“The hour between dog and wolf, that is, dusk.”
Customer questions on Friday went something like this: ‘Keith, was that a bull or bear? Dog or wolf? What do you think?’ I don’t know. But I’m not in the business of walking up to a bear in the dark without a real-time gun! So let’s stay on our toes here and react accordingly. The best market calls are made by Mr. Macro Market, not me.
Ironically enough, last week I started reading the latest behavioral psych book to bubble up to the top of my pile, The Hour Between Dog and Wolf – Risk Taking, Gut Feelings and the Biology of Boom and Bust, by former Goldman/Deutsche trader, John Coates.
In his introduction, “it has been said of war that is consists of long stretches of boredom punctuated by brief periods of terror, and much the same can be said of trading” (Coates, pg 5). I’d say that if you were buying-the-damn-bubble #BTDB on Wednesday and Thursday of last week, Friday’s move, punctuated by a +45.8% VIX rip on the week, felt like terror.
Back to the Global Macro Grind…
First, instead of screaming bloody murder this morning, let’s contextualize where Friday’s -2.09% drop in the SP500 came from. In an intraday note (11:45 AM on Thursday January 23rd) I wrote a risk management note titled “Not #BTDB Today” and outlined 3 main issues that were signaling in our model:
- US Consumption #GrowthSlowing (rate of change vs. Q313’s sequential top)
- SP500 broke our immediate-term TRADE line of 1837 support
- US stocks making lower-highs (vs. all-time highs) and down YTD perpetuates performance chasing
In other words, this was very much a playbook 3-factor (History, Math, and Behavioral) line of reasoning that seems sound, after the fall:
- HISTORY: our Q114 Macro Theme of #InflationAccelerating has historically slowed consumption growth
- MATH: immediate-term TRADE signals matter in either confirming existing TRENDs or signaling new ones
- BEHAVIORAL: consensus is still in the business of chasing (buying) high and freaking out (selling) low
- The US Dollar (index) was down a full -0.9% last week (down -2.2% now in the last 6 months)
- The CRB Index (19 commodities) was +1.5% last week vs the SP500 -2.6%
- US Consumer Discretionary Stocks (XLY) are already down -4.98% YTD (vs SPX -3.1%)
And while, Janet Yellen’s new Fed will see no inflation this week (on a lag, after comping the all-time highs in food/commodity inflation of 2011-2012), real-time men and women trying to decide between dog and wolf see breakevens (inflation expectations rising) and Natural Gas +19.8% last week for what it is, on the margin, #inflationary.
Interestingly, but not surprisingly, so does Mr. Macro Market. Remember that down days for US stocks in 2014 have been #timestamped frequently by the following pattern: Down Dollar + Down Rates = Down Stocks.
That’s why the immediate-term TRADE correlations between the US Dollar and the SP500 are as follows:
- 15-day = +0.66
- 30-day = +0.43
In other words, if economic gravity still matters (it does), and the Dollar and Rates are signaling bear (on the slope of US economic growth), it’s probably a bear.
While everyone in the Barron’s Roundtable said it’s all about the Fed (you have to quantify less in making general groupthink statements), we continue to think that getting market beta right for the last few years has been more about getting the slope (rate of change) of GROWTH and INFLATION right.
On the GROWTH front, this week’s Macro Calendar will show you more #GrowthSlowing (on the margin):
- TUESDAY: Durable Goods should slow in December versus November’s +3.4%
- THURSDAY: Q413 US GDP should slow to 3-something percent vs Q313’s +4.12% sequential peak
- FRIDAY: PMI for January could easily slow form December’s frothy 60.2
Oh, and your illustrious open market committee of forecasting the weather (on a lag) at the Federal Reserve may well taper again on Wednesday into #GrowthSlowing too. Never mind dog or wolf – that’s just dumb.
