“For a theory is a very dangerous thing to have.”
I just got back from an island in the Bahamas and I’m flying to London this morning. As a result, February will be a very productive month of reading. I just finished grinding though both The Last Lion and Antifragility. I’m digging into Ike’s Bluff next.
The problem with self-education is that the more you read, the less you know. This helps contextualize how clueless the people who are trying to centrally plan your life actually are. Particularly when it comes to economic policies, I agree with Taleb that their “theories are superfragile.”
He also goes on (and on and on) to differentiate between social and hard sciences: “Physics is privileged; it is the exception, which makes its imitation by other disciplines similar to attempts to make a whale fly like an eagle.” (Antifragility, pg 116)
Back to the Global Macro Grind…
After closing up for the 6th consecutive week, the US stock market is flying like something – and it’s not the London Whale. On almost no volume on Friday (down -21% from my YTD average for market up days), the Russell2000 made yet another all-time high.
As we like to say at Hedgeye, all-time is a long time… but now we’ve been writing about all-time for a pretty long time too. For perma-bears, this has to be leaving a mark. Last week’s II Bull/Bear Sentiment Survey saw Bears capitulate to a fresh new YTD low of 21.1%.
Other than playing with my kids in the Bahamian sun, what did I like about last week?
- STRONG DOLLAR – the US Dollar moved back into a Bullish Formation, closing up +1.4% wk-over-wk at $80.25
- DEFLATING THE INFLATION – the CRB Index (19 commodities) closed down another -1.3% on the week at 301
- I discovered a tasty new beach beer, Kalik Light
I know some of our competitors keep talking about the risk of raging inflation – but that’s a Dangerous Theory to have if the US Dollar continues to make a series of long-term (40 year) higher-lows.
We’re not theorizing that Bernanke’s Bubbles (Commodities) will continue to pop from their all-time highs (2008-2012). They are already popping. Oil topped in 2008; Gold and the CRB Index stopped going up in 2011; and Food Prices put in their all-time highs in 2012.
If your theory was that the Fed would print to infinity and beyond and you bought Gold, Silver, etc. on that in 2008-2009, great call. But what happens to your theory if employment and housing #GrowthStabilizes in 2012-2013 and the Fed gets out of the way?
What didn’t I like about last week?
- TREASURIES – US Treasury Yields stopped rising (10yr yield down 6bps wk-over-wk to 1.95%)
- YIELD SPREAD – 10yr yield minus 2yr yield stopped expanding (down 5bps wk-over-wk to +170bps wide)
- GLOBAL EQUITIES – both European and Emerging Market stocks closed down on the week
Since everything that matters in our macro model happens on the margin, what we call negative divergences (they do bad things when the US stock market headlines are doing good things) really matter.
Some clean-cut negative divergences vs the SP500 closing at its YTD high (1517) were as follows:
- Friday’s highs came on down volume (you want expanding volume on the way up, not flailing volume)
- Friday’s highs came on an immediate-term TRADE signal in the VIX for a higher YTD low of 12.42 (you want lower-lows)
- Global Equities were down wk-over-wk = Emerging Markets -1.1%, MSCI World Index -0.4%, EuroStoxx600 -0.3%
Then, in terms of positive divergences (US Equities), some of the Bullish Style Factors we have been bulled up about got as extended as they have been versus the SP500’s +6.4% YTD return:
- High Short Interest Stocks = +9.2% YTD
- High Beta Stocks = +9.2% YTD
- Top Earnings Growth Stocks (top 25%) = +9.1% YTD
Since A) I have extension (immediate-term TRADE overbought) in our most bullish factors and B) I’ve finally been issued some fairly broad based negative divergences across asset classes, my decision late last week was to take down Global Equity exposure and raise Cash.
That’s not theorizing. That’s doing it in real-time and holding ourselves accountable to explaining the decisions we make. I guess that probably makes us dangerous too. But that’s just a theory.
Our immediate-term Risk Ranges for Gold, Oil (Brent), CRB Index, US Dollar, USD/YEN, UST 10yr Yield, and the SP500 are now $1, $116.38-118.83, 299-303, $79.79-80.39, 92.67-94.41, 1.93-2.01%, and 1, respectively.
Best of luck out there this week,
Keith R. McCullough
Chief Executive Officer
Yesterday afternoon, the government of Venezuela announced that the fixed exchange rate would change from 4.30 bolivars to the dollar to 6.30. The move was widely expected, even if the magnitude of the devaluation was unknown.
A number of companies across consumer staples have exposure to this event, and we attempt to provide investors some perspective based upon the prior 2010 devaluation (100% devaluation vs. nearly 50% yesterday). The exposure is two-fold – the one-time revaluation of monetary assets in the country will result in a charge, and then an ongoing flow through the income statement where any income earned in Venezuela is translated back into fewer dollars.
A look back at 2010
Back in January of 2010, the Venezuelan government announced its decision to devalue its currency and the official exchange rate went from 2.15 to 2.60 for essential goods and to 4.30 for non-essential goods – the lower rate was abolished in December that same year.
What happened and to whom?
CL - took a significant charge ($271 million, or $0.53 per share) as a hyperinflationary transition charge in 2010, as well as the impact of bolivars translating back into fewer dollars flowing through the income statement. The company also has a significant local currency asset position ($200 million as of end of year 2010).
ENR - took a $0.20 per share charge ($0.03 in ’11) for the devaluation, on an earnings base of $5.60. The combination of the devaluation and economic conditions in Venezuela resulted in a $23.3 million reduction in net sales in ’11, on a base of approximately $4.25 billion.
