Box of Frogs

“If it’s your job to eat a frog, it’s best to do it first thing in the morning.  And if it’s your job to eat two frogs, it’s best to eat the biggest one first.”

-Mark Twain


My Hedgeye mates and I have been over in London for almost half a fortnight.  Meeting with European investors and getting entrenched into the British culture has been an interesting experience for us.  To be fair, we probably have spent a few more quid at the pub then we would in a normal week, but even that seems to be part of the culture over here. 


Since being in the U.K., we have learned a few bits and bobs, and also some new phrases.  The most interesting one to me is, “box of frogs.”  It is actually used to describe a crazy state of mind, such as: that Keynesian economist is as mad as box of frogs.  The point being that if frogs were placed into a box, it would drive someone crazy if they had to hold onto the box.  The parallels to our frustration with global monetary policy are quite evident.


I’ve also taken up reading the Irish Times when I have had a break for coffee and biscuits during the day.  While I can’t say I totally understand rugby, the hockey player in me obviously has some affinity for the sport.  This morning in the Irish Times the Rugby Analyst Liam Toland wrote the following:


“Yes, I was enthralled by England’s application, their maturity, their discipline, and their ever growing belief in negotiating a tough fixture.  That’s why I stayed. Remember not so long ago, these guys were throwing dwarfs around.”


I’ve heard, and frankly overused, many sports analogies in my days, but “throwing dwarfs around” is a new one even for me. I’ll have to ask one of the blokes on our restaurant team, Rory Green, about that one.


On a serious note, the trip to London was very fruitful in terms of gauging expectations.  Over the course of the week, we probably met with well over 500 billion sterling in cumulative investor capital.  From a philosophical perspective, many of the money managers in London describe themselves as thinkers, especially as compared to the traders in New York and Connecticut. And from our view, they are a very thoughtful and strategic group.


Interestingly enough, we may actually be entering an environment in which thinking is rewarded more than trading.  This is certainly not to say thinking is a better risk management strategy per se, but rather that we are in a new environment of low volatility.  In the Chart of the Day we actually look at the VIX over the past five years.  The interesting point to note based on our models is that upside resistance is what was for the past three or more years the point where we recommended shorting and/or selling stocks (right around 14).


The implication is simply that based on the VIX, it looks to us we may actually be entering a new and lower phase in volatility. This supports our bullish case on U.S. equities, especially if the VIX breaks through its year-to-date lows.  In that scenario, our models have the VIX going to 9.  This would obviously be a very favorable tailwind for equities, and really risk assets generally.  Not so favorable, though, for the end-of-the-world, such as long Treasuries and gold.


A key question many of the asset allocators in Europe are asking us is in regards to what regions of the world we are most favorably disposed to, or vice versa.  For us this is less an exercise of whetting our fingers and sticking them up to see which way the wind is blowing, but rather just a function of what our models are telling us.  As it relates to countries specifically, we focus on growth, inflation and policy.  Our views on some of the key economies are as follows:

  • The U.S. economy – The U.S. is currently in Quad 1, which means growth is accelerating, or poised to accelerate, and inflation is decelerating;
  • The Chinese economy – China is currently in Quad 2, which means that growth is accelerating with inflation also accelerating.

In terms of being long equities, an investor wants to live in Quads 1 and 2.


Interestingly enough, Europe is actually also currently in Quad 1, albeit growth itself is stabilizing at very low rate in Europe and it is a continent, as usual, with very distinct potential by country. One of the most negative countries being flagged in our models currently is France, the regions second largest economy. (And no, Box of Frogs was not a reference to France!)


One of the lads on our Macro Team, Matt Hedrick, knows his onions as it relates to European economies and emphasized the key risks to France in a note yesterday.  Some of the key negative trends include:

  • Public debt – pushing 91% (as a % of GDP) - France is above the level of 90% that economists Reinhart and Rogoff have indicated as destructive to growth;
  • Credit Rating – Fitch is the only main agency to maintain its AAA status. S&P is at AA and Moody’s at Aa1. We expect all three to be lined up at AA in 2013 and for this reduction in credit standing to weigh on its public finances, and put upward pressure on yields;
  • Competitiveness Drag – Hollande’s policy to tax the rich (75% on those making €1MM or more) is not only driving out his countrymen but sending negative investment signals to the business community. Hollande has moved the top rate of capital gains tax from 34.5% to 62.2%. For reference these levels compare with 21% in Spain, 26.4% in Germany and 28% in Britain;
  • Hamstrung Spending – we believe that Hollande will not be able to issue additional spending cuts due to push back on the street against austerity; and
  • Bank Leverage – French banks remain an outside concern due to their leverage to the periphery.

