This note was originally published at 8am on September 13, 2013 for Hedgeye subscribers.
“There lived a certain man in Russia long ago,
He was big and strong, in his eyes a flaming glow,
Most people looked at him with terror and with fear,
But to Moscow chicks he was such a lovely dear.”
Over the course of history, Russia has certainly been known for its strong leaders. The Boney M song, “Rasputin”, from which the verse above was taken, is about one of the most enigmatic of Russia’s leaders: Grigori Rasputin.
Rasputin was a Russian mystic that lived from 1869 – 1916. He became an advisor to the Romanovs, the reigning royal family in Russia at the time, after being asked to try and heal their son Alexei, who suffered from hemophilia. Probably more by the stroke of luck than any knowledge of medicine, Rasputin was successful in healing Alexei and became a key advisor and intimate to the Czar’s family, especially his wife Alexandra Feodoronva.
From 1906 – 1914, many Russian politicians and journalists used Rasputin’s influence over the Romanovs to discredit them. His influence only accelerated with the advent of World War I when the Czarina took over domestic policy, with Rasputin as her key advisor.
Eventually, Rasputin’s influence created contempt amongst the Czar political allies and rivals. Ultimately, a group of conspirators led by the Czar’s first cousin Grand Duke Dmitri Pavlovich, murdered Rasputin. Rasputin had the last laugh as he wrote to Czar Nicholas shortly before his death that if he were killed by government officials, the entire imperial family would be killed by the Russian people.
Rasputin’s prophecy came true a short 15 months later when the Czar, his wife and all their children were murdered by assassins during the Russian Revolution. Directly and indirectly, Rasputin has been pointed to as a key catalyst for the fall of the Romanovs.
Certainly, the current situation in Syria does not have direct parallels to the Russian Revolution, but to be seen to be under the influence of a Russian, especially the Botox laden Putin, will not be a positive turn of events for President Obama. In part, Obama backed himself into a corner by deciding to go to Congress to get approval to use military force in Syria, even as he acknowledged he didn’t legally need Congressional approval.
When it became clear that Congress wasn’t going to support the action, the door was left open for the Russians to propose a more “commercial” solution. Of course now President Obama has lost all leverage and, as a friend of mine who runs a major investment bank said, has been completely re-traded. So much so that President Assad is now making demands on the United States (via Russian TV of course)! As the state-owned Syrian newspaper put it bluntly in a headline on Thursday, “Moscow and Damascus have pulled the rug out from under the feet of Obama.”
Given the turn of events, it is no surprise then that President Obama’s approval rating has plummeted close to all-time lows. Currently, on the Real Clear politics poll aggregate, 7.6% more people disapprove then approve of Obama. As it relates to foreign policy, 17.6% more Americans disapprove of the job he is doing. It seems the President has become a lame duck quicker than most second term Presidents.
My colleague Keith McCullough proposed a unique idea yesterday to James Pethokoukis at the American Enterprise Institute yesterday, which was to turn Larry Summers loose on the Russians. As Keith said in the interview:
“We really need to embrace the weapon that we have as a country, which is the most powerful weapon that we’ve had for a very long period of time, which is, of course, the currency of the people, and that currency has basically been de-botched and devalued ’til the cows come home. We need to start to stand up for these things and that’ll help us stand up against guys like Vladimir Putin. Bring in, probably, a guy like Larry Summers to deliver the message because you do need somebody to stand up with a backbone and actually say it in a really forceful way, which, at a bare minimum, that’s what Larry Summers can do. $65 oil would be fantastic for the American people and it would be absolutely pulverizing to Putin’s power.”
As we’ve been writing for a while, a strong dollar equals a strong America. If the rumors from the Japanese press this morning are even remotely true and Larry Summers is destined to be the next Chairman of the Federal Reserve then it is very bullish for the U.S. dollar and bearish for commodities. The action this morning, with gold down, oil down and the U.S. dollar up, is likely only the beginning of the sustained move we will see if Chairman Summers becomes more than prophesy.
Of course, there is economic data at play here as well. On that note, jobless claims came in at the lowest absolute number since 2000 at 228,000 yesterday. Year-over-year improvement on this data series moves to -23.8% versus -13.2% last week and the rolling 4-week average is -14.5%.
In the Chart of the Day, we show what this improving data series means for interest rates as we chart the 10-year yield versus the 4-week rolling initial claims. As you can see from the chart, there is a very tight correlation between the labor market improving and interest rates going up.
The combination of a continued improvement in the U.S. labor market and increasing chatter of the likelihood that Larry Summers takes over the Federal Reserve will combine to be an economic weapon of mass destruction for bonds, gold, oil and the Russians alike.
Our immediate-term Risk Ranges are now as follows:
UST 10yr Yield 2.86-3.03% (bullish)
SPX 1664-1701 (bullish)
Nikkei 14117-14638 (bullish)
USD 81.39-81.93 (bullish)
Brent 110.54-113.91 (bullish)
Gold 1307-1365 (bearish)
Enjoy your weekend.
Daryl G. Jones
Director of Research
TODAY’S S&P 500 SET-UP – September 27, 2013
As we look at today's setup for the S&P 500, the range is 21 points or 0.86% downside to 1684 and 0.37% upside to 1705.
CREDIT/ECONOMIC MARKET LOOK:
MACRO DATA POINTS (Bloomberg Estimates):
WHAT TO WATCH:
COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)
The Hedgeye Macro Team
This indispensable trading tool is based on a risk management signaling process Hedgeye CEO Keith McCullough developed during his years as a hedge fund manager and continues to refine. Nearly every trading day, you’ll receive Keith’s latest signals - buy, sell, short or cover.
