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The Simplest Things

“Everything in war is simple, but the simplest thing is difficult.”

-Carl von Clausewitz

 

In hindsight, the perma Bull/Bear War in markets gets scored that way too. After the big moves, reasons for victory and defeat become simpler to understand.

 

Being a market strategist isn’t simple. You need to get to simple conclusions before the market does. And the deep simplicity of it all is born out of the complex. That’s why process matters. I’ve been highlighting the thought process of American Foreign Policy strategist George F. Kennan for the past few weeks. On #process, Chapter 11 (“A Grand Strategic Education”) of Gaddis’ Kennan biography, is a beauty.

 

“Kennan was struck by Clausewitz’s emphasis on psychologically disarming and adversary; finding the point at which the enemy realizes that victory is either too unlikely or too costly… the assailant weakens himself as he advances.” (George F. Kennan, pg 235)

 

Back to the Global Macro Grind

 

Relative to our current strategy on the US stock market, the enemy is the bear. Having been bearish plenty of times myself, I respect the physiological disarming process, big time. There is nothing worse than being squeezed.

 

With the SP500 tacking on another +2% last week to a fresh all-time daily (and weekly) closing high of 1614, the enemy is starting to give up on some core positions. You can see that by analyzing the Top 3 performing Style Factors on a 1-month duration:

  1. High Short Interest Stocks – 1-month price performance = +6.2%
  2. Consumer Discretionary Stocks (XLY) – the top performing Sector Style on a 1-month basis = +5.6%
  3. Technology Stocks (XLK) – 2nd best to Consumer on a 1-month duration = +5.0%

In other words, with employment, housing, and consumption #GrowthAccelerating in April (versus the 1-month head-fake of data slowing in March), what’s leading this market’s bullish charge are the simplest things associated with a growth. Gold doesn’t like growth.

 

Looking back at late March and early April, what was fascinating to us was how quickly consensus bulls got bearish. Since we consider ourselves Non-Consensus Bulls, this is a self-serving (and convenient) way to look at the market, in hindsight!

 

One way to look at consensus is via the net long positioning in non-commercial futures and options contracts. Going into last week’s melt-up in US Stocks, here’s how consensus was positioned:

  1. Uber long Treasuries at greater than +196,000 net long contracts (one of the highest positions of 2013)
  2. Way low in SP500 net exposure at less than +2,000 net long contracts (lowest position of 2013)

Consensus positioning wasn’t new – it was trending that way as Treasuries trended (higher) and SP500 (lower) throughout the middle of April. Many got sucked into the “March data is weak” narrative. Makes sense. Consensus sprints toward the last data point, whereas macro context wins the race.

 

Now what? The April economic data is undeniably better vs March – and that’s more in line with the intermediate-term TREND of the data that we have been signaling since late November, early December:

  1. NSA Jobless Claims hit a 5yr low last week at 324,000
  2. Commodities (CRB Index) and Oil (Brent) prices are -4% and -6% year-over-year, respectively
  3. Bloomberg’s Weekly Consumer Confidence Reading hit a 5yr high at 28.9

Confidence? Who in God’s good name in this country is actually confident? Aren’t we all supposed to be calling for the next crisis that most missed calling in early 2008? If people were as confident as I am right now, they wouldn’t be buying Treasuries as they make another lower-high versus their all-time bubble peak (November 2012).

 

What drives confidence? Does employment, housing, and consumption growth matter? How about the price of your home and stock market portfolio going up double digit year-over-year for the 1st time since 2006? If you want to broaden market trends beyond 3-6 months to year-over-year (y/y):

  1. SP500 = +16.1% y/y
  2. US Home Prices (Core Logic) = +10.3% y/y
  3. Gold = -10.9% y/y

How are end of the world ads for Cyprus, BitCoin, etc. doing this morning? That’s a confidence factor too. Some market it as “social mood.” Others sell fear in more ways than one. As George Kennan wrote in the late 1940s (when people in America were right petrified of anything they couldn’t see):

 

“We are in a peculiar position of having to defend ourselves against mortal attack, but yet not wishing to inflict mortal defeat on our attacker… We must be like the porcupine who only gradually convinces the carnivorous beast of prey that he is not a fit object of attack.” (George F. Kennan, pg 235)

 

So be the porcupine. Eventually these beastly bears will stop trying to scare the hell out of you; the perma bid for Treasuries will recede; and fear (VIX) might be priced at 10, 11, or 12 by then too. Then, the simplest of things will be to sell high, smile, and go away.