The research in this instance also supports the price as the CAC is broken in our quant models.  It is not totally surprising either, as some of the government policies in France seem a little dodgy.


Our immediate-term Risk Ranges for Gold, Oil (Brent), US Dollar, USD/YEN, UST 10yr Yield, and the SP500 are now $1, $117.21-118.92, $80.04-80.77, 92.71-94.48, 1.96-2.05%, and 1, respectively.


Enjoy your weekends and if you want to talk Europe, feel free to give us a bell.


As always, keep your head up and eyes on the blindside of the pitch,


Daryl G. Jones

Director of Research


Box of Frogs - Chart of the Day


Box of Frogs - Virtual Portfolio


TODAY’S S&P 500 SET-UP – February 15, 2013

As we look at today's setup for the S&P 500, the range is 16 points or 0.55% downside to 1513 and 0.50% upside to 1529.         














  • YIELD CURVE: 1.73 from 1.76
  • VIX  closed at 12.66 1 day percent change of -2.47%

MACRO DATA POINTS (Bloomberg Estimates):

  • G20 finance ministers and central bankers meet in Moscow
  • 8:30am: Empire Manufacturing, Feb., est. -2 (prior -7.78)
  • 9am: Total Net TIC Flows, Dec. (prior $27.8b)
  • 9:15am: Industrial Production, Jan., est. 0.2% (prior 0.3%)
  • 9:15am: Capacity Utilization, Jan., est. 78.9% (prior 78.8%)
  • 9:50am: Fed’s Pianalto speaks on economy in Florida
  • 9:55am: U. of Mich. Confidence, Feb., est. 74.8 (prior 73.8)
  • 1pm: Baker Hughes rig count


    • Senate holds cloture vote on Chuck Hagel as defense sec
    • 2pm: Council on Food, Agriculture and Resource Economics, Federation of Animal Science Societies discuss finely textured beef, or “pink slime”
    • 2:40pm: President Barack Obama to speak on economy in Chicago


  • G-20 seeks common ground on currencies
  • Paulson mulls vote against T-Mobile’s MetroPCS merger
  • Airbus to use standard battery for A350 to avoid lithium woe
  • JPMorgan said to cut traders, realign pay amid equities slump
  • Nasdaq proposes earlier start to U.S. pre-mkt stock trading
  • Lehman seeks to question JPMorgan London Whale over losses
  • McGraw-Hill credit rating cut by Moody’s after U.S. sues S&P
  • US Airways wins AMR after Horton said to wage bid to stay CEO
  • Okada to ask judge to halt Wynn Resorts mtg to remove him
  • Universal Music to sell Black Sabbath label to BMG Rights
  • Vevo seeking new investors beyond major record-label owners
  • Citigroup, others report credit card delinquencies/charge-offs
  • Rogers Communications CEO to retire; 4Q adj. EPS above ests.
  • Occidental board forms search committee for CEO successor
  • U.S. Home Sales, Draghi, Wal-Mart, Ifo: Wk Ahead Feb. 16-23