“What people fail to realize is that we spend ~70% of the time at record highs in the equity market.”
-Anonymous Seasoned Investor
Keith and I picked up that gem in a recent meeting with a client out in San Francisco. Truly a savvy investor, this gentleman belongs to the increasingly rare camp of investors that has managed market risk across multiple decades and economic cycles.
Regarding the aforementioned quote, he dropped that line in a discussion about the pervasive lack of enthusiasm for 2013’s non-consensus equity market rally, specifically in response to our conjecture that baggage from the hard times of 2008-09 is broadly preventing investors from buying into the sustainability of said rally.
While I believe he was merely throwing a number out there to make a [wise] point, the reality is that he’s actually not that far off as it relates to the assertion he was trying to make:
Oddly enough, when looking at aggregated fund flow and securities market allocation trends, it seems that investors are still positioned for yet another blow-up in the equity market, when, in reality, it’s the inevitable unwinding of Bernanke’s bond bubble they should be most concerned about.
Per Jonathan Casteleyn, the newest member of our highly-regarded financials team:
Regarding that last point, we get a lot of pushback from fixed income managers that bonds funds don’t necessarily need to see outflows for the equity funds to receive inflows, citing record “cash on the sidelines”.
Indeed, un-invested cash in money market mutual funds, credit balances in margin accounts and deposit and currency assets on household balance sheets currently totals ~$12.4T, which is just off of all-time highs. As a percentage of the securities market, however, it hovers just above all-time lows (23% vs. a record low of 22% in 1999 and a record high of 32% in 2009).
If in 1999 someone thought the aggregate investment community was going to take its liquidity ratio down to new all-time lows in order to continue financing a bubble in stocks or even to take up its gross exposure by simply increasing its allocations to bonds, boy, were they sorely mistaken. Making that argument in defense of fixed income right now is equally off base, in our opinion.
In summary, we continue to believe there is a compelling, long-term fund flow case to be made in favor of the equity market in lieu of the bond market.
Not from every price, however…
We need to see the US Dollar Index recapture its TREND line of $81.35 for us to believe that tapering is an intermediate-term event, rather than one that is far off in the distant realm of “potentially never”.
Simply put, as long as a collection of fear-mongering doves dominate the domestic monetary policy debate, the probability of a Japan-like, no-growth economic scenario will remain heightened.
Besides a natural monetary policy response to economic gravity, what else would get investors excited about investing for growth in lieu of safety?
Corporate America would be a good place to start. My, how they have been conspicuously absent from this recovery!
… Corporations have reduced employee headcount by -2.9% since 2007 and grown nominal CapEx by a measly +0.6% on a trailing 5Y CAGR basis – a growth rate that is just above a generational low.
Regarding the former point on corporate, QE-derived interest savings, $700B is enough to employ 9.6M workers for 1Y, assuming a $51k median income (per the Census Bureau) that represents 70% of all-in employee compensation costs (per the BLS), effectively taking up the median annual comp to $72.9k. To put that in context, there have been only 6.8M net hires since 2009 per the seasonally-adjusted nonfarm payrolls numbers.
Obviously that’s nothing more than a hypothetical analysis meant to draw attention to the fact that QE to-date has been little more than an overt transfer of wealth to Corporate America and the rest of the top-10% that owns the lion’s share of financial wealth in the this country.
It’s time both parties said, “thank you” by putting capital to work (corporations) and allocating capital back to pro-growth assets (investors).
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 2.57-2.74%
Keep your head on a swivel,
Takeaway: Nike is making ailing US retailers as well as its global competitors (aka Adidas) look downright silly.
What’s there to say about Nike’s quarter? We’re surrounded left and right by weakness in US retail, and yet Nike comes out and prints a quarter of Champions.
NKE printed top line growth of 8%, and an acceleration in futures to +10%, with a nice balance of 7% growth in units, and 3% increase in price. We saw +120bp improvement in gross margins, which was far ahead of our above-consensus estimate – as pricing initiatives are being met with very little resistance, and raw materials costs are coming in below plan. SG&A was flat for the quarter, which is largely due to comparisons against event spending vs last year. But still, the growth algorithm is inarguable…sales +8%, gross profit +11%, and EBIT +40%. EPS came in at $0.86, well ahead of our estimate of $0.82 and the Street at $0.78. Inventory looked great as well, growing 6% -- below the rate of sales for the 5th quarter in a row.
You might say that Nike naturally sidesteps the US retail malaise due to the fact that it is a global company. But then why did Adidas – its closest global competitor that has a nearly identical scope, reach and mix outside of the United States – put out an announcement on September 20 taking down expectations for the quarter and the year due to weak sales globally, particularly Russia (which Nike highlighted as a strength this quarter), and golf (this was also weak for Nike, to be fair). This juxtaposition simply highlights how well Nike is managed relative to its peers.
We’re taking up our estimate to $3.25 for the year (20% EPS growth). We think that Nike is being conservative with its expectation for only 50bps of improvement in gross margins for the year, and although we’ll start to see more normalized levels of SG&A spending, the reality is that a high-single-digit growth rate in sales with 100bp+ in gross margin improvement is nothing to shake a stick at. Mid-high teens EPS growth on top of 25% ROIC makes Nike every bit worthy of its 20 forward multiple (and then some). Nike’s still a core holding any way we cut it.
We’ll return with a more thorough deep dive after Nike’s analyst meeting in two weeks.
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