Wind and Rain

This note was originally published at 8am on January 30, 2013 for Hedgeye subscribers.

“Wind extinguishes a candle and energizes fire.”

-Nassim Taleb


On my way to Kansas City, Missouri last night I started reading Taleb’s new book, Antifragile. The aforementioned quote is the opening sentence to his prologue. It’s an interesting introduction. He uses a basic contrast of a few elements, and makes up a new word (what he calls the opposite of fragility).


While Taleb doesn’t market himself this way, there is a lot of Chaos Theory at the core of his framework. From an economic policy perspective, he is anti-academic dogma, anti-government, etc. “This is the tragedy of modernity: as with neurotically overprotective parents, those trying to help are often hurting us most.” (pg 5) And I’ll obviously second that.


Having not read it yet, the questions I have with this highly-promoted book are threefold: 1. Is there anything new here that I can apply to my risk management process? 2. Is it a book for market practitioners or an attempt to become academic in its own right? and 3. Will it help me save and make people money? I’ll review it and let you know.


Back to the Global Macro Grind


After seeing both the SP500 and Russell2000 close at fresh YTD highs yesterday (all-time high for the Russell) and then seeing China and Japan close at new highs again overnight, the question is: was being long stocks and out of Gold, Bonds, etc. just dumb luck?


Well, Nassim says, “I’d rather be dumb and antifragile than extremely smart and fragile, any time.” But I don’t think any man, woman, or child aspires to be dumb, do you? Thinking you are smarter than the Mr. Market – well, that’s an entirely different problem.


The most brainless/emotionless risk management exercise I can do to assure myself I am no smarter than anyone else, is shut up and listen to the price/volume/volatility signals in my Global Macro model. Here’s what they are signaling today in the USA:

  1. US Stocks (SP500) immediate-term TRADE overbought in the 1510-1513 range
  2. US Equity Volatility (VIX) immediate-term TRADE oversold in the 11.98-12.04 range
  3. US Dollar Index immediate-term TRADE oversold at $79.41
  4. US Treasury Yields (10yr) immediate-term TRADE overbought at 2.04%

These immediate-term signals are A) contextualized by my intermediate-term TREND and long-term TAIL durations and B) augmented by my research team’s fundamental updates (we have a morning meeting every day at 830AM EST).


In Asian Equities, the most important immediate-term TRADE signals this morning are as follows:

  1. CHINA – Shanghai Composite +1% overnight to immediate-term TRADE overbought at 2391
  2. JAPAN – Nikkei225 +2.3% overnight to immediate-term TRADE overbought at 11,124
  3. S.KOREA – KOSPI +0.43% overnight, recaptures TREND support (1959) but remains below 1976 TRADE resistance

In Europe:

  1. EURO – versus the USD, the Euro is immediate-term TRADE overbought at $1.35
  2. GERMANY – the DAX is immediate-term TRADE overbought at 7887
  3. ITALY – the MIB Index (equities) snapped immediate-term TRADE support of 17,714 this morning

All the while, Oil prices are testing an important breakout level of $114.79 (Brent). Wind and fire, meet another element: rain. Oil prices rising from these levels will be a brand new headwind to Global #GrowthStabilizing.


So, there’s a lot going on out there – but there always is.


Markets don’t care about your positions or processes. That’s why they tend to impose the most amount of pain on most of the people, all at the same time. That’s also why studying the Behavioral side of markets is as important as considering their fractal dimensions.


Got pain? Perma stock market bears are going to need a heck of a lot of rain to tone down this bullish bonfire. For 2 months The Pain Trade has been to the upside in stocks (and to the downside in Treasury Bonds).


That’s not new. Waking up to snow this morning in Kansas City is new. So I had to A) adapt or B) freeze when I walked over to Sonic to get breakfast.


Every day we are offered an opportunity to Embrace Uncertainty and risk adjust our decisions accordingly. If we’re scared of Black Swans and/or uncertain about our process’ ability to absorb uncertainty, I guess Taleb would say we aren’t antifragile.


One way to not be emotionally fragile is to keep moving.


Now that this morning’s Consensus Signal of The Day pinned a new high (II’s Bull/Bear Spread moves to +3,200 basis points wide to the Bullish Side – it was only 960bps wide in mid-November), you can sell some stocks at our immediate-term TRADE overbought signals. It may not be Taleb’s answer to the game – but for me, it’s just another solid risk adjusted decision to make.