Our immediate-term Global Macro Risk Ranges are now:
*= new TREND change (in brackets)
*UST 10yr Yield 2.72-2.79% (bearish)
SPX 1 (bullish)
*Nikkei 149 (bearish)
*VIX 14.91-20.41 (bullish)
*USD 80.19-80.79 (bearish)
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
TODAY’S S&P 500 SET-UP – January 27, 2014
As we look at today's setup for the S&P 500, the range is 46 points or 0.63% downside to 1779 and 1.94% upside to 1825.
CREDIT/ECONOMIC MARKET LOOK:
- YIELD CURVE: 2.40 from 2.38
- VIX closed at 18.14 1 day percent change of 31.74%
MACRO DATA POINTS (Bloomberg Estimates):
- 10am: New Home Sales, Dec., est. 455k (prior 464k)
- 10:30am: Dallas Fed Mfg Activity, Jan., est. 3.2 (prior 3.1)
- Conferees negotiating agriculture law have been told to come back to Washington early today to try to get bill through House this week, Bloomberg News reported
WHAT TO WATCH:
- AT&T gives up right to offer to buy Vodafone within 6 months
- Vodafone said to seek purchase of Ono before planned IPO
- Liberty Global agrees to buy Dutch cable provider Ziggo
- Apple scheduled to report 1Q results after close of trading
- Apple said to be exploring mobile-payments system expansion
- BofA swaps desk investigated by CFTC, DOJ, filing disclosed
- Google to buy artificial-intelligence co. Deepmind: Re/code
- Samsung, Google sign agreement to license each other’s patents
- YRC wins key refinancing ingredient with union vote, Welch says
- Japan posts record annual trade deficit as import bill soars
- ICBC offers clients option to recoup funds in troubled trust
- Ukraine crisis deepens; power-shr bid fails to end protests
- German business confidence beats estimates on growth outlook
- U.S. East set for another Arctic blast as snow heads for Texas
- Universal’s ‘Ride Along’ tops box office with $21.2m
- Tesla finishes L.A.-to-New York electric Model S drive chargers
- Disney’s ESPN seeking profit with online video demand: WSJ
- Diageo speculated to consider bid for Brown-Forman: Times
- AT&T meets with EU on possible acquisitions, NSA role: WSJ
- Altegrity said to resume talks on sale of HireRight: Reuters
- Easton-Bell Sports seen likely to sell some brands: NY Post
- Boeing Set to Face Additional Safety Checks on 767 Jets: WSJ
- American Electric Power (AEP) 6:57am, $0.57
- Caterpillar (CAT) 7:30am, $1.27 - Preview
- Rayonier (RYN) 8am, $0.52
- Roper Industries (ROP) 7am, $1.61
- Royal Caribbean Cruises (RCL) 8:31am, $0.18 - Preview
- Apple (AAPL) 4:30pm, $14.07 - Preview
- Ashland (ASH) 5pm, $1.31
- Brookfield Canada Office (BOX-U CN) 5pm, $0.42
- Crane Co (CR) 5:48pm, $1.03
- Graco (GGG) 4:10pm, $0.76
- Olin (OLN) 5pm, $0.29
- Plum Creek Timber (PCL) 4:01pm, $0.28
- Rambus (RMBS) 4:05pm, $0.14
- Rent-A-Center (RCII) 4:15pm, $0.74
- Sanmina (SANM) 4:02pm, $0.38
- Seagate Technology (STX) 4:01pm, $1.39
- Steel Dynamics (STLD) 6pm, $0.25
- STMicroelectronics (STM IM) 4:46pm, $0.02
- Swift Transportation (SWFT) 4:02pm, $0.35
- U.S. Steel (X) 5:15pm, $(0.26)
- Zions Bancorp. (ZION) 4:10pm, $0.43
COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)
- Copper Advances as Business Confidence Strengthens in Germany
- Brent Crude Drops Amid Concern of Slowing Emerging Market Growth
- Gold Bulls Boost Bets Amid Longest Rally Since 2012: Commodities
- Platinum Falls for Second Day as Talks Resume to End Strike
- Sumitomo Sees Nickel Glut Shrinking 43% on Indonesia Ban, China
- China’s Gold Shipments From Hong Kong Climb to a Record in 2013
- Rebar Falls on China Growth Concern as Margin Requirements Rise
- Gold Mint Running Overtime in Race to Meet World Coin Demand
- Hedge Funds Most Bullish on Gas Since 2006 After Freeze: Energy
- Wheat Rises Amid Concern U.S. Freezing Weather May Damage Crops
- Natural Gas Trades at Highest Level in Four Years on U.S. Cold
- Meat Diet in China Means Record Corn Imports: Chart of the Day
- Less Thermal Coal From U.S., Colombia Aids Market: Bull Case
- India to Review Gold Import Curbs in March on Deficit Control
The Hedgeye Macro Team
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This note was originally published at 8am on January 13, 2014 for Hedgeye subscribers.
