“Money is one of the shatteringly simplifying ideas of all time; it creates its own revolution.”
That’s the opening quote to an important book I started reading this week, The History of Money, by Jack Weatherford. The book’s first paragraph goes on to ring the Gold bull bell with “The Dollar is dying; so too are the Yen, the mark and the other national currencies…”
When it was published in 1997, Charles Schwab called this “the book to read.” And I agree, you should read every economic history book you can get your paws on – your hard earned money is too important to leave to the people opining on it from Washington.
The shatteringly simple observation about money is context. Its history is at least 3,000 years old. And when debating it, consensus tends to cram its craw into the moment in which it lives. The Dollar isn’t dead this year; it’s breaking out from a 40 year low. The Yen didn’t die after 1997 either (it ended up hitting a 40 year high by 2011). Everything, including the value of your moneys, is relative.
Back to the Global Macro Grind…
After another shatteringly strong string of US economic data points (starting last Thursday with US roiling jobless claims hitting another YTD low and culminating with a blockbuster New Orders component of yesterday’s ISM report for August), yesterday’s US stock market ripped a +1% morning move to the upside and Treasury bonds continued to collapse.
Up for the 4th consecutive week, another #StrongDollar move was nipping on the heels of #RatesRising too. Consensus isn’t positioned for that, so I loved it. Then, all of a sudden, the most bearish catalyst of all hit the tape – a US politician’s opinion.
In the last year, there have been very few market risks that have scared me more than US central planners intervening during critical periods of market entropy. Going back to November of 2012 (when bond yields bottomed), Boehner’s voice was as market bearish as any you could find. He was the bearish factor yesterday too – the whole thing is just plain sad to watch.
Back to the economic gravity part…
- New Orders (in the ISM report for August) hit a monster shot of 63.2! yesterday (vs 58.3 in July)
- Go back to 2003 (see Chart or The Day) and look at how quickly economic gravity shocked growth bears to the upside
- Not unlike 2000-2002, consensus has become shatteringly bearish about growth; it’s a lagging indicator
To be clear, there’s a big difference between consensus being bearish and Mr. Market’s bullish opinion. While yesterday’s intraday gains in the SP500 were cut in half, the decliners were led by the slow-growth sectors (gainers were once again all about growth):
- Slow-Growth Utilities (XLU) got smoked again (after being down -5% for AUG), leading losers on the day at -1.2%
- Dividend Yield Chasing Consumer Staples (XLP) were down -0.1% in an up market as well (XLP -4.5% in AUG)
- Nasdaq (QQQ) +0.63% and Financials (XLF) +0.9% led gainers, as they have throughout 2013
In other words, if you are bummed out about Kimberly Clark (KMB) or Kinder Morgan (KMP) not getting you paid on the principal appreciation side of the equation, that’s just too bad. This Bernanke Yield Chaser style factor was as much a bubble as Gold was.
#RatesRising for the right reasons (growth expectations rising), is public enemy #1 for overvalued, slow-growth, securities. Whether it feels right or not, money chases positive returns. It flows away from draw-down risks.
Since I’m already out of everything Commodities, Fixed Income, and Emerging Markets (0% asset allocations), I have had relatively low stress on the draw-down risk side of big macro asset class moves in 2013 (Gold bounced, but is still -17% YTD and bonds are getting smoked), but that doesn’t mean I can afford to give up a lead for the sake of being beholden to this great growth data.
There are 3 big Macro things that would get me out of being long growth equities:
- If #StrongDollar snaps its long-term TAIL risk line of $79.11
- If #RatesRising stops and the 10 yr UST Yield breaks 2.44% @Hedgeye TREND support
- If #GrowthAccelerating Style Factors (like Nasdaq diverging from the Dow) reverse and break TREND
Johnny one-time Boehner’s intraday comments mattered because they kept the #1 risk to what’s been strong US consumption growth in play. It’s called an Oil tax at the pump. And Putin likes it.
The best way for Obama to pulverize Putin in St. Petersburg this week would be to stick a weapon of mass currency appreciation in his grill. If I was advising the President, I’d have him bring that #StrongDollar ace to the table – and maybe say something like this:
“Vlad, if you don’t tone this down, I am going to taper, then tighten – and if you don’t think I can get Summers to do it, try me – your little Petro-Dollar Putin power problem will look like Fukushima, and fast.”