 

Our immediate-term Risk Ranges for Gold, Oil (Brent), US Dollar, USD/YEN, UST 10yr Yield, VIX and the SP500 are now $1, $98.81-105.24, $81.74-83.12, 97.59-100.13, 1.71-1.82%, 12.36-14.39, and 1, respectively.

 

Best of luck out there this week,

KM

 

Keith R. McCullough
Chief Executive Officer

 

The Simplest Things - Chart of the Day

 

The Simplest Things - Virtual Portfolio


SJM 1Q CONF CALL NOTES

SJM 1Q CONF CALL NOTES

 

 

CONF CALL NOTES

  • 40 of their Mass tables were reclassified as VIP tables during the quarter due to the high payout.  If not for the reclassification, then both Mass and VIP win would have grown about 10% YoY
  • Grand Lisboa:  also has 25 premium mass tables reclassified as VIP.  Without the reclassification, VIP would have grown 23.8% and Mass would have grown ~11%.
  • Working at full speed on the design of their Cotai project.  Expect the gazetting of the project to come soon.  Also expect that later this year they will be able to make an announcement for most of the details of their project.
  • Working on the redesign of the mezzanine floor to accommodate more mass tables at Grand Lisboa

 

Q&A

  • Hold adjusted EBITDA:  The 3.3% hold rate was due to the reclassification of tables by the government. If they consider the tables as normal VIP tables, their hold would have been 3.08%. 
  • Reclassification:  When they report their operating tables to the DICJ, if the max payout is equal to or more than HK$300,000, then they treat it as a VIP table vs. a mass tabls.  Can't really comment on why this has or hasn't impacted their competitors. 
    • This likely explains why certain properties have much higher reported VIP hold rates,although we don't know for sure. 
  • Thinks that Galaxy's acquisition of Grand Waldo was quite logical.  They aren't considering a similar move
  • Operating margin on both the Old Lisboa and Oceanus improved their margins due to a greater mix of mass margins
  • # of tables at Grand Lisbao: 203 VIP tables (189 by their classification) and 219 Mass tables (28 premium mass considered VIP)
  • 1714 total non-vip revenues; 6489 total VIP revenues, 300xx of VIP revenue is being reclassified as VIP. The reclassification only happened 50% through the Q, so the impact will be larger going forward but they will break it out. 
  • Why not convert more of their satellite to owned casinos?  The casinos aren't structurally up to par. Think it's better to focus their energies on making their existing casino structures better.
  • The reclassification happened last year but it only impacted 3 tables, but mass has gotten more material.
  • Mgmt accounting hold was 3.12% last Q.
  • They have had a recent impact because they have recently increased their premium mass table base.
  • VIP margin is only 7.7% and premium mass margins are over 40%. 
  • VIP hold rate from other self-promoted casino:  (Just old Lisboa since they don't have VIP at Oceanus) Don't have it at their finger-tips but it did go up

 

HIGHLIGHTS FROM THE RELEASE

  • Group Adjusted EBITDA: HK$2,129 million with margins of 9.7% (US GAAP: 17.2%)
  • If the Group’s revenue is further adjusted to include the net revenue of self-promoted casinos plus the net revenue contribution (after reimbursed expenses) of the Group’s Satellite Casinos, the Group’s Adjusted EBITDA Margin would be 28.8%.
  • Group Gaming revenue: HK$21,734 million
    • VIP gaming revenue: HK$15,137 million, an increase of 13.4%
      • Total VIP chips sales: HK$459.2 billion and the VIP gaming hold percentage 3.30% 
    • Mass market gaming revenue: HK$6,220 million an increase of 4.7%
    • Slot machine (and Tombola) revenue: HK$377 million, a decrease of 4.2% 
  • The Group’s total revenue of HK$21,892 million included hotel, catering and related services revenue of HK$158 million 
  • During Q1 2013 the Group operated an average of 653 VIP gaming tables (Q1 2012: 603),
    1,118 mass market gaming tables (Q1 2012: 1,165) and 3,531 slot machines (Q1 2012: 3,877)
    (average of three month-end counts).
  • Casino Grand Lisboa gaming revenue: HK$8,327 million and Adjusted EBITDA: HK$1,217 million
    • Hotel occupancy: 93.9% and ADR: HK$2,236 
  • Other Self Promoted casinos gaming revenue of HK$3,340 million and Adjusted EBITDA of HK$386MM
  • Satellite Casino revenue of HK$10,067 million and Adjusted EBITDA of HK$420 million
  • On 28 February 2013 gaming operations at Casino Jai Alai, which consisted of 14 mass market
    gaming tables and 84 slot machines, were suspended due to the renovation of the Jai Alai Palace.
  • Cash: HK$27,661 million and debt: HK$1,672 million 
  • Capital expenditure of the Group during Q1 2013 was HK$131 million, which was primarily for
    furniture, fixtures and equipment, and leasehold improvements