“You can’t win a horse race with mules.”
This was a weekend of winners and losers. On the athletic front, I was excited that Yale’s hockey team beat Harvard hockey like a rented mule by a score of 5 – 1 in the inaugural Rivalry on Ice at Madison Square Garden. (Admittedly, Yale did lose by a wider margin in the alumni game!) And no doubt my colleague Darius Dale was excited that his hometown Seahawks went into full on beast mode and beat New Orleans 23 – 10.
As it relates to losing, the nation of Israel suffered a major loss with the passing of former Prime Minister Ariel Sharon. A loss like this of course is on a much greater scale than how any sports team did this weekend. I’m far from an expert on Israeli politics, but it’s hard not to respect a man who gave everything for his proverbial team. As a soldier, defense minister and finally prime minister, Sharon fought in or commanded every one of Israel’s major conflicts starting with its 1948 independence war.
Whether it be winning in politics or winning on the field or ice, victory is rarely an event that happens in isolation. My former college hockey coach, Tim Taylor, used the quote at the start of the note to describe our team when we were doing more losing than winning. His point is spot on that any great victory, in any field, takes hours of practice, repetition, and preparation. Nothing in life comes easy and the investment management business is no different.
Back to the global macro grind . . .
One of the big winners in the global asset class race over the past twelve months has been European sovereign debt. Specifically, both Spain and Italian 10-year yields have come in meaningfully. This morning the Spanish 10-year yield is at 3.83% and the Italian 10-year yield is at 3.91%. Both are effectively Euro era lows.
The healing of European credit markets, and the improvement has been meaningful, is part of what is underscoring our relatively bullish view on European equities in 2014. Ironically, the Financial Times still has a tab called, “Euro-in-Crisis”, despite a marked improvement in the outlook for the Euro. Also ironically, the five headlines in this section are as follows:
- Portugal Plans Post Bail-Out Cash Cushion;
- Investors Warm to Spanish Banks;
- Too Early To Declare Crisis Over Says Draghi;
- Draghi Can’t Keep Euro Down For Long; and
- Portugal Enjoys Huge Demand in Debt Sale
The conclusion from those headlines, and much our analysis, is that if the Euro-crats can actually get out of the way we might have a meaningful recovery in Europe.
Speaking of winners and losers, the employment report on Friday threw many U.S. focused economists for a loop and also reinforces our Q1 2014 macro theme of #GrowthDivergences. Friday’s employment report, which showed non-farm payrolls increasing +74K month-over-month to close 2013, was a disappointment versus prevailing expectations and an outlier verses the balance of higher frequency labor market data.
Indeed, in the context of the broader labor market data, where the preponderance of evidence remains positive with the ADP private employment estimate, initial jobless claims, and the ISM Manufacturing and Non-manufacturing employment indices all reflecting moderate, ongoing improvement, the BLS data sits as a single negative outlier.
With 273,000 people out of work due to bad weather (vs. an average of 166K over the prior five December’s) weather was held out as the biggest distortive factor and a favorite pundit talking point post the December release.
Our retail and restaurant analysts have highlighted weather as a drag on traffic over the last month as well, so we’re inclined to accept that unusually inclement weather did, indeed, have some negative drag – with the largest impact across hours worked and construction/transports/trade employment.