But that’s just me – I’m a doer type of a guy who likes to make decisions without asking the bureaucracy of the world for its opinion. I’d like to see a US President build a #StrongDollar, Strong America revolution on the back of your hard earned currency.
Our immediate-term Macro Risk Ranges are now:
UST 10yr Yield 2.73-2.93%
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
THE MACAU METRO MONITOR, SEPTEMBER 4, 2013
AMBROSE SO SAYS BAN ON CASINO SMOKING IS IMMINENT Macau Daily Times
Ambrose So, SJM's CEO said a total ban on smoking is imminent and that the gambling giant is not worried about the potential fall of its market share, as it is not "a key index". So said that SJM is trialing smoking rooms in the smoking areas in its casinos, and the government encourages this practice. However, he acknowledged that it is not easy for all SJM casinos to reach the government’s standard of air quality. The CEO pointed out that some older casinos have lower ceilings, and that it is harder for those to pass the air quality test. He urged the government to make special considerations and, if possible, exempt those gambling venues from air quality-related fines.
Moreover, So said that it would actually be more financially beneficial if the government simply declared a ban on smoking in casinos, so that operators do not need to buy extra equipment to cope with the interim period.
As for the issues surrounding the location of some slot machine venues, So said some venues would be removed in accordance with the government’s timetable. SJM is now looking for new locations for these venues. However, if the group cannot secure new sites, they will temporarily close the venues. So is not worried about the revenue, as slot machines only account for a very small proportion of SJM’s profits.
SANDS CHINA EXEC DAVID SISK RESIGNS AMID SHAKE-UP WSJ
Sisk, formerly Sands China's COO, was asked to resign, said people familiar with the matter. From the beginning, there was a power struggle between current CEO Ed Tracy and Sisk, who both aspired to become Sands China's new CEO, said one of the people familiar with the matter. Tracy won the CEO appointment in July 2011.
Sisk's departure follows the resignation Friday of Hugh Fraser, who served as vice president of casino operations across Sands China's four Macau properties. Fraser is moving to Australia to become the general manager of gambling operations at The Star in Sydney. In June, Andrew Billany, formerly senior vice president of Sands China's high-end Plaza Casino and Paiza operations, left the company to become Senior Vice President of Operations for SJM Cotai. LVS CFO, Ken Kay, stepped down on July 31.
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We like KKD on the LONG side, as the company fits our strategy of looking for small cap growth companies with strong business models and growth prospects. Over the past three years, the company has transformed itself into a strong regional brand and asset-light business with unique global growth potential.
Our KKD LONG thesis consists of three key tenants:
- International growth opportunity
- Accelerating U.S. unit growth
- The strong financial profile of the company
International Growth Potential
Since opening the first international store 11 years ago, international stores have grown to 532 and most recently, since 2007, have grown from only representing 31% of KKD’s total store count to approximately 69% today. International revenues now account for nearly 43% of system wide sales. In aggregate, Krispy Kreme stores are present in 21 countries outside of the United States and we believe this international presence and growth potential puts the company in a rare position within the restaurant segment. The company plans to increase the number of international shops to 900 by January 2017. This, alone, implies an increase in system wide sales of approximately +28% by January 2017. As of the end of 2Q14, total franchise commitment for international development stands at 350.
Over the past three years, the majority of the international development efforts have been in Asia and the Middle East. In FY13, new international franchise agreements have already been signed with franchisees in Moscow, India and Singapore. We will see further expansion and expect to hear about franchise efforts on new markets, including Europe and South and Central America, in the coming months.
Accelerating U.S. Growth Unit
The success of the international growth model is helping to jumpstart domestic unit growth. Over the past three years, the KKD international franchisees have pioneered the initial development of smaller, satellite shop formats and this success has been translated to the U.S. growth model.
In January, KKD opened up five of these smaller format shops in the U.S. and the results did not disappoint, as the company reported strong sales and operating performance from the shops. The company plans to move forward with these smaller unit formats and plans to open five more during the remainder of FY14. Importantly, we believe these new formats will sit well with the franchisee community and give them the confidence to incorporate these new stores into their expansion plans. In July, KKD signed a 15-store development agreement for the Dallas market, which included the sale of its three existing stores in the market. We expect to see many more arrangement similar to this, which should significantly increase the pace of U.S. store expansion.
