorite quotes from an underappreciated character on “The Simpsons”, Reverend Lovejoy:


“Ooooh short answer yes with an if, long answer no with a but…”


So, short answer, yes PM is mispriced growth if we didn’t have concerns that 2013 consensus EPS estimates were too high.  We would prefer to have a clearer path to EPS upside as the quarters of 2013 are reported and as it currently stands, we are $0.08 below consensus for 2013 ($5.73 versus $5.81).  Our primary regions of concern heading into 2013 are Western Europe – admittedly not a new issue, but one that has displayed continued weakness with respect to both volume and profit and will likely remain a drag throughout 2013 despite some easy comparisons.  Also, Eastern Europe (part of Eastern Europe, Middle East and Africa in PM’s reporting structure) is a “watch out” for us as we have seen signs of incremental weakness among a number of companies, most notably the beer companies.


Is PM Mispriced Growth? - PM EPS Growth Progression

Long answer, no PM isn’t mispriced growth, but there are a number of companies, mostly notably large cap HPC names such as KMB and CLX that we would happily pair against a long position in PM over a longer duration, recognizing that there may be some hiccups around the PM quarters if our math is correct.  Top line growth is what garners a multiple in staples and where PM has delivered an average of 7.7% constant currency organic growth over the past eight quarters, KMB and CLX have been at 3.0% and 2.4%, respectively, on the same metric.  Yet, KMB trades at 15.0x 2013 EPS and CLX at 16.6x – PM trades at 14.6x consensus and 14.8x our number.  Even if EPS results for PM in 2013 more closely resemble the $5.59 number that KMB is currently expected to earn, the current stock prices are virtually identical and we feel very strongly that should not be the case.  Even PEP at 15.9x next year with an average top line of 5.9% doesn’t compare well to an investment in PM given the current relative multiples.   Also, to be clear, our view on the achievability of consensus estimates for either KMB or CLX is no more certain than our view on PM.


Is PM Mispriced Growth? - Revenue growth vs. PE

Dividend yield tells largely the same story, as CLX yields 3.46%, PM 4.00% and KMB 3.52%.  It appears that the market has decided to put a lower multiple on higher growth as well as having the asset that is faster growing in the long-term have the higher yield.  We aren’t quite there yet, but every once in awhile the market takes us back to Mugatu in “Zoolander” where he exclaims “I feel like I’m taking crazy pills!”


Bottom line, we can certainly abide by pair of PM against some other names that have garnered a multiple that we consider to be inappropriate versus those companies’s longer-term earnings growth profile, but we have concerns over how consensus has been modeled in 2013 for PM.


Robert Campagnino

Managing Director





Takeaway: With one statement - “we have been too protective about our margins” - the management of Darden declared war on casual dining.

With one statement - “we have been too protective about our margins” - the management of Darden declared war on casual dining. This not going to end well for anybody, but DRI has the most to lose.


Going forward, all of DRI advertising spending will focus on price point promotions and move away from “brand building” initiatives. Knowing what we know now, it looks clear why the company’s CMO jumped ship last month! Consumers will definitely “sea food” differently.


We believe that the company is taking a very big risk on the future of the company and there is a better-than-average chance it could end up being pivotal moment for the casual dining industry. We already know that the Red Lobster customer is transitory and only coming back consistently when the food is on sale; now the company will be training the Olive Garden customers to behave the same way. This is a difficult habit to coax consumers out of, once they have attained it. As our Chief Compliance Officer, Moshe Silver, likes to say, “it is much easier to make a mess than it is to clean it up”.


The company will be adding another 100 new store to this potential mess in FY2013 and likely another 90-100 in FY2014!


The massive discounting strategy they conveyed to the street is reactionary and defensive. We believe there are several important issues to consider when assessing the current strategy:


1. LACKING CREDIBILITY: Over the last two years DRI senior management team has proven they are not in sync with what the consumer wants!

2. CART BEFORE THE HORSE: DRI has not fixed the cost structure of the company, especially the middle of the P&L (food and labor costs) to effectively compete at lower price points.

3. NO PRICING POWER: Once you go down the road of discounting, it is difficult to turn back. Future inflation in input costs is felt more acutely as discounting increases.

4. MARGIN: How much margin will they need to give up before they see a sustained improvement in traffic? Do they have the ability to predict consumer behavior around the current promotions?

5. BLOATED COST STRUCTURE: As a multi-brand restaurant company DRI carries significantly more infrastructure and growth related expense. It should also be noted that the top six executives at DRI took home over $23 million in compensation.


In FY1H13 DRI earned $1.13 on $3.994 billion in revenue. So what does the company strategy of significant discounting mean for FY2H13? We have the company earning $2.00 on $4.485 billion in revenues. The street consensus is for the company to earn $2.27 on $4.60 billion in revenues. As we have seen over time with DRI conformation bias exists in the numbers; the street has historically given management the benefit of the doubt. We are taking the other side of that trade.


Bottom line, we think uncertainty overwhelms the ability of the street or the company to know how this new tack will be reflected in the company’s results. We would suggest that more pain than expected, not less, is likely before the company’s repositioning is complete.


In six months, every management team in the casual dining space is going to be wishing that DRI would go back to raising prices 2-3% every year and driving customers away!


Howard Penney

Managing Director


Rory Green

Senior Analyst



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Trade Of The Day: PNK

We shorted Pinnacle Entertainment (PNK) today at $16.08 a share at 2:53 PM EDT in our Real-Time Alerts. The company announced this morning that it would acquire Ameristar Casinos (ASCA) for $869 million. Deal risk remains as we believe Pinnacle will have a difficult time completing the deal with Ameristar. For now, we'll stay bullish on ASCA while shorting the acquirer PNK. 


Trade Of The Day: PNK - TOTD

PCAR: Momentum Building

Takeaway: Data suggest that the Class 8 market is improving from a trough in August. $PCAR should benefit from a better market and $NAV share loss.

PCAR: Momentum Building


  • Backlog to Build Ratio:  We showed in our August 2012 Black Book on Truck OEMs that a low backlog to build ratio was typically a decent buy signal for the group.  While the backlog to build ratio has improved since the August trough, the ratio remains very low.  We continue to believe that shares of PCAR would benefit from market normalization.

PCAR: Momentum Building - t1



  • Order Rates Below Replacement Demand:  Truck owners appear to be hanging on to pre-2007 trucks because those trucks have fewer costly emission controls.  Unless Class 8 trucks are leaving North American roads, order rates will need to rebound at some point.  

 PCAR: Momentum Building - t2



  • Navistar Share Loss:  While industry metrics may still be weak relative to steady state demand, we expect PCAR and Daimler to perform better than the industry as they gain share from Navistar.  Navistar has given up a huge amount of market share in Class 8.  If sustained through 2013, Navistar’s loss should be a significant benefit to competitors.  All else equal, share gains for PCAR could drive double digit 2013 growth in North American Class 8, PCAR’s most important market.

 PCAR: Momentum Building - t3



  • PCAR a Top Long Idea:  We continue to believe that PCAR is a top long idea in the Industrials sector.  While the shares have outperformed since August 2012, our thesis appears to be tracking well.  Near-term, PCAR should benefit from Navistar’s share loss.  Longer-term, we expect a construction rebound, market entry in Brazil, a more stable truck demand environment and an aging truck fleet to benefit the firm’s bottom line.



The Economic Data calendar for the week of the 24th of December through the 28th is full of critical releases and events. Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.



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