The other favorite talking point was the continued retreat in Labor Force Participation Rate (LFPR) which dropped another 19bps sequentially to 62.79% from 62.98%, driven by a net drop in the total labor force of -347K (-490K unemployed plus +143K increase in employed). The continued drop in the LFPR remains in excess of that implied by demographic trends (which we’ve written about previously) and should remain an intermediate term issue as the labor market continues to grapple with higher structural unemployment driven primarily by the stubbornly, persistent elevation in long-term unemployment. This point is highlighted in the Chart of the Day.
Further, the LFPR may seen another step function lower over the next couple months if congress fails to renew jobless benefits for the ~1.3M individuals who lost unemployment benefits at 2013 year end. Perversely, perhaps, if those individuals drop out of the labor force, the unemployment rate will show improvement at the expense of a further depression in the participation rate.
The other, somewhat disappointing metric in the release was average hourly earnings – which slowed 20bps sequentially to 1.80% year-over-year. You can’t spend it if you don’t got it and if the savings rate holds little upside and the current iteration of the wealth effect is muted compared to historical precedent, then middling, sub 2% growth in income (ie. capacity for consumption) isn’t the path to winning for a domestic economy still beholden to consumption for 70% of GDP.
Our immediate-term Risk Ranges are now:
10yr UST Yield 2.85-2.98%
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
THE MACAU METRO MONITOR, JANUARY 27, 2014
CHIMELONG RESORT OPENS FOR BUSINESS TOMORROW Macau Business
The Chimelong International Ocean Resort on Hengqin Island will open its doors tomorrow for a trial run. Mainland media reported that Guangzhou Chimelong has completed some 80% of the park’s facilities, and that an aquarium, a whale exhibit and roller coaster rides would be open. About 20 million visitors a year are expected to visit the park, generating more than RMB50 billion (MOP65.5 billion) for Hengqin annually, the company estimates.
LAWSON CEO TO JOIN NEW JAPAN GROUP TO BACK CASINO LEGALIZATION Bloomberg
Lawson CEO Takeshi Niinami and Suntory Executive Vice President Shingo Torii are among corporate and academic leaders forming a group to support a legalization bill introduced by lawmakers, said Hiroshi Mizohata, a former head of the Japan Tourism Agency, who will also be a member. Niinami heads Japan’s second-biggest convenience store chain and Torii runs Japan's third-biggest brewer.
MIGRANT WORKFORCE GROWS TO MORE THAN 137,000 Macau Business
Macau's migrant labour force increased to 137,838 workers last month, 1,952 more than in November. Official data show more than 87,000 workers were from the mainland. The hospitality industry was the biggest employer of migrant workers, employing about one-third of the total. The government has set quotas that limit mainland domestic helpers to 200 people from Guangdong and 100 people from Fujian.
Takeaway: Current Investing Ideas: CCL, DRI, FDX, FXB, HCA, JPM, RH, TROW, WWW and ZQK
Below are Hedgeye analysts' latest updates on our high-conviction stock ideas as well as CEO Keith McCullough's refreshed levels for each stock. In addition, this week we have selected three institutional research notes we believe offer a valuable look into the state of the markets.
Trade :: Trend :: Tail Process - These are three durations over which we analyze investment ideas and themes. Hedgeye has created a process as a way of characterizing our investment ideas and their risk profiles, to fit the investing strategies and preferences of our subscribers.
- "Trade" is a duration of 3 weeks or less
- "Trend" is a duration of 3 months or more
- "Tail" is a duration of 3 years or less
The latest comments from our Sector Heads on their high-conviction stock ideas.
CCL – We recently completed our early Wave cruise pricing survey. The survey was bullish for Carnival on the margin with outperformance of the Carnival brand in the Caribbean. Europe pricing was mixed while Alaska was the glaring trouble spot. Overall, we believe Wave is trending above CCL’s management expectations. With easy Triumph comparisons coming in mid-February, early strength in pricing bodes well for Carnival.