THE M3: S'PORE LOCALS EXCLUSION; GALAXY BUYS GRAND WALDO; PACQUIAO

The Macau Metro Monitor, May 6, 2013

 

 

MORE LOCALS, FOREIGNERS BANNED FROM MBS, GENTING CASINOS Strait Times

More than 15,600 were issued third-party exclusion orders for the 10 months leading to March, taking the total to 43,519, about 1.5x the 27,882 at the end of May last year.

 

The increase came largely as a result of some 15,000 people being banned by the Government because they were receiving financial aid from the Ministry of Social and Family Development's (MSF) ComCare, or had defaulted on the Housing Board's rental payments.

 

GALAXY TO TIGHTEN MACAU HOLD WITH GRAND WALDO BUY The Standard, Macau Business

Galaxy Entertainment will buy the Grand Waldo hotel complex in Macau for HK$3.25 billion.  Selling the Cotai Strip hotel complex to Galaxy will be units of Get Nice Holdings.  Grand Waldo hotel has 316 guest rooms, 23 gaming tables and 15 VIP gaming tables. 

 

Get Nice has agreed to stop hotel and casino operations in Macau in order to avoid competition.  The firm said it will use HK$890 million of the net proceeds for development of new investment opportunities and the remainder will be used for expanding existing financial businesses.

 

Galaxy Entertainment said the acquisition “is a strategic investment and is expected to have synergistic effect” on the group’s development in Cotai.  Grand Waldo is located across the road from Galaxy Macau, in Cotai.

 

PACQUIAO TO FIGHT AT VENETIAN Macau Business

The date and the venue for the ring return of Philippine boxing hero Manny Pacquiao have been confirmed. Pacquiao’s adviser Michael Koncz told the Manila Standard that the fight would be at The Venetian Macao, on November 24.


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THE HEDGEYE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP – May 6, 2013   

 

As we look at today's setup for the S&P 500, the range is 34 points or 1.51% downside to 1590 and 0.59% upside to 1624.

                                                                                               

SECTOR PERFORMANCE


THE HEDGEYE DAILY OUTLOOK - 1

 

THE HEDGEYE DAILY OUTLOOK - 2

 

EQUITY SENTIMENT:


THE HEDGEYE DAILY OUTLOOK - 10


CREDIT/ECONOMIC MARKET LOOK:

  • YIELD CURVE: 1.52 from 1.52
  • VIX  closed at 12.85 1 day percent change of -5.45%

MACRO DATA POINTS (Bloomberg Estimates):

  • Vornado Realty Trust (VNO) 5:17pm, $1.71
  • Otter Tail (OTTR) 6pm, $0.34
  • 9am: ECB’s Draghi speaks at university ceremony in Rome
  • 11am: Fed to purchase $2.75b-$3.5b debt in 2020-2023 sector
  • 11:30am: U.S. to sell $29b 3M bills, $24b 6M bills
  • Rates Weekly Agenda

GOVERNMENT:

    • House, Senate in session
    • Senate votes on bill that would let states impose sales taxes on out-of-state sellers, including online and catalog retailers
    • Washington Week Ahead

WHAT TO WATCH

  • JPMorgan investors urged to split chairman, oust directors
  • Alibaba seen avoiding Facebook flop with IPO below $100b
  • BMC said close to being taken private by Bain, Golden Gate
  • Goldman Sachs hire accused of secrets theft by Credit Suisse
  • TPG, Warburg said to consider both sale, IPO for Neiman
  • N.Y. plans new claims after JPMorgan mortgage suit template
  • GM plans to invest ~$16b in U.S. factories, facilities by 2016
  • Euro-area services, manufacturing shrink less than estimated
  • Intel to buy Finland’s Stonesoft for $389m in cash
  • Senate expected to vote on onlne sales-tax collection bill
  • Berkshire plans for life after Buffett at annual mtg
  • HP accused in lawsuit of ignoring Autonomy accounting warnings
  • Cameron said to speed up patent process to boost U.K. economy
  • “Iron Man 3” is 2nd-best opener w/ $175.3m in sales
  • U.S. Weekly Agendas: Finance, Industrials, Energy, Health, Consumer, Tech, Media/Ent, Real Estate, Transports
  • North American M&A Agenda
  • Canada Weekly Agendas: Energy, Mining
  • Bernanke, G-7, Pakistan Vote, News Corp.: Wk Ahead May 6-11