    • Telus (T CN) 6am, C$0.87
    • Wabco Holdings (WBC) 6:30am, $0.94
    • Kraft Foods Group (KRFT) 6:30am, $0.38
    • American Electric Power Co (AEP) 6:57am, $0.46
    • Enbridge (ENB CN) 7am, C$0.44
    • LifePoint Hospitals (LPNT) 7am, $0.65
    • Digital Realty Trust (DLR) 7am, $1.17
    • Burger King Worldwide (BKW) 7am, $0.15
    • JM Smucker (SJM) 7am, $1.40
    • VF (VFC) 7am, $3.04
    • TRW Automotive Holdings (TRW) 7am, $1.34
    • Senior Housing Properties Trust (SNH) 7:01am, $0.44
    • Ventas (VTR) 7:03am, $0.97
    • Campbell Soup (CPB) 7:30am, $0.66 - Preview
    • Alere (ALR) 7:30am, $0.56
    • Lincoln Electric Holdings (LECO) 7:52am, $0.73
    • Ultra Petroleum (UPL) 8am, $0.54
    • Brookfield Asset Management (BAM/A CN) 8am, $0.29
    • IPG Photonics (IPGP) 8am, $0.72
    • Cott (BCB CN) 8am, $0.06
    • Allete (ALE) 8:30am, $0.75
    • MFA Financial (MFA) 8:30am, $0.20
    • Industrial Alliance Insurance (IAG CN) 9am, C$0.74
    • Hawaiian Electric Industries (HE) 8pm, $0.31
    • NGL Energy Partners (NGL) Pre-Mkt, $0.82
    • Dundee Precious Metals (DPM CN) Post-Mkt, C$0.16


  • Billionaires Soros, Bacon Cut Gold Holdings as Price Slumps
  • Gold Bears Braced for U.S. to China Growth Recovery: Commodities
  • Zinc Rises as Meteorite Explosion Causes Damage at Russian Plant
  • WTI Crude Trims Weekly Gain; Open Interest Advances to Record
  • Gold Declines to Five-Month Low as Soros, Bacon Reduce Holdings
  • Wheat Advances as Price Drop Stokes Demand for U.S. Supplies
  • Sugar Rebounds as Prices May Have Fallen Too Far; Coffee Falls
  • Malaysia Raises Crude Palm Oil Export Tax to 4.5% for March
  • Oil May Fall Next Week Amid Ample U.S. Stockpiles, Survey Shows
  • Gold May Extend Decline to Below $1,600: Technical Analysis
  • Walking-Pace Trains Spur $17 Billion India Rail Revamp: Freight
  • Impala Bond Sale Bets on Platinum Revival: South Africa Credit
  • Climate Change as Source of Future Conflict Draws UN Attention
  • MF Global CFTC Proposal Said to Jeopardize Futures Brokerages


















The Hedgeye Macro Team





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The Macau Metro Monitor, February 15, 2013




On Feb 14, Macau welcomed over 155,000 visitors, an increase of 7.7% compared with the same period last year (CNY).  It was the second day in a row recording a growth slowdown.  Of the total tourist arrivals recorded yesterday, around 112,000 were from the mainland, up by 17.1% in comparison with the same period last year.  In the first five days of the Year of the Snake, Macau welcomed around 718,000 tourists, up by 17.7% compared with the same period last year.



Sales of new private homes in Singapore jumped by about 43% MoM, despite the latest round of cooling measures introduced last month.  According to the Urban Redevelopment Authority (URA), 2,013 units of new private homes - excluding executive condominiums - were sold in January, compared to 1,410 units sold in December 2012.



Macau Government Tourist Office (MGTO) Director Maria Helena de Senna Fernandes said she believed that the mainland’s Individual Visit Scheme would continue to benefit the development of tourism in the city.  Asked by reporters for her comments on travelers’ complaints about the long wait to cross the Barrier Gate checkpoint during the Chinese New Year holidays and the city’s visitor capacity, Fernandes said that the situation would be improved after some of the immigration halls were extended.


Asked by reporters as to whether people from more mainland cities should be allowed to visit Macau through the Individual Visit Scheme or whether it should be limited, Fernandes said that mainlanders using the scheme gave a major boost to the local economy.  The Individual Visit Scheme was first introduced in four Guangdong cities (Dongguan, Foshan, Jiangmen and Zhongshan) on 28 July 2003 as a liberalisation measure under the Closer Economic Partnership Agreement (CEPA).  The scheme allows residents of these cities to visit Hong Kong and Macau as individuals.

Fake it 'til You Make It

This note was originally published at 8am on February 01, 2013 for Hedgeye subscribers.

"To be a great champion, you must believe you are the best.  If you’re not, pretend you are.”

- Muhammad Ali


Last night Big Alberta (aka Daryl Jones) gave me the late look that I was to write this Early Look, so this morning I get to take extra creative liberties and subject you all to thoughts on my sector, Energy.