DRI – Good news for Darden shareholders this week. The heat increased on management with activist investor Starboard Value LP urging DRI to delay the spinoff of Red Lobster to find an alternative option to increase shareholder value. Restaurant Analyst Howard Penney couldn’t agree more with the Starboard letter saying it appears that the activists are close to agreeing on what we believe the new Darden should look like.
DRI has the potential to become the true leader in the casual dining industry, but it needs an unbalanced (unbiased) force to make the changes necessary and unlock shareholder value. The Starboard letter represents one more step in the right direction.
FDX – Shares of FedEx were weak as the broader market experienced increasing pressure this week. There was little company specific news flow, other than some minor B to C customs issues in Russia and positive comments from DHL on European activity. Market participants are likely focused on the deluge of earnings over coming weeks.
FXB – We received more positive economic data out of the UK this week, in line with our Q4 2013 and Q1 2014 macro themes of #EuroBulls and #GrowthDivergences, respectively, that forecast a bullish outlook for the British Pound.
- The Unemployment Rate ticked down to 7.1% in NOV vs 7.4% in OCT and expectations of 7.3%.
- BOE Minutes released showed a 9-0 decision to keep the benchmark rate unchanged and the asset purchase target unchanged.
UK high frequency data continues to offer evidence of emergent strength in the economy, and in many cases the data is outperforming that of its western European peers, which we expect should provide further strength to the equity market and currency. The decline in the unemployment rate represents the largest decline in almost 5 years! Additionally we’re seeing CPI also moderated, down 10bps to 2.0% in DEC Y/Y in the last reading – we expect this cut to boost business and consumer confidence and increase purchasing power and consumption.
We remain bullish on the British Pound versus the US Dollar (etf FXB), a position supported over the intermediate term TREND by prudent management of interest rate policy from Mark Carney at the BOE (oriented towards hiking rather than cutting as conditions improve). This was confirmed once again by the Minutes released today, which continues to stoke the Pound. The Bank said there was no need to raise rates even if the unemployment rate hits 7% in the near future.
The British Pound is holding its Bullish Formation, which we expect will continue to be supported by prudent monetary policy from the BOE and strengthening economic fundamentals.
HCA – Healthcare Sector Head Tom Tobin has no update this week.
JPM – Financials Sector Head Josh Steiner added JPMorgan Chase & Co. to Investing Ideas this week. Click here for the full report issued Friday evening.
RH – Weather continues to be a point of contention for investors with the retail sector this quarter. We addressed this point briefly last week and maintain our stance that Restoration Hardware, unlike many other retailers, won’t feel the effects of the recent cold spells in the Midwest and Northeast as badly as some of the other names in the consumer discretionary space for the following reasons.
1) E-commerce – RH’s direct business accounts for 47% of company revenues. Consumers may use Brick and Mortar stores as a showroom before purchasing online, but weather induced traffic declines may displace sales by a day or two but will not eliminate them all together. Unlike traditional retailers – RH purchases are event driven, and there is very little correlation between traffic and sales unlike what you might see at Target or Bed Bath & Beyond.
2) 90% of all RH orders ship to consumers home – The current wait time for an RH order is 6 – 9 weeks. That means that essentially all meaningful (and by meaningful - we mean revenue driving categories like furniture) sales are booked for the quarter. Delivery may have been slowed due to adverse driving conditions – but those effects are marginal.
3) Real estate distribution – 61% of RH stores are in the South/West regions of the United States, while 39% are in the Midwest, Northeast, and Canada. RH’s limited store base and geographic distribution sets it apart from other retailers who rely more heavily on the hard hit areas of the Midwest and Northeast. On the Ethan Allen Q214 conference call the company noted that weather was a factor in a quarter, but that stores in the South and West were the highest comping stores in the fleet. We expect the same to hold true for RH.
In conclusion, it would be irresponsible to ignore the fact that weather could be a drag on this quarter’s results. But, we believe that those effects are grossly overestimated by the rest of the street.