EARNINGS:

    • National Health Investors (NHI) 6am, $0.80
    • Westlake Chemical (WLK) 6am, $1.28
    • Gran Tierra Energy (GTE) 6am, $0.16
    • American Realty Capital (ARCP) 6:25am, $0.17
    • Apollo Global Management (APO) 7am, $1.23
    • Tyson Foods (TSN) 7:30am, $0.45
    • Mobile Mini (MINI) 7:30am, $0.22
    • E.W. Scripps (SSP) 7:30am, ($0.06)
    • Sysco (SYY) 8am, $0.43
    • PNM Resources (PNM) 8:30am, $0.20
    • NIC (EGOV) 4pm, $0.10
    • Vantiv (VNTV) 4pm, $0.30
    • WMS Industries (WMS) 4pm, $0.26
    • Martin Midstream Partners (MMLP) 4pm, $0.50
    • Alnylam Pharmaceuticals (ALNY) 4pm, $(0.28)
    • Frontier Communications (FTR) 4:01pm, $0.06
    • Hologic (HOLX) 4:01pm, $0.34
    • ProAssurance (PRA) 4:01pm, $0.76
    • Norwegian Cruise Line Holdings (NCLH) 4:01pm, $0.03
    • Retail Properties of America (RPAI) 4:01pm, $0.22
    • DCP Midstream Partners (DPM) 4:01pm, $0.64
    • Hudson Pacific Properties (HPP) 4:01pm, $0.22
    • STAG Industrial (STAG) 4:01pm, $0.32
    • Protective Life (PL) 4:01pm, $0.93
    • First Solar (FSLR) 4:02pm, $0.75 - Preview
    • Colony Financial (CLNY) 4:02pm, $0.33
    • Prospect Capital (PSEC) 4:03pm, $0.31
    • Parkway Properties (PKY) 4:04pm, $0.27
    • Anadarko Petroleum (APC) 4:05pm, $0.95
    • Plains All American (PAA) 4:05pm, $0.96
    • Santarus (SNTS) 4:05pm, $0.14
    • Interval Leisure Group (IILG) 4:05pm, $0.40
    • Insulet (PODD) 4:05pm, $(0.21)
    • Ruckus Wireless (RKUS) 4:05pm, $0.04
    • Forest Oil (FST) 4:05pm, $0.02
    • Energy XXI Bermuda (EXXI) 4:05pm, $0.48
    • PAA Natural Gas Storage (PNG) 4:07pm, $0.23
    • Sunstone Hotel Investors (SHO) 4:15pm, $0.09
    • Legacy Reserves (LGCY) 4:30pm, $0.30
    • Scotts Miracle-Gro (SMG) 4:35pm, $2.00
    • First Quantum Minerals (FM CN) 5pm, $0.28 - Preview
    • Tesoro Logistics (TLLP) 5pm, $0.48
    • EOG Resources (EOG) 5:01pm, $1.19
    • PS Business Parks (PSB) 5:03pm, $1.22
    • Liberty Global (LBTYA) 5:07pm, $0.24

COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)

  • WTI Rises to One-Month High as Syria Says Attacked by Israel
  • Gold Bulls Split With Buffett as Traders Say Sell: Commodities
  • Palm Stockpiles Dropping to Nine-Month Low Seen Boost for Prices
  • Gold Advances for Third day Toward Highest Price Since Rout
  • Vietnam’s Central Bank Imports Gold to Bolster Official Reserves
  • U.S. Winter-Wheat Crop to Fall to Two-Year Low, Survey Says
  • Palm Oil Ends Near Three-Year Low as Ringgit Gains on Elections
  • Copper Drops on Comex After Jumping Most Since ’11; Shanghai Up
  • Gold ETF Tumbling as Agriculture Fund Rallies: Chart of the Day
  • Saudi Aramco Raises June Light Crude Premium for Asian Buyers
  • EU Pollution Push in Disarray as Crisis Focus Sharpens: Energy
  • Golden Agri Seen Cheap LBO Target After Palm Oil Drop: Real M&A
  • Dollar Seen Rising 9% by Dealers Citing U.S. Growth: Currencies
  • Gold Seen Tumbling Toward Support at $1,227: Technical Analysis

THE HEDGEYE DAILY OUTLOOK - 5

 

CURRENCIES


THE HEDGEYE DAILY OUTLOOK - 6

 

GLOBAL PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 3

 

THE HEDGEYE DAILY OUTLOOK - 4

 

EUROPEAN MARKETS


THE HEDGEYE DAILY OUTLOOK - 7

 

ASIAN MARKETS


THE HEDGEYE DAILY OUTLOOK - 8

 

MIDDLE EAST


THE HEDGEYE DAILY OUTLOOK - 9

 

 

The Hedgeye Macro Team

 

 

 

 

 

 

 

 

 

 


THE WEEK AHEAD

The Economic Data calendar for the week of the 6th of May through the 10th 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.