Our immediate-term Risk Ranges for Gold, Oil (Brent), Copper, US Dollar, EUR/USD, USD/YEN, 10yr UST Yield, and the SP500 are now $1649-1676, $112.71-114.79, $3.65-3.72, $79.41-79.98, $1.33-1.35, 89.88-91.66, 1.92-2.04%, and 1492-1513, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Wind and Rain - Chart of the Day


Wind and Rain - Virtual Portfolio

KORS: All About The Benjamins

Michael Kors (KORS) has been called “the unshortable stock,” something that still holds true today. In fact, with the company destroying Coach (COH), firing on all cylinders and continually growing revenue, we believe KORS will be a $100 stock within the next two years. Considering that the stock is above $60 a share and up +7.8% today as of writing, there’s plenty to like. But like any company, no matter how amazing they may seem, concerns still exist.



KORS: All About The Benjamins - KORS SIGMA



Starting in FY14 (i.e. in April) the company starts to use excess cash to buy back stock. In small amounts at first – about $100mm in year 1 – but ultimately building to $400mm by year 3 to prevent its return on investment from rolling over due to too much cash. The company has been spending a lot of cash lately and is also swooping in and buying primo real estate for store locations that don’t come cheap. Ready-to-wear margins could also come down as accessories make up more of the business and inventory buildup could pose a threat. Regardless, we like the stock and think KORS is one of the best names in retail.

KORS: $100 Roadmap

Takeaway: If this story plays out, $KORS is a $100 stock in 2-years. But let's look at what it takes to get there -- and what could go wrong.

On KORS’ last print we called it ‘the unshortable stock’ – something which still holds true. But the problem is that there are so many ‘knowns’ in support of owning KORS. We know that a) KORS is eating Coach’s lunch, b) every single part of the business is on fire – and that’s whether you look at product, channel, or geography, c) management completely sandbagged 4Q guidance. We’re got to think that much of this is embedded in the multiple.  When so many things are going so well, we think that the better question to be asking is “what do you need to believe to be buying KORS now, and what could go wrong if you do?”.


What you need to believe today to buy KORS here.

1)      That KORS can continue to grow its’ wholesale business at 30% or better for the next 2-3 years without margin degradation. With 15-20% growth in the US, we think the addition of Europe and Asia can make this happen.


2)      Retail can get halfway to management’s goal of 75% of the total mix. In order for that to happen on top of 25% wholesale growth, our model suggests that we need to see about 175 stores added over 3-years – which we think is doable – on top of comps averaging in the 20% range (we’re at 25%, 15%, and 10%, respectively for FY2014, 2015 and 2016). That gets us to sales/square foot of $2,400 by the end of year 3 versus $1,730 today. That’s the higher end of what we think is reasonable.


3)      With appropriate leverage on the top line growth numbers needed to hit these goals, we’re modeling margins between 31-32% (vs 27-28% today) over 3-years. Interesting in that this is precisely where Coach is today, and we think that in 3-years, Coach will be lucky to be where KORS is today.


4)      An increasing proportion of profit will come from lower-tax jurisdictions, which will take the aggregate tax rate down by 100-150bp per year.


5)      Starting in FY14 (i.e. in April) the company starts to use excess cash to buy back stock. In small amounts at first – about $100mm in year 1 – but ultimately building to $400mm by year 3 to prevent ROI from rolling over due to too much cash.


6)      When all is said and done, you’re looking at a global luxury goods brand with EBIT margins on their way to 31% that turns its operating assets once a month (as opposed to industry norm of 3-4x per year) that should have earnings power approaching $5.00 in three years. Yes, the stock is on fire. But even on today’s pop a $63 stock on $5 in EPS power in 3-years is hardly excessive. Over a 2-year time period, giving even a 20x p/e we’re looking at a stock close to $100.


What could go wrong?

The obvious problem would be loss of brand momentum. Let’s look past that one for the sake of this exercise. If there is one thing KORS is doing it is spending money – and lots of it. The company will have added around $140mm in SG&A dollars and another $130mm in capex this year on top of a $1.3bn revenue base. We’re ok with that. Other factors that we need to watch…


1)      ‘Ready-To-Wear’ Margins: The company highlighted on its call how well its women’s ready-to-wear apparel is performing and how the line will get greater real-estate in some of the company’s retail locations. With accessories now at 80% of the total business for KORS (vs 62% 2-years ago) it’s pretty safe to say that this shift is nearing its end. Initially RTW might be high margin, but the reality is that it is a business where there is a greater penalty for missing fashion trends, as excess inventory will need to be marked down greater than sunglasses, shoes, watches or eyewear.


2)      Rent Expense: When the company is comping 41%, its ability to leverage occupancy expenses is seemingly irrelevant. But keep in mind that KORS has been employing one of the most aggressive real estate strategies to secure prime locations than any company we have seen in a very long time. It’s no secret that not only are these locations expensive, but the rent escalators work as a compliment to stated rent/square foot such that they allow a company to get into an expensive storefront today but pay for it tomorrow. It is not transparent yet how KORS is handling this. On a 41% comp – it does not matter. On a 20% comp it probably does not matter (at least, it has not in the past). On a 10% comp, we think it probably matters.