TROW – We relay that our ongoing call of a retail investor allocation into equities and out of fixed income started as of mid-year 2013 and is continuing. As crystallised in the recent BlackRock fourth quarter earnings report, BLK's category asset flows showed the strongest growth in retail equities with weaker comparative trends in fixed income. We think that the retail story relayed by BlackRock is a trend that can continue into 2014 as mutual fund flow driven by retail investors is a performance chasing exercise with still better return prospects in equities over fixed income.
With this theme in mind, we continue to recommend T Rowe Price (TROW) on the long side with allocations of 82% of its assets-under-management in equities and 80% of the firm's AUM in retail.
WWW – Keds accounts for a negligible percentage of Wolverine Worldwide's annual revenue, but it is one of the company’s best known brands. Sales for Keds topped out at $450mm, but at the time of WWW’s acquisition of the PLG brands, annual sales totaled only $80mm. PLG focused its attention on its Payless business and the Sperry brand while Keds was largely ignored. Brand equity at Keds is strong, but the execution behind that powerful brand name left much to be desired. The same was true for Converse, who prior to its acquisition by Nike in 2003, was a $200m brand. In FY13 revenue totaled nearly $1,500mm.
After the acquisition, Wolverine looked to right the ship and rolled out 4 new initiatives in 2013: 1) an endorsement contract with Taylor Swift, 2) a design partnership with Kate Spade, 3) a partnership and distribution agreement with ANF’s Hollister, and 4) Keds branded retail space in high traffic malls. The Taylor Swift partnership is entering the 2nd year of a 3 year contract, and we learned at the ICR conference that Kate Spade and Keds would be teaming up once again this year. As a result of these efforts, Keds sales grew at a ‘solid double digit rate’ this year, and we continue to believe that Keds will generate in excess of $400mm in revenue in 4 years. Granted, much of that will growth will come through international expansion, but the early read throughs in the US are promising.
ZQK – When Quiksilver’s new CEO, Andy Mooney, was hired he laid out a detailed profit improvement plan that focused on cost reduction, brand consolidation, and revenue growth. One of the most polarizing cost reduction plans concerned the company’s marketing strategy – more specifically its history of shelling out generous amounts of cash to sponsor action sports athletes and events. Investors feared that this shift in strategy would tarnish the brands reputation as an authentic action sports brand and disconnect it from its roots.
We decided to ask consumers to get their opinion on ZQK’s brands so that we could gauge things like brand loyalty, authenticity, and purchase intent. Our results were jam packed with insight, and one of the most telling things we found was that athlete and event sponsorships really don’t matter despite what the consumer might say.
40.7% of the consumers we surveyed said that athlete and event sponsorships were critical to the Quiksilver brand image. We decided to dig a little deeper to judge if that was truly the case, and found that nearly 75% of the respondents were unsure of who Quik’s actually team members were (Quiksilver team members are displayed in blue). On top of that only 17% knew that Kelly Slater – the Michael Jordan of surfing – surfed for Quiksilver. The results speak for themselves on this one.
* * * * * * *
Click on the titles below to unlock the institutional research notes.
Veteran Hedgeye Restaurants analyst Howard Penney still doesn't like what's going on at McDonald's. He has been bearish on MCD for quite some time now and continues to believe the company has issues in its underlying, core business. While we believe management has realized they have problems, we have little faith that they have found the proper solutions.
Argentina's options have not changed: default or burn the peso. Neither outcome is good for sentiment surrounding beleaguered Emerging Market assets. Analyst Darius Dale writes that "he feels bad writing so negatively about Argentina’s managerial woes. Typically when our firm publishes bearish research on companies, usually the worst thing that could happen is a bunch of overpaid corporate executives lose their jobs as a result of persistently poor operational performance. For countries, however, the ramifications of persistent mismanagement are considerably more far-reaching."
Financials analyst Jonathan Casteleyn writes that Equity flows perked up strongly after a negative week to start 2014 with the biggest inflow in 10 weeks. This strong weekly inflow coupled with the slight outflow from last week has now moved the 2014 weekly average to a $3.9 billion average inflow for equities to start 2014, a follow through on 2013's positive trends where $3.0 billion per week on average flowed into stock funds.
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