"If you are out to describe the truth, leave elegance to the tailor"
Earlier this week I titled an Early Look "The Truth", and I'd say that it inspired the highest level of thoughtful responses that I've had on a note in quite some time.
The feedback mechanism associated with our making a call on markets every morning is fantastic. While I was on the buy side no one with a real thesis would give me the kind of real-time information that I get now (they'd buy/sell their position, then tell me). Being at the hub of an exclusive network is tremendously additive to our fact finding mission. We want the truth, not a political confirmation bias.
The takeaway from the latest feedback that I have been getting is quite simply that investors are very much politically and emotionally charged right now. Trust in the US Financial System is becoming a secular issue. Obama has big ears, so he better hear this - and "get it", because confidence is what economies and markets are built on, not rhetoric. China is up +70% and the US down -2% YTD, respectively, for many reasons - but the delta in confidence is a major one.
Consider the following two comments that are hitting the wires this morning:
1. "History provides numerous examples of non-independent central banks being forced to finance large government budget deficits... further increase the burden of the national debt on current and future generations" -Don Kohn (US Federal Reserve President)
2. "Despite whatever talk you might have heard, I don't see that there is movement away from the notion of the dollar being that currency" -Robert Gibbs (US Press Secretary)
Forrest Gump might read those two comments as:
1. The Fed is politicized, not independent as it was intended to be - and there will be unintended consequences associated with that, in the end
2. Hey, isn't that John Kerry's press secretary from 2004? When did he start doing macro?
Credibility in any financial system starts and ends with the truth. If you don't have credibility, you sponsor volatility. If you sponsor volatility, you are signing off on emotion. If you're making decisions emotionally, I call that a reactive risk management process.
What "you might have heard" is that the US Government is Burning The Buck. Because they didn't want to proactively address the truth of the global macro matter, now they are on the defensive. Obama's ratings are falling fast. Shaking hands with Gaddafi last night probably won't improve that over the weekend either.
Main Street America isn't as stupid as what you "might have heard" from Washington or Wall Street. Americans know where their bed is at night, and they know darn well where there money is in the morning. If you burn their currency, they don't have to hear it - they see it.
YouTube is a metaphor for the transcending trend of transparency. Obama crushed the Clintons with that, and now he and his economic team are hostage to it. It's a global macro factor that is as relevant as any right now. That's not a political statement. That's how The New Reality works.
When it comes to Burning The Buck, "you might have heard" that some people are getting paid. I call them the Three Little Pigs - it's a children's story, so it's very easy to understand:
1. Politicize/Socialize your financial system and currency
2. REFLATE things priced in Dollars by devaluing
3. Bankers, Debtors, and Politicians get paid
Despite a non-qualified US economic official who has decided to give his opinion on this and suggest that "I don't see there is a movement away from the" US Dollar, doesn't mean that the rest of the world is paid to be as willfully blind.
As the Buck Burns, and everything priced in those dollars pays the conflicted aforementioned constituencies, who loses?
2. US Savers
3. The Dollar
The feedback I get is that people do in fact see and hear. Amazingly, some people can do even both at the same time.
"You might have heard" this morning that China continues to walk away from this Crisis of Credibility and control their own destiny. This morning's economic data out of China shows another sequential (month over month) improvement in exports alongside the 4th straight monthly gain in Chinese home prices. While I am sure that Alan Abelson and the Barron's boys are teeing themselves up to have a "China Bubble" cover sometime soon, "you might have heard" that Barons and CNBC aren't the places that helped you avoid the US stock market crash of 2008 and the generational short squeeze of 2009.
My intermediate term TREND line of support for the SP500 remains 871, and my long term TAIL line of resistance remains 954. US Equities have moved to my lowest Asset Allocation across the options that I have globally. You might have heard that other people don't have to invest in things they don't trust either.
Enjoy the weekend with your respective families,
USO - Oil Fund-We bought USO on 7/6 and 7/8 on a pullback in oil. With the USD breaking down, oil should get a bid.
EWZ - iShares Brazil-President Lula da Silva is the most economically effective of the populist Latin American leaders; on his watch policy makers have kept inflation at bay with a high rate policy and serviced debt -leading to an investment grade credit rating. Brazil has managed its interest rate to promote stimulus. Brazil is a major producer of commodities. We believe the country's profile matches up well with our re-flation theme.
QQQQ - PowerShares NASDAQ 100 - We bought Qs on 6/10 and added to the position on 7/7 to be long the US market. The index includes companies with better balance sheets that don't need as much financial leverage.
EWC - iShares Canada - We want to own what THE client (China) needs, namely commodities, as China builds out its infrastructure. Canada will benefit from commodity reflation, especially as the USD breaks down. We're net positive Harper's leadership, which diverges from Canada's large government recent history, and believe next year's Olympics in resource rich British Columbia should provide a positive catalyst for investors to get long the country.