AVP - took a $81.0 million charge to EBIT in ’10 (on a base of $705.5 million) as well as a $46.1 million charge in “Other expense, net”. Venezuela represents approximately 5% of AVP’s revenue and 8% of operating profit (first nine months of ’12). Further, AVP had $223 million in cash balances denominated in bolivars (total cash on the balance sheet as of September 30, 2012 was $1,095.5 million).
KMB - took a $96 million charge in Q1 2010, net investment (as of year-end 2010) was $175 million. Venezuela represented 1% of net revenues and 1% of EBIT.
GIS – (from 2010 10K) - “During fiscal 2010, Venezuela became a highly inflationary economy, which did not have a material impact on our results in fiscal 2011 or 2010.
K – (from 2010 10K) – “Venezuela represents only 1-2% of our business; therefore, any ongoing impact is expected to be immaterial.”
HNZ – (from 2010 10K) – net asset position of $81 million (subsequent to the 2010 devaluation) –“While our future operating results in Venezuela will be negatively impacted by the currency devaluation, we plan to take actions to help mitigate these efforts. Accordingly, we do not expect the devaluation to have a material impact on our operating results going forward.”
KO – (from 2010 10K) – “During the first quarter of 2010 we recorded a loss of $103 million related to the remeasurement of our Venezuelan subsidiary’s net assets.” As of December 31, 2011, the company’s Venezuelan subsidiary held monetary assets of $300 million.
PEP – (from 2010 10K) - “In 2010, our operations in Venezuela comprised 4% of our cash and cash equivalents balance and generated less than 1% of our net revenue”.
MJN – very small business there resulted in an $8.5 million loss over the initial balance sheet remeasurement.
In order to assess how the stocks might trade, we took a look at the absolute and relative performance of the names mentioned above versus the S&P 500 and the XLP Consumer Staples Index for the month before the devaluation (December 2009), the week before (devaluation occurred on January 8, 2010), the three weeks following (until February 1, 2010) and then the next month (from February 1 to March 1). Both the prior month and week before saw meaningful underperformance versus the S&P, that was substantially made up (on average) in the three weeks following.
It appears to us that the setup is a little different coming into this event, as the names mentioned above outperformed the S&P 500 by an average of 2.0% over the last month. Also recognize that the magnitude of the devaluation is substantially less than 2010.
Bottom line for us is that the companies with significant exposure (AVP, CL, PEP, and KO) may see some very, very modest EPS weakness and almost certainly more significant one-time charges as a result of this event.
For those folks in the Northeast - happy and safe shoveling!
HEDGEYE RISK MANAGEMENT, LLC
Risk Managed Long Term Investing for Pros
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.
Takeaway: Household growth in January vs the prior year decelerated by 84 bps sequentially. Is this a sign of slowing momentum?
This note was originally published February 08, 2013 at 11:28 in Financials
Household Formation Reflects Consumer Confidence
While the fiscal cliff didn't seem to deter people from forming households in December (December posted the strongest YoY growth since the upturn began), apparently the payroll tax hike did.
The January monthly household formation data, a key leading indicator for housing, just became available on the Census Deptartment's website. On a year-over-year basis, household growth in January was +1.11%, a sequential deceleration from December's YoY growth rate of 1.95%, and the weakest one month print we've seen since the 3Q11 upturn began.
This is the most current data available, and has been a good leading indicator for the housing sector. Consider the sharp inflection in 3Q11 household formation trends, which preceded the actual turn in housing data and housing stocks that followed in October/November, 2011.
While a concern, we wouldn't get too worried about a single month's print, especially as January was lapping a tough comp. That said, we'll be keeping a close eye on February to see if this is indicative of an emerging trend.
Joshua Steiner, CFA
Client Talking Points
Since we transitioned from #GrowthSlowing to #GrowthStabilizing back in November/December, things have been relatively uneventful as the Dow hit 14,000 and the S&P 500 climbed to 1500. Now, with Brent crude oil approaching $118 a barrel, we have to worry about consumption slowing which in turn slows growth. People paying $5 to $6 a gallon for gas start pinching pennies instead of going out to Applebee’s every night for dinner. Oil is a big headwind for global growth and we’ll have to see what it does over the next week in order to asses what happens next.
Heads Or Tales
This morning we had the pleasure of waking up to the EuroStoxx 50 breaking down on both a TRADE and TREND basis. It’s clear that much like America, the European political class is intent on screwing things up. Draghi wants to “jawbone the Euro back down” as Keith put it this morning and do the opposite of what helped Germany’s economy recover. Currency does have a positive correlation to growth expectations believe it or not; just look at Japan.
|FIXED INCOME||5%||INTL CURRENCIES||15%|
Top Long Ideas
We believe ASCA will receive a higher bid from another gaming competitor. Our valuation puts ASCA’s worth closer to $40.
With FedEx Express margins at a 30+ year low and 4-7 percentage points behind competitors, the opportunity for effective cost reductions appears significant. FedEx Ground is using its structural advantages to take market share from UPS. FDX competes in a highly consolidated industry with rational pricing. Both the Ground and Express divisions could be separately worth more than FDX’s current market value, in our view.
HOLX remains one of our favorite longer-term fundamental growth companies given growing penetration of its 3D Tomo platform and high leverage to the 2014 Insurance Expansion from the Affordable Care Act.
Three for the Road
TWEET OF THE DAY
“Final paper on the table. "It's the Final Countdown", as Europe would sing. #EUCO #MFF” -@alexstubb
QUOTE OF THE DAY
“I quit therapy because my analyst was trying to help me behind my back.” -Richard Lewis
STAT OF THE DAY
Canadian International Merchandise Trade (CAD) (Dec) -0.90bln vs. Exp. -1.45bln (Prev. -1.96bln, Rev. -1.67bln)
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