Perhaps most impressive, the company is reporting that the 5 new, free-standing small factory shops currently in operation are seeing sales levels settling in around $30,000 a week. With an initial investment of about $590,000 per store, this indicates a sales to investment ratio of 2.6 to 1, making it one of the best in the restaurant space today.
Over the past two years, KKD has generated $66 million in free cash flow and is estimated to earn an additional $31 million in FY14. Furthermore, at the end of 2Q14, the company had over $60 million in cash and practically zero debt. Combine this with the recent announcement of a $50 million stock buyback authorization and it appears as though the financial prospects of KKD are very promising.
U.S. Same-Store Sales
One of the issues we suspect will be a point of contention with some investors is the difficult same-store sales comparisons KKD will be facing.
In our view, the greatest opportunity for KKD has always been to sell more of the higher margin beverages. Over the past couple of quarters, KKD has been seeing a significant lift in transactions and a shift in the beverage mix toward coffee products. Though work is needed in order to drive more beverage sales, it appears as though the company’s strategy of connecting with the consumers through social media outlets is helping to drive sales and traffic through innovative LTOs.
Difficult sales comparisons are not new and are a known known by the investment community. That being said, we believe KKD can weather the difficult comps without hurting its strong sales momentum. 2Q14 company sales trends were strong: +12.4% in May, +9.5% in June and +8.5% in July (despite being down for a couple of weeks, as the company lapped its 75th anniversary the previous year). And, trends early in 3Q14 suggest the current momentum is continuing as same-store sales in the first week of August were up +5%, same-store sales in the second week of August were up +12% and same-store sales in third week of August were flat. We believe that 3Q14 same-stores sales growth of +4-6% is a reasonable target.
Returns Headed Higher
Currently, KKD generates some of the best returns on incremental capital in the restaurant space. The company’s current structure, coupled with the capital-light model and accelerating franchise unit development, should allow for high returns to continue well into the foreseeable future.
On the surface, the sentiment setup on KKD looks rather positive as 70% of the analysts covering the stock have a “Buy” rating on it and short interest only comprises 3.7% of the float. However, we would take the sentiment setup with a grain of salt, as the coverage of KKD is very limited. Only 10 analysts are currently covering the stock as opposed to 25-30 analysts covering some of the other names in the restaurant space.
Takeaway: Does US #GrowthAccelerating data support a stock market holding its TREND line? Today, the market’s answer to that is yes.
This note was originally published September 03, 2013 at 11:17 in Macro
POSITION: 12 LONGS, 5 SHORTS @Hedgeye
I finally caught a post-summer beach wave to the upside here – and for the right reasons; summer is over, and US growth expectations continue to make a comeback.
Post the best NSA rolling Jobless Claims print we have seen all year (last Thursday = -10.6% y/y), and a solid PMI Friday, we just got a barn burner of a New Orders print out of the ISM (63.2! for AUG). Good looking end to the world there.
Additionally, across our core risk management durations here are the lines that matter to me most right now:
- Immediate-term TRADE resistance = 1661
- Intermediate-term TREND support = 1630
So, does US #GrowthAccelerating data support a stock market holding its TREND line? Today, the market’s answer to that is yes. And if you look at the growthier components of the stock market (QQQ), the answer is a resounding yes.
The new bear case is going to be that they were so wrong on growth’s slope change in 2013 that its really bearish now (from a much higher price).
Meanwhile, the real bear case to be made in 2013 was in bonds. #RatesRising for the right reasons.
Keith R. McCullough
Chief Executive Officer
Takeaway: With respect to the intermediate-term TREND, we like South Korean equities on the long side and Chinese equities on the short side.
- At 14.8% and 15.6%, respectively, China and South Korea represent the two largest geographic weights in the iShares MSCI Emerging Markets Index Fund (EEM). More importantly, we think the latter is poised to take market share from the former, as we believe the South Korean and Chinese equity markets are poised to diverge with respect to the intermediate-term TREND.