 

THE WEEK AHEAD - WeekAhead


Investing Ideas Newsletter

Takeaway: Current Investing Ideas CAG, DRI, FDX, HOLX, MPEL, WWW

Investing Ideas Updates:

  • CAG: Consumer Staples sector head Rob Campagnino says it’s been a busy week for earnings reports in his sector.  With investors preoccupied with conference calls, “we don’t want CAG to fall into investors’ blind spots for lack of news flow.”  In fact, says Campagnino, the continued decline in the commodity complex helps ConAgra more than the average company.  CAG is now the largest private label food manufacturer in the US.  Campagnino notes that “private label tends to benefit disproportionately from lower input prices” and says this gives CAG a strategic choice: lower prices to gain market share, or maintain prices and drive profitability.  Or to use a two-pronged approach selectively across their markets.  Says Campagnino “lower input costs should put CAG in the driver’s seat.” (Please click here for the latest Stock Report on CAG.)

 

  • DRI: Restaurants sector head Howard Penney says Darden Restaurants suffers from a clear “leadership deficit.”  In fact, a fundamental part of his bullish case is that this collection of brands deserves better management – and in this environment, someone is likely to force it on them.  With such leading brands as Red Lobster and Olive Garden in its portfolio, you’d think DRI would have a few fans among the investment crowd.  Particularly with strengthening consumer numbers across the US economy, wouldn’t you think casual dining would be a sure bet?  When DRI got up to present at the Barclay's conference this week, the moderator mentioned that, out of 1,000 professional investors represented in attendance, 745 do not own a share of DRI.  This is not “pent-up demand” or “cash sitting on the sidelines” just waiting for DRI to hit the right price so they can pounce.  This is some 70% of the professional investment community that don’t want to get involved with a management team they have no confidence in.  Penney says DRI simply “can’t run 8 brands efficiently.”  In fact, they can’t run one.  Penney says the Olive Garden brand is a floundering flagship that has become so complex it detracts from the core business.  “Darden needs to change its strategy,” says Penney, suggesting “shareholders need to find a management team that will.” (Please click here to see the latest Stock Report on DRI.)

 

  • FDX – Industrials sector head Jay Van Sciver points to TNT Express, whose earnings report this week “continued to show the challenges of being a distant fourth” in the global express market.  Van Sciver thinks FedEx’s relatively weak presence in Europe means a business combination between FDX and TNT “may be in the best interest of both parties.”  Van Sciver says Wall Street analyst valuations of FDX only reflect the company’s Ground and Freight business.  Last week Van Sciver called this valuation analysis “a free option on the success of the FedEx Express restructuring.”  With TNT possibly in need of a strong partner, this could be just the express freight package the doctor ordered. (Please click here to see the latest Stock Report on FDX.)

 

  • HOLX: Health Care sector head Tom Tobin says Q1 may have been the strongest quarter Hologic’s segment has seen in some time.  New mammography unit placements grew the first time year-over-year since the third quarter of 2008 and Tobin’s proprietary “Tomo Tracker” shows HOLX’ Tomo machine placements up 50% since last quarter, when HOLX reported weakening Breast Health trends and its biggest annual revenues drop since 2010.  HOLX stock has lagged both the S&P and much of the Health Care sector since then.  Tobin thinks the weakness will be short-lived, saying the consensus for HOLX’ upcoming earnings is too bearish.  Tobin likes current prices as an entry point to buy HOLX stock.  He believes a bad quarter is already priced in.  And he doesn’t believe they are about to report a bad quarter. (Please click here to see the latest Stock Report on HOLX.
  • MPEL: Melco Crown Entertainment remains one of Gaming, Lodging & Leisure sector head Todd Jordan’s favorite names “with the catalyst of a terrific Q1 earnings release looming.”  (Please click here to see the latest Stock Report on MPEL.
  • WWW: Likewise, one of Retail Sector Head Brian McGough’s favorite names in his space is Wolverine World Wide. (Please click here to see the latest Stock Report on WWW, which you received by email earlier this week.)

 Investing Ideas Newsletter - LEVELS II fixed

 

Macro Theme of the Week – Mo’ Better Data

For the record, we love to say “We told you so!”