CAF - Morgan Stanley China Fund - A closed-end fund providing exposure to the Shanghai A share market, we use CAF tactically to ride the wave of returning confidence among domestic Chinese investors fed by the stimulus package. To date the Chinese have shown leadership and a proactive response to the global recession, and now their number one priority is to offset contracting external demand with domestic growth.
TIP- iShares TIPS - The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%. We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.
XLV- SPDR Healthcare - We re-initiated our long position in healthcare on 6/29. Our healthcare sector head, Tom Tobin, wants to fade the public plan, and he's been right on this one all year.
GLD - SPDR Gold - Buying back the GLD that we sold higher earlier in June on 6/30. In an equity market that is losing its bullish momentum, we expect the masses to rotate back to Gold. We also think the glittery metal will benefit in the intermediate term as inflation concerns accelerate into Q4.
EWJ - iShares Japan -We're short the Japanese equity market via EWJ on 5/20. We view Japan as something of a Ponzi Economy -with a population maintaining very high savings rate whose nest eggs allow the government to borrow at ultra low interest levels in order to execute stimulus programs designed to encourage people to save less. This cycle of internal public debt accumulation (now hovering at close to 200% of GDP) is anchored to a vicious demographic curve that leaves the Japanese economy in the long-term position of a man treading water with a bowling ball in his hands.
XLY - SPDR Consumer Discretionary - We shorted XLY on 7/9 on a rip as our team has turned negative on consumer.
UUP - U.S. Dollar Index - We believe that the US Dollar is the leading indicator for the US stock market. In the immediate term, what is bad for the US Dollar should be good for the stock market. Longer term, the burgeoning U.S. government debt balance will be negative for the greenback.
XLP - SPDR Consumer Staples - We shorted XLP on the bounce on 6/17. Added to the position on 7/1, as our stance on the consumer is no longer bullish like it was in Q2, when gas prices and mortgage rates were dramatically lower.
SHY - iShares 1-3 Year Treasury Bonds - If you pull up a three year chart of 2-Year Treasuries you'll see the massive macro Trend of interest rates starting to move in the opposite direction. We call this chart the "Queen Mary" and its new-found positive slope means that America's cost of capital will start to go up, implying that access to capital will tighten. Yields are going to continue to make higher-highs and higher lows until consensus gets realistic.
"If you are out to describe the truth, leave elegance to the tailor"
In our 6/21/09 post "MAY STRIP REVS SHOULD LOOK BETTER THAN THE AIRPORT #S" we predicted a 5% decline. As announced yesterday, Strip revenues actually fell 6%. We could've done better.
The takeway here is that May wasn't bad but did benefit from an easy comp. In May 2008 gaming revenues fell 16% driven in part by low hold % on both slots and tables.
Despite the excitement following the release of May numbers, Las Vegas is not getting better. The June comp is difficult, down 3% in 2008, and anecdotally we are hearing a theme of softness. Here is the trend:
CAAM June sales data released today show that total motor vehicle sales exceeded 1 million for the 4th consecutive month registering a year-over-year increase of 36.48% (see chart below). Critically, this marks 2Q of 2009 as the first quarter ever with reported sales in excess of 3 million units and, at 3.4 million in total, the CAAM target of 11 million for the year seems achievable. Passenger car sales as a category of the total experienced a 48% increase in June as tax rebates and improving vehicle quality selection continue to draw consumers to showrooms.
(continued below chart)
The latest NBSC production estimates, for May, show that total vehicle production increased by 28% for that month. Although NBS data production is notoriously sketchy, there is a very clear trend emerging. Domestic Chinese passenger automotive sales are outpacing commercial sales, and sales in total are outpacing production growth by a significant measure. Add in anecdotal reports on engine component imports and individual reporting by foreign JV partners and we have a clear vision that retail Chinese automotive consumer strength is outperforming all but the most bullish expectations -and that it is driving rapid capacity growth by producers.
We have been consistently bullish on The Client's internal demand dynamics, and the consumer discretionary categories that should logically be feeling the biggest impact of the stimulus programs at this stage of the development cycle -big ticket durable goods, appear to be proving out our thesis. As Chinese consumers continue to enter the car market for the first time or to trade up from inferior vehicles, we expect that they are also eyeing government sponsored incentives for household appliances, consumer electronics and small farm agricultural equipment.
Take note: as strategic investors we are China bulls, but as tactical investors we are pragmatic risk managers and will actively seek to trade in an out of a market that has experienced an intense short term rally capable of correction with unchanged fundamentals. With a process that employs overlapping durations we have the luxury of picking intermediate entry and exit points while remaining focused on the horizon -if you are married to a single duration by choice or circumstance you should be prepared for volatility as the complex recovery story continues to unfold in China.
As always we are here to answer any questions and welcome the opportunity to share ideas.
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HOT has done a great job cutting costs in a deteriorating demand environment. This time they may have run out of dry powder. This may be the first quarter without a substantial beat. We believe forward numbers once again need to come down, despite favorable currency movements. The Street continues to project flat 2010 RevPAR versus our projection of -5% and our EBITDA estimate is 11% below the Street at $790 million. Here are the details ahead of the earnings release on 7/23.