- All told, we think South Korean equities look increasingly attractive with respect to the intermediate-term TREND, while the attractiveness of Chinese equities on that same duration is poised to roll over after a proactively-predictable dead-cat bounce in both market prices and Chinese economic data.
- This view is supported by our quantitative risk management setup, as the KOSPI Index is bullish TREND and the Shanghai Composite Index is bearish TREND. As an aside, we think the latter index is likely to threaten a TREND line breakout over the next few weeks on the strength of what is likely to be the last month of sequentially accelerating growth data (SEP), but ultimately fail to confirm any move north of our 2,123 TREND line.
- From an intermediate-term TREND perspective: Chinese growth is poised to roll over in 4Q as inflation continues to accelerate from a low base; South Korean growth should continue its solid trend of acceleration as inflation accelerates from an extremely low base.
- From a long-term TAIL perspective: Structural banking sector headwinds are likely to continue to depress Chinese economic growth; South Korea’s corporate earnings outlook is increasingly complicated by the likely resurgence of Japan Inc.
***Tomorrow (Wednesday, September 4th) at 11:30am EDT, please join the Hedgeye Macro Team for a ~15min conference call titled “Paddling Upstream?: Navigating #EmergingOutflows”. On the call, Senior Analyst Darius Dale will host a live Q&A session regarding recent developments in EM financial markets and our outlook for those asset classes and the economies that underpin them. CLICK HERE to download the accompanying 80-slide presentation, which we will allude to throughout tomorrow’s call. We look forward to your participation and fielding any follow-up questions you might have.***
At 14.8% and 15.6%, respectively, China and South Korea represent the two largest geographic weights in the iShares MSCI Emerging Markets Index Fund (EEM). More importantly, we think the latter is poised to take market share from the former, as we believe the South Korean and Chinese equity markets are poised to diverge with respect to the intermediate-term TREND.
We’ll begin our exposition of this thesis with the assumption that you’re familiar with our latest work in the context of our #EmergingOutflows and #AsianContagion themes. To the extent you are not, we encourage you to review the aforementioned 80-slide presentation; we detail our outlook for the Chinese economy on slides 6-11, 38 and 57-72; we detail our outlook for the South Korean economy on slides 6-11 and 38.
With that knowledge in hand, we think now is the time to buy dips in the Korean equity market and that we’re in a 2-4 week window of loading up on the short side of Chinese equities again, as the current dead-cat bounce has become increasingly long in the tooth.
This view is supported by our quantitative risk management setup, as the KOSPI Index is bullish TREND and the Shanghai Composite Index is bearish TREND. As an aside, we think the latter index is likely to threaten a TREND line breakout over the next few weeks on the strength of what is likely to be the last month of sequentially accelerating growth data (SEP), but ultimately fail to confirm any move north of our 2,123 TREND line.
From a GIP perspective, the South Korean economy is likely to reside in Quad #2 for the balance of the year, while the Chinese economy looks to be transitioning from Quad #2 to Quad #4 in the upcoming quarter, which is a headwind for equity market appreciation.
The aforementioned GIP forecasts are determined by our predictive tracking algorithms for each country’s respective growth and inflation statistics and, like any model, are subject to varying degrees of tracking error – though a lot less than whatever the sell-side has been using to forecast growth, inflation and policy deltas over the past 3-5 years!
As such, we must rigorously track the relevant high-frequency economic data for clues to the degree and directionality of said tracking error – to the extent there is any:
CHINA: GROWTH POISED TO ROLL OVER AS INFLATION ACCELERATES FROM A LOW BASE
- The respective trends in the YoY deltas of the monthly averages of rebar, iron ore and coking coal, as well as the respective trends in Manufacturing PMI, New Orders PMI, New Export Orders PMI, Real Estate Climate Index, Industrial Production, Retail sales and FDI support an improving near-term growth outlook. The respective trends in the monthly average of China’s sovereign yield spread (10Y-2Y), Backlogs of Orders PMI, Non-Manufacturing PMI, Fixed Assets Investment, Total Social Financing, Monthly New Loans, Industrial Sales, Industrial Profits, M2 Money Supply, Consumer Confidence, Exports, Imports, the Trade Balance and sovereign fiscal expenditures all suggest the current uptick in Chinese growth may be short-lived.