 

As we go to press, the Nonfarm Payrolls number rose more than expected.  Official unemployment now stands at a four-year low of just under 7.5%.  (Click here to read Hedgeye’s note from January 23).  As far as we know, we were the only observers predicting that unemployment would drop into the Bernanke Fed’s newly-created target range below 7%. 

 

OK, so we’re patting ourselves on the back for being right.  But we also want you to get a peek under the hood and see how Hedgeye’s process hangs together.  We’re proud of the fact that we time-stamp our research and our trade calls.  Sometimes we’re right.  Sometimes we’re wrong.  At all times, we try to remain transparent.

 

Welcome to Wall Street 2.0.

 

Jobs: If It Works, Don’t Not Count It

We just told you that Employment rose in April a lot more than people expected.  But remember that the Jobs picture is not a single number.  There are different forms of Employment, and there are a variety of measures of Unemployment.  On both fronts, things are looking very good indeed. 

 

Unemployment dropped this week, as measured by the Initial Claims count – people filing for unemployment insurance for the first time after losing a job.  Actually, “plummeted” would be more accurate.  Initial jobless claims were down 18,000 for the week ending April 27th, to 324,000.  This is the lowest initial claims number since January 2008.  Hedgeye Financials sector head Josh Steiner, who tracks such statistics, says “improvement in initial claims readings is diverging to the upside.”  In other words, the rate at which things are getting better is getting better. 

 

Steiner says the last four weeks show “a notably positive divergence,” with the last two weeks showing “the sharpest improvements.”  Steiner looks primarily at Non-Seasonally Adjusted (NSA) initial jobless claims as a more straightforward measure (the government emphasizes Seasonally Adjusted in their reporting.)  To build an investment thesis we need not just a good number, but a good trend.  NSA initial jobless claims dropped -3.8% two weeks ago, -6.2% last week, and -8.6% this week.  In other words, this week’s rolling NSA initial jobless claims were 8.6% lower than for the same period a year ago.  This “improving improvement” – improving, and at an improving rate – is definitely “Mo’ better jobs data.” 

Improvement in the jobs picture also has implications for financial stocks, where Steiner says “the strength in the underlying labor market over the last few weeks is strong enough to more than offset the seasonality distortions.”  The combination of strong labor statistics, plus continued recovery in housing (see below) is “turning the sell-in-May dynamic on its head” for Financials that benefit from – guess what? – strong employment and strong housing. 

 

Steiner cautions that historical models are based on a small number of data points, making statistical modeling uncertain, but “every economic cycle since the late 1970s has seen jobless claims trough at around 300K.”  The actual number is an average of 288,000 initial jobless claims, tracing bottoms from 1978 through 2006.  We’re still substantially above that level – leaving potential room for unemployment to fall significantly, if this up-cycle mirrors historical behavior.

 

Housing

Steiner says homeownership levels are “mean reverting” to long-term equilibrium levels.

Mean Reversion is a statistical concept that most people need to understand – because most people don’t want to believe it exists.  The fact is that Mean Reversion explains an awful lot of what you thought was Free Will, not to mention the economy.

 

If you’ve ever gone on a diet, you probably experienced Mean Reversion.  Most people have what medical folks call a “set weight,” the long-term average weight they tend to maintain.  You can go on an eating binge and gain ten pounds, but you will likely shed most of it over the next few months and return to more or less your “set weight.”  You can go on a diet and be thrilled when the scale shows you have lost ten pounds.  But try as you might, over the next few months, your weight will likely creep back to your “set weight.”  You have just experienced Mean Reversion, the statistical principle that, over long periods of time, most things tend to get back to where they pretty much have always been.

 

Observers of the housing market are concerned, saying that home ownership has “fallen to 1995 levels.”  They are also confounded by what appear to be conflicting statistics: home ownership is declining, but housing prices are on the rise.  The reality, says Steiner, is that housing is returning to a long-term equilibrium state. 

 

The increase in home ownership from 1 was a statistical blip caused by home mortgage lending standards and loan practices by financial institutions that were “loose,” “irresponsible,” “wacko,” “criminal,” or (fill in the blank yourself).

Today demand for new homes is rising, and prices are shooting ahead based on a lot less new construction than we saw in the bubble years.  Builders cut back their operations, with knock-on effects all down the supply chain.  This has led to recent spikes in the prices of key inputs for home construction, like lumber and labor.  Steiner notes that even distressed homebuilders such as Beazer Homes (BZH) now expect to be profitable in the second half of 2013, which bodes well for the overall Consumer picture – not to mention Steiner’s own sector, financial stocks.