3)      Licensing Looking Toppy: Licensing EBIT is about 14% of the company’s total. We’d be surprised if it grew much form there – kind of like we saw from Ralph Lauren over the past 8-years as it took control of its own distribution. Licenses like Watches will forever be outsourced, but on the margin the company will look to grow incrementally from within. This is not a risk, really, in that it will allow KORS to consolidate a greater portion of revenue, albeit at a margin less than the 64% is has today in Licensing. As long as it churns more EBIT through its P&L, we’re ok with it. But keep an eye on this.


KORS SIGMA: Margins Looking Solid. Keep An Eye On Inventories

KORS: $100 Roadmap - KORS sigma

Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.

CZR: Spin It Off?

Caesar’s Entertainment (CZR) has enjoyed a massive 64% run up since February 6th on the likelihood that New Jersey will pass legislation allowing for interactive gaming on the internet. Should the law go into effect, bondholders would prefer to see CZR spin off its interactive division into a new unit. While that’s fine and dandy for those holding company debt, CZR’s stock would probably not see a boost in price if the legislation passed as we believe that the 64% run up is not entirely justified by this news. Tax issues would come into play and though Caesar's would be able to monetize the new interactive unit, it would not be a boon for stockholders.


We think that the market is over-valuing the size and profitability of a legal NJ online gaming market.  Nevada legalized online gaming back in June 2011 and we have yet to see any impact.  Same goes with Delaware.  New Jersey has a larger population but it would still need to pool with other States to accumulate enough liquidity.  Legal hurdles will prevent that from happening any time soon.  More states will have to legalize gaming before any pooling becomes meaningful.


Long shares in Cheesecake Factory was one of the two ideas we pitched yesterday during our consumer sector heads’ Best Ideas call, the other being short Burger King.


We have been vocal about our bearish stance on casual dining for some time and have focused that call on two stocks in particular: BWLD and DRI.  The DRI call was particularly impactful given that it was highly contrarian, but also because of the ramifications for the space.  The crucial ingredient in Darden’s most recent quarter was its statement that the company’s strategy was to be less protective of margins going forward.   We believe CAKE is one company within casual dining that will see limited impact from Darden’s “price war”.  The stock has underperformed the market of late but we believe bottoming earnings estimates and other fundamental factors could make the stock an attractive long at this price.

  • Strong marketing presence, loyal consumer base, and high average unit volumes
  • Improving housing outlook benefits the core CAKE consumer
  • Negative sentiment in the stock
  • Modest same-restaurant sales expectations vs optimism in casual dining trends outlook








Potential For Upside Surprise


The company is set to take roughly 2% in price during 2013.  Consensus is modeling roughly flat average check growth despite traffic outperforming industry trends (Knapp) by an average of 270 bps over the past four reported quarters and mix running between -0.4% and -1%.  Management’s guidance on average check was quite firm during the most recent earnings call: “We're not considering a negative. The average check has never gone down that I know of, not in years. So no, we're not considering a negative average check.”



Howard Penney

Managing Director


Rory Green

Senior Analyst




In preparation for HYATT's 4Q earnings release tomorrow, we’ve put together the recent pertinent forward looking company commentary.