-For 2Q09 we're in line with HOT's guidance but below street:
- We're at 190MM of EBITDA (3.5% below street & guidance of 180-195MM) and $0.15 EPS (16% below street & guidance of $0.14-$0.20 EPS
-For full year 2009 we're still below consensus as we are less positive regarding HOT's ability to further cut costs. Last quarter HOT stopped giving explicit guidance on EBITDA & EPS for full year 2009 due to the "uncertain environment":
- $750MM of EBITDA (5.5% below street) and EPS of $0.65 (17% below consensus)
- We assume owned RevPAR decreases 25% in 3Q09 and 15% in 4Q09and owned EBITDA margins decline 8.5% & 7.5% respectively
- We assume world-wide RevPAR decreases 20% in 3Q09 and 8% in 4Q09, for a 2009 20% RevPAR decline (in line with management guidance)
- 4Q09 improving RevPAR comparisons are driven by occupancy
- Our owned EBITDA margin for 2009 is down almost 900 bps driven by difficult cost cut comparisons in the back half - we believe this is where we differ from consensus
- Given the opaque nature of timeshare, we're in-line / slightly better than management's guidance
- Total reported fee income down -16.5% (probably worse than street expectations)
- We assume that HOT can reduce SG&A by $100MM (better than the $70MM guidance)
-2010 - We're still 11% below the street EBITDA estimate of $790m which is flat with 2009 due to approximately 5% lower RevPAR estimates.
-RevPAR 2Q09 Assumptions:
- Branded Same-Store Owned Hotels in North America: we're in-line with an estimate of -30% vs. HOT guidance of -30% to 32%
- We estimate that total revenue (not SS) will decrease 24.5%, which compares somewhat to HOT's guidance of SS worldwide company operated hotels of -24% to -26% (-18% to -20% in constant dollars).
- Since HOT reported 1Q09 results, the dollar has depreciated against almost all of the currencies that HOT has exposure to
- We estimate that vs. guidance given on April 30th the dollar depreciated about 3.5% against most of HOT's portfolio of owned hotel and 6% vs current spot
- Euro: 1.32 on April 30th vs an average rate of 1.36 in 2Q09 and spot of 1.40
- A weak dollar will have a positive impact on reported RevPAR relative to expectations on April 30th when Starwood gave guidance
We've been pretty negative on LVS over the last month so some may be surprised to see us pull a u-turn. The issues haven't changed but price and duration have. Q2 margins in Macau will look better than people think as the company readies itself for an IPO and pushes itself to limbo underneath the covenant bar.
LVS has fired and laid off many employees in Macau, including a number of senior level management folks. Look for a decent size number in the one-time expense bucket for Q2 and Q3. The layoffs and charge-offs should have the effect of pumping margins. Sustainability is certainly a question mark but given the high short interest and volatility, investors likely won't scrutinize that aspect over the near-term.
Better Macau margins will also partially alleviate covenant concerns. Moreover, LVS can exclude one-time charges from the leverage covenant calculation - even more incentive to fill the 1x bucket. A Q3 covenant bust has been all the talk from the sell side. However, Sheldon is right. LVS will not bust a covenant. Even though a Macau IPO will not likely float until Q4, the promise of one will allow the banks to be much more flexible with a covenant waiver or amendment. LVS still has the debt buyback lever per the 4/15 amendment that allows them to repurchase up to $800 million of its term loan debt (trading at a discount). Investors should worry about borrowing costs going up, but not a covenant bust or imminent bankruptcy. We will have a more detailed, numbers-oriented post on the covenant issue coming soon.
The stock looks like it is going a lot higher over the near-term, at least through the Q2 earnings release in early August. We still harbor concerns with MASSive amount of table supply entering the Macau market, particularly Oceanus next to Sands. The Singapore ramp is also a worry especially considering the uncertainty of the junket situation - can they get licensed and can they offer credit? However, keep a trade a trade as they say.
I think we we're the only Macro Team who read the June unemployment report as bullish, on the margin. That was not born out of a self perpetuating Wall Street narrative fallacy; it was born out of the math.
On the margin is where things matter in our Macro Model. Here are the two most recent data point that matter on US Employment:
1. The US unemployment rate flashed a double top in the rate of month/month acceleration in February and May (+50bps m/m)
2. The US jobless claims data (weekly, and less of a lagging indicator as unemployment is), continues to improve, sequentially (see chart)
Please send the chart below to the qualitative journalist who doesn't do calculus (derivatives). This is very straightforward.
At 565,000 claims, the first week of July broke the 600,000 line for the first time since the second half of January and represented a 52,000 improvement (8%) over the prior month. US jobless claims were also 41,000 below the 4-week moving average.
It's time for the one-factor model bears (200-day moving averages) to wake-up here.
Keith R. McCullough
Chief Executive Officer
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