 

Steiner expects homeownership levels to decline a bit more before settling in at what he considers a fair long-term Mean Reversion level at around the historical average of 64.4%.  This would be about a 4%-5% drop from the highs of the bubble years, but the historical average is associated with lots of market stability.  (This is a good moment to remind you that stock prices tend to go down in periods of uncertainty.)

 

The Homeownership Rate, as defined by the Census Bureau, means the percentage of homes that are owner-occupied (not the percentage of families that own their own home).  Homeowners as a group tend to have larger families and be higher earners.

 

“Households were growing at a healthy clip” during 1, says Steiner.  But the number of home owners was growing much faster, and not all were resident owners or people with higher incomes.  We are all familiar with stories about cleaning ladies and window washers who were given seven-figure “NINJA” mortgages (No Income, No Job or Assets) to buy second or third homes as “investments.”  In the aftermath of the housing bubble, the Mean Reversion decline in home ownership does not signal a disruption of new family formation, nor of new job creation.  Think of it more like a healthy body expelling an infection.

 

Finally, President Obama has nominated Congressman Mel Watt to head the housing finance agency, a perch that would have him overseeing the Fannie Mae and Freddie Mac.  Obama has praised Watt for his efforts on behalf of the consumer, particularly for his work on behalf of low-cost housing.  Washington Republicans – joined by not a few on Wall Street – think “it is a bridge too far to believe that Republican senators are going to confirm a Democratic politician” to oversee the nation’s mortgage finance agencies. 

 

Whatever your politics, Steiner says that if Watt is confirmed it would mark another significant positive catalyst for the housing market because he would facilitate underwater principal forgiveness for borrowers with Fannie/Freddie mortgages (roughly 40% of homeowners) – a move the current director has prevented.

 

In short: housing seems very well on track, even if in the short term it looks like numbers are going down.  Keep your eyes on the prize of long-term growth and stability in the economy and let the politicians do what they do best – worry about covering their Fannie.  

 

Sector Spotlight – Health Care: Why A Deductible?

In the Marx Brothers’ “The Cocoanuts,” Groucho explains a real estate project to Chico and tells him there will be a viaduct from the peninsula to the mainland. 

 

“Why a duck?” asks Chico.  “Why not a chicken?”

 

If they read the academic literature – which Health Care sector head Tom Tobin has – corporate CFOs and benefits executives might be asking a similar question: Why a deductible?

 

Healthcare companies have been blaming poor Q1 revenues on the growing use of high deductible health plans (HDHP) which have gained in popularity as a way for employers to save money on their health insurance costs.  HDHPs benefit employers up front, by shifting the expense of health care to the employee.  But to the extent HDHPs affected health care revenues over the last few years, including these Q1 complaints, says Tobin, “there’s no evidence it works, and if it does, that headwind appears likely to reverse into a tailwind” before long. 

 

Tobin says health care is one sector with exceptionally “poor visibility,” with little understanding as to why people do not show up for their appointments. Which doesn’t stop companies looking for causal factors – this year they are blaming HDHPs, gasoline prices and payroll taxes, among other demons.

 

But wait.  There’s more.

 

Because the HDHP tailwind could reverse and become a headwind. 

 

Tobin says many in the industry appear to believe the drop in utilization from HDHPs is permanent, but he believes providers will likely be surprised when utilization turns back up.

 

Academic studies indicate the decline in health care utilization from HDHPs, at least where it can be effective, is almost all felt in the first year.  By the second year, the reduction is so small as to be statistically insignificant across total health spending.  By year three, growth could actually return to normal.

 

HDHPs often use tax-advantaged employer funded personal savings accounts for employees to use to offset a portion of the increased deductible cost.  Says Tobin, health care consumers are at least as smart as the insurance companies.  He expects where an employee has a choice, they will opt for the HDHPs if they foresee major expenses – a chronically obese person planning gastric bypass surgery, a woman planning to have a baby – because many of these plans, though they charge more up front, get to 100% coverage much faster than standard employer policies.  This may become an unpleasant surprise for employers and insurers who pushed HDHPs on their employees.

 

Says Tobin, “If a dollar of increased cost sharing led to more than a dollar of cost reduction, it will be true in reverse as well.”  The string of disappointments in Q1, with a number of healthcare companies not meeting their earnings targets, could flip over into a “surprisingly” strong Q2… and beyond.