  • "The Hotel Nikko acquisition in Mexico City which we acquired and rebranded as the Hyatt Regency in Mexico City this past May is performing well.  We're on track to begin renovations to this property next year."
  • "The public space renovations of the Grand Hyatt San Francisco are expected to be completed by the end of this year."
  • "Our international loan-to-lease hotels were relatively weaker in a number of markets with the exception of London, which benefited from the Summer Olympics."
  • "For the full year 2012, we expect to realize approximately $15 million of savings relative to our prior estimate, about half of which is a reduction of run rate expenses driven by savings from personnel and staffing changes and about half is due to other cost savings initiatives that are more one-time in nature."
  • "In terms of adjusted EBITDA impact from these asset sales for the full year of 2013, earnings will be reduced by about $11 million to $12 million relative to 2012, or about $15 million on a full year run-rate basis."
  • "We've approximately $131 million remaining under our authorization. We remained committed to a balanced strategy of investing in growth and also returning cash to shareholders when appropriate."
  • "In the coming quarter and then into early 2013, we're likely to see a carryover of the same type of issues that we saw in the third quarter... We do think that there are some signs of a more modest overall growth trajectory. Longer term, we continue to feel very confident about the strength of our brands and about the prospects for the industry."
  • "The election in the U.S. next week, the party Congress in China that begins next week, and the timing of other holidays are likely to negatively impact the fourth quarter."
  • "Fee growth will be negatively affected in the short-term by ongoing renovations at large managed hotels, notably in the fourth quarter we expect the Grand Hyatt, San Diego, the Grand Hyatt and Hyatt Regency hotels in Washington, D.C., and the Hyatt Regency Dallas to be under renovation."
  • "As we look to next year, several of our large Grand Hyatt hotels in gateway cities in the Asia-Pacific region are planning renovations. These renovations are great for our brand presence and for our guests and for the owners over the long term, but do lead to short-term impact on RevPAR and fees."
  • "Our negotiated corporate volume business is actually increasing year-over-year and I think that that will continue to be the case as we continue to focus on the expansion of our Select Service presence around the country."
  • "We expect the realignment savings to continue into 2013, partially offset by wage and other cost inflation, and the selected increase in resources as we allocate some resources towards growth initiatives. Overall, we expect the net impact to result in sort of a flattish SG&A growth in 2013."
  • "In the third quarter and heading into fourth quarter, definitely a slowdown in the rate of growth in group bookings for corporate customers. And I think a lot of that has to do with uncertainty due to the fiscal cliff, the election and the like. Government business was particularly weak, it was down in the third quarter for us significantly, so if you look at our third quarter results we had a slight decline in room nights for group bookings for the quarter. More than a 100% of that decline was derived from government business. Part of that is demand and part of it was yield-management decisions that we undertook to actually trade away from some of that business, so some unusual short-term impacts from the government side."
  • "The short-term booking pace in the quarter, for the quarter and in the quarter for the year bookings is still dominated by corporations. And when we see the production in the third quarter, our total production in the third quarter was up significantly, up 12% year-over-year, the vast majority of that was associations booking into 2014. And we believe that the reason we're seeing that is because associations are looking out further into the future. They are seeing higher levels of overall occupancy and are now beginning to secure dates for major meetings that they've got planned for 2014. So we have a bit of a barbell going on in the sense of very different dynamics, short term among corporate groups and longer term among associations."
  • "In terms of overall pace, it's still positive for 2012, 2013 and 2014. The pace of growth, or the rate of growth, has actually declined a bit, and rate growth continues to be positive across all the booking periods. So I would say that there is a bit of a mixed picture here, and but the key drivers that we're looking at are this segregation of prebooking in the winter period, but also looking at rate progression that remains positive across all the period."
  • [Margin impact]  "We continue to experience some challenges in some of our international markets, which contributed about 50 basis points. We have overall lighter food and beverage than expected, particularly in the high margin banquet revenues."
  • "RevPAR performance is expected to be weaker in China given the political changes. In addition, Beijing has seen a drop in corporate business which has been postponed until after the elections. We've seen a tightening of government spending, particularly in the south of China. Once the election is over, we anticipate corporate demand will return to more normalized levels."
  • "India RevPAR was also weak due to additional supply and the decrease in demand as a result of slowing economic growth. Most markets are not expected to see a rate increase as a result of the increased supply, near term, such as Mumbai and Delhi."
  • "Two-thirds of the realignment cost is related to severance and personnel expense, and one-third is owing to professional fees. The expectation is that minimal impact in the fourth quarter from the realignment cost perspective, and there are no realignment costs in 2013 as we perceive now... With respect to – and so therefore a lot of the run rate expense which is about half of the $15 million that we
    described this year relates to personnel and staffing issues. With respect to the remainder, there are other thirdparty contractual – we underwent a third-party contractual review around the world. We looked at professional  fees and expenses. We also recognized that under the old organizational structure we had a number of open positions embedded in our SG&A estimate that would no longer apply by virtue of the changes that we made structurally"
  • "In terms of our pipeline, we about 75% of our total pipeline is outside the U.S., and virtually all of that is for managed properties and within the U.S. it's a mix of management and franchise but more franchise than managed and mostly and more of Select Service than full service in North America at least."
  • "Since we do have a large portfolio of Select Service properties, we will continue to look at different ways in which we can utilize that asset base through sales or in some cases JV. So, we contributed I think it was eight hotels to a JV with Noble last year, or possibly the year before"
  • "We will continue to pursue transactions for both full service and Select Service properties, but on the Select Service side, we've been highly focused on trying to find new and different ways to expand our ownership and end up with good owners long-term for our properties."

the macro show

what smart investors watch to win

Hosted by Hedgeye CEO Keith McCullough at 9:00am ET, this special online broadcast offers smart investors and traders of all stripes the sharpest insights and clearest market analysis available on Wall Street.