- The respective trends in headline CPI, Food CPI, headline PPI, Raw Materials PPI and the trend in the YoY deltas in the currency market all support a hawkish inflation outlook.
- The trend in OIS with respect to the benchmark rate supports a demonstrably tighter monetary policy outlook, though we’d argue much of this is due to the market’s expectation of persistent liquidity constraints (more on this below).
SOUTH KOREA: GROWTH SOLIDLY ACCELERATING AS INFLATION ACCELERATES FROM AN EXTREMELY LOW BASE
- The respective trends in Non-Manufacturing BSI, Employment, Retail Sales, Consumer Confidence, Capacity Utilization, CapEx, Construction Orders, Exports and Imports all support an improving growth outlook.
- The respective trends in headline CPI and headline PPI both support a hawkish inflation outlook, as does the trend in the YoY deltas in the currency market.
- The trend in OIS with respect to the benchmark rate supports a marginally tighter monetary policy outlook.
In addition to tracking high-frequency economic data, we must also have a good handle on the idiosyncratic factors that may influence or dictate a country’s 1-3 year GIP outlook:
CHINA: STRUCTURAL HEADWINDS AREN’T FULLY UNDERSTOOD BY MARKET PARTICIPANTS – LET ALONE PRICED IN!
- Across the maturity curve, interest rate swaps continue to trade well above the current cost of capital in China. In the past, we’ve interpreted this market signal as a sign that monetary policy tightening was increasingly probable over the intermediate term. We don’t view that scenario as likely at the current juncture; rather, we believe the market sees what we see: a prolonged erosion of financial liquidity, at the margins, will continue to apply upward pressure to money market rates over the intermediate-to-long term.
- That erosion of financial liquidity can be further identified via recent activity in China’s local currency bond market. In the QTD, there have been 27.1B CNY ($4B) of pulled bond sales, while AUG’s 240.9B CNY of issuance is down -17% MoM. Moreover, 10Y AAA bond yields have widened +53bps QTD to a ~2Y high of 5.67% and the spread between AAA yields and Chinese sovereign yields just hit a 3M-high of 168bps wide. Lastly, China’s 10Y-2Y sovereign yield spread has widened modestly off its JUN mini-crisis spread lows, but it has yet to buck the trend of tightening that has been in place for over one year now.
- The mere fact that both ends of China’s sovereign debt market is selling off should be interpreted as supportive of our view that the Chinese economy will be increasingly liquidity constrained, at the margins, as NPLs – both of the reported and unreported (i.e. debt rollovers/evergreening) genres – accelerate sustainably. A dour secular outlook for “capital” flows via the trade surplus is also supportive of our liquidity constraint thesis.
SOUTH KOREA: HOW WILL THE MARKET CONTINUE TO PRICE IN INCREASED COMPETITION FROM JAPAN?
- Just isolating its top three export markets, South Korea competes head-to-head with Japan in 41.6% of its exports, so naturally, the JPY’s -24.1% YoY decline vs. the CNY and its -21.3% YoY decline vs. the USD has weighted on the outlook for South Korean export growth. That’s a headwind for broader economic growth as exports are equivalent to 56.5% of South Korean GDP.
- Perhaps more importantly with respect to the thesis we are attempting to explicate, is the fact that an outlook for secular yen weakness directly calls into question the earnings outlook for KOSPI Index. Specifically, both South Korea and Japan are particularly exposed to the global CapEx cycle (Tech and Industrials) from an equity index perspective at 40.6% and 28% of total market cap, respectively (vs. a regional average of 20.2%).
- To the extent customers are competing on price in this naturally deflationary segment of the global economy, it can be argued that a meaningful portion of corporate profit growth in Japan (+24% YoY in 2Q vs. +6% YoY in 1Q) is likely to come at the expense of corporate profit growth in South Korea. It’s hard to be long and strong South Korean equities with respect to the long-term TAIL if you share our bearish bias on the Japanese yen (we think the USD/JPY cross can traverse its way to 125 over the next 12-18 months).
All told, we think South Korean equities look increasingly attractive with respect to the intermediate-term TREND, while the attractiveness of Chinese equities on that same duration is poised to roll over after a proactively-predictable dead-cat bounce in both market prices and Chinese economic data.
We look forward to your participation on tomorrow’s flash call.
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