It’s a difficult space to make money in when oil prices aren’t going straight up, a la 2009 and 2010. 


Oil and gas companies – particularly the producers (E&Ps) – are highly promotional, as they have to be, in order to raise capital for what has become an incredibly capital-intensive industry.  In 2012, capital expenditures from S&P500 companies in the Energy sector were 39% of the index’s total; in 2000, they were only 12% (see Chart below).  Someone’s got to foot that bill, as the companies can’t do it on their own – the free cash flow yield of that same group was 0.0% in 2012, and if you back out a few cash cows like ExxonMobil and Royal Dutch Shell, you’ll find that most producers are not self-funding.


Nevertheless, in general, market participants hold the energy sector near-and-dear to their hearts.  Investors tend to anchor on recent history, and energy was by far the best performing sector over the last decade (XLE +200%).  And the sell-side knows what pays the rent – capital raises – so it’s not too surprising that Energy has the highest percentage of “buy” ratings and lowest percentage of “sell” ratings of all S&P500 sectors.


But is the love deserved?  Most E&Ps cannot generate a return greater than their cost of capital (aka “create value”), even with real oil prices near multi-decade highs and interest rates at multi-decade lows.  We shudder to think what a serious back up in rates would do to the sector…bankruptcy cycle?


But all is not lost (can’t get too cynical on a Friday)!  Among all the wealth destruction so colorfully described by activist investors in recent letters to the shareholders of Chesapeake (Icahn), Sandridge (TPG), Murphy Oil (Loeb), and Hess (Elliott), there are legitimate franchises and investment opportunities in the sector.  Over our long-term TAIL duration, we believe that select companies highly-levered to US natural gas prices will generate the best risk-adjusted investment returns in the space.


As we hover around nominal natural gas prices last seen on a consistent basis in the 1990s, it is a non-consensus view, so it needs some defending…


1.  Because natural gas is a local commodity, market fundamentals (supply, demand, and inventories) in North America impact prices in North America.  It is a remarkably efficient commodity market, and one which we can fundamentally believe in.  If we have a warm winter, natural gas prices go down – we get that.  We can’t necessarily say the same about global oil markets.


2.  In a world characterized by slow growth and tail risk, we think natural gas is a relative safe-haven.  If China has a debt crisis or the EU collapses, we will still heat our homes and turn our lights on.  US demand for natural gas is inelastic – in 2009 it fell only 1% compared to a 3% drop in US real GDP.


3.  Natural gas will continue to take power generation market share away from coal.  We estimate the natural gas demand from the power sector was +20% y/y in 2012, largely due to coal-to-gas switching and the retirement of aging coal plants.  At least 10% of existing coal-fired capacity is likely to shut down between 2012 – 2015 due to impending emissions regulations.


4.  Demand from the industrial sector should grow above GDP as new petrochemical, chemical, fertilizer, and steel plants come take advantage of the energy cost advantage in North America relative to the rest of the world.  As one example, Italy’s M&G Group announced last month that it will build the world’s largest single-line PET plant in Corpus Christi, Texas.  M&G remarked, “This is the largest PET investment ever in the western world and probably one of the largest investments recently announced in the US in the private sector.”


5.  Price is below the marginal cost of dry gas production, which we consider to be $4.50 - $5.00/Mcf, or the price at which producers can generate a positive return on a Haynesville Shale gas well.  We do think that we have seen the last of Haynesville Shale production growth.


6.  Longer-term, we are optimistic about new sources of natural gas demand: LNG exports and natural gas as legitimate transportation fuel.  With the right R&D and policy measures, both are economic and feasible, in our view.

We’re not going to give away the shop here, so if you’d like to discuss ways to invest in the thesis send us an email at  Further, on Wednesday 2/6 we’re going to host a Black Book presentation and conference call for institutional clients on Gulfport Energy Corp. (GPOR).  There we have a very non-consensus view.  For now, we’ll just say that it’s one of the more promotional companies in the space...  Email for details on that call.


Have a great weekend,


Kevin Kaiser

Senior Analyst 


Fake it 'til You Make It - EL chart


Fake it 'til You Make It - yup

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