 

Not to be outdone by reams of academic research, Tobin has a less complicated reason why Q1 revenues were soft: the historically mild winter of 2012.  When the weather is mild, people don’t cancel and reschedule doctor appointments, so there is no “roll-forward” effect on revenues.  Looking back to a mild winter in 2011-2012, Tobin notes there was a strong Q1, followed by a weak Q2.  This year he expects the pattern to reverse: a weak Q1 should be followed by strong revenues in Q2.  If only corporate CFOs and Wall Street analysts could wait that long!

 

Major corporate benefits consulting firms produced huge studies, selectively promoting conclusions, and touting the benefits of HDHPs.  This got a number of companies to sign up for the plans in 2009-2011, though adoption started slowing last year, which may be a sign that the benefits aren’t so clear in real life as they are in a PowerPoint presentation.  Despite high fees being paid to benefits consultants, Tobin says the data is tough to penetrate.  Most CFOs – and most health care providers – have no way of predicting what insurance usage rates will be.  One piece of advice: if you want to save money on your employees’ insurance, arrange for lots of bad weather.

 

Corporate HR and financial executives may want to quote Groucho when they meet with their high-priced benefits consultants: “The next time I see you, remind me not to talk to you.”


Investment Term: Quantitative Easing, or: On Beyond Zero

“My inflation record is the best of any Federal Reserve chairman in the postwar period.”

-         Ben Bernanke

 

Fiscal Policy is when the government establishes tax rates and budgets and decides how money will be spent.  Monetary Policy is when the central bank establishes targets for interest rates and attempts to coax the financial markets towards those targets to manage inflation.

 

The Federal Reserve – the US central bank – runs monetary policy through Open Market Operations, buying or selling US Treasury bonds in the marketplace, putting additional money into circulation (“easing”), or taking it out (“tightening”), to adjust interest rates.  Bond interest rates go up when the prices go down and go down when prices rise.  Since Treasurys are by definition the interest rate benchmark, buying lots of them drives up the price – and drives down overall interest rates throughout the economy.  And vice versa when the Fed sells lots of Treasury bonds, sucking cash out of the system and driving rates higher.

 

Former Fed Chairman Alan Greenspan spread cash liberally to stimulate growth in the economy through rock-bottom interest rates.  Starting in 2011, Greenspan started pumping cash into the markets in an extended response to the tragic events of 9/11 and their lingering economic impact.  By 2004, Greenspan had worked the Fed Funds rate down to 1%.  The “Fed Funds” rate is the benchmark.  It is the interest rate at which banks lend and borrow among themselves, using the Federal Reserve as their banker – the “lender of last resort” – an expression that has gotten way too much airtime in recent years.

 

Interest rates are the price the market charges you to use money.  In an easing scenario, the Fed wants to make money cheap in order to stimulate spending and grow the economy.  Greenspan’s heir, Ben Bernanke, inherited interest rates that were already at around 1%, so when he decided the economy needed further stimulus, there was not much room to ease.  Standard open market operations can’t bring interest rates below Zero, so Bernanke had to figure out a way to pay banks to keep their own money.  Taking a page from an economics textbook that had not yet been written, the Fed initiated a program of Quantitative Easing, or “QE.” 

 

Simply put, QE means buying a variety of financial assets besides Treasurys, not as a way of directly setting interest rates, which open market operations do in the Treasurys market, but as a way of putting more money to work in the economy.  The aim of QE is to flood the markets with cash to stimulate lending, borrowing and economic growth.  Right now, Bernanke’s QE program consists of the Fed buying $85 billion a month of various bonds.  This week Bernanke said Congress (fiscal policy) is hurting economic growth.  This means QE may actually expand if the Fed believes the economy needs a stronger dose.

 

Bernanke is only slightly less deadpan in his delivery than his predecessor, but he is often easier to understand.  To his credit, he is on record from the early days of QE as saying “we are in uncharted territory,” acknowledging there is no assurance that QE will work.  Some observers believe it was awfully shrewd of Bernanke to move the goalpost, targeting unemployment at 6%, rather than any particular interest rate levels before it terminates QE.  Others think this is positively daft.

 

But if Bernanke has already crowned himself World Heavyweight Champion on inflation, what’s left if not Employment?

Hedgeye was the first to go on record saying Bernanke will get his “6-handle” a lot sooner than anyone expected.  Jobs are up, Unemployment is down.  Housing is up.  Consumption is up.  Did QE work?  Talk is that Bernanke will step down by the end of this year and no doubt wants to go out on a high note.  This explains how all our tax dollars keep turning into Zeroes.

 

If you didn’t know, now you know.


Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.28%
  • SHORT SIGNALS 78.51%
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