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Valuation Shmaluation

This note was originally published at 8am on January 31, 2014 for Hedgeye subscribers.

“Everything that can be counted does not necessarily count; everything that counts cannot necessarily be counted.”

-Albert Einstein

 

Valuation is an analytical staple in deciding whether an asset, company or asset class should be bought or sold.  The challenge with valuation? As a decision making tool, the inputs are often more important than the outcome.  Regularly on Wall Street, especially when some of the large investment banks are involved, valuation becomes an even more amorphous thing.

 

Yesterday our CEO Keith McCullough discussed price targets for the S&P 500 in 2014 (see video "Is Consensus Too Bullish?") that are being established by some of our peers and the arbitrariness of the multiples being applied to come up with the target.  Now to be fair, coming up with a view on the future price of a market is difficult at best because as Einstein notes all the factors that matter “cannot necessarily be counted”.   (In part, this is why we stay away from precise long-term price targets on the broad market.)

 

Valuing a company has its challenges as well.  Take for instance the Kinder Morgan companies, which are a massive group of pipelines, terminals and oil and gas productions assets cobbled together by billionaire Rich Kinder over the years.  We are currently short $KMI and $KMP on our Best Ideas list because we, simply put, think the company is grossly overvalued.

 

I won’t steal his thunder but my colleague Kevin Kaiser will be giving an update on his short thesis on Kinder Morgan today at 1pm EST and his presentation starts with the following views on valuation:

  • “Cheap” is a LONG WAY DOWN.  We believe Fair Values are:
    • KMI: $15 - $20/share
    • KMI Warrant: near $0
    • KMP/KMR: $30 - 40/unit (Preferred Way to Play This)
    • EPB: $25 - 30/unit

As always valuation is an opinion, but this opinion is way outside of consensus and likely worth considering if you are invested in or looking at Kinder Morgan.  Please email sales@hedgeye.com for details.

 

Back to the Global Macro Grind...

 

In my inbox last night was a summary note on the equity markets that was titled, “Equities Explode.”  I’m hoping it was a tongue in cheek title because up 1.1% on less than impressive volume was far from an explosion.  In the Chart of the Day today, we take a look at the last three weeks and highlight the point of accelerating volume on market down days.  

 

The equity bulls are trying to regain the market’s upward momentum, but meanwhile the bond bulls have just experienced the euphoria of a meaningful move in rates.  Since January 2nd the 10-year bond yield has declined from +3.0% to the most recent yield of +2.7%, for a +12% expedited move down in the last twelve days.   So, now the Fed has finally starting tightening by the way of tapering, why are yields falling?

 

Simply put, economic growth is decelerating in the U.S. and Mr. Market is beginning to price this in.  As a result, the SP500 is down -2.9% on the year and the VIX is up +26.0%.  We see these market signals even more glaringly in sector performance.  The only sectors that have had positive performance in the year-to-date are healthcare up +1.8% and utilities up +2.1%.  Meanwhile the most negative two sectors in terms of performance are staples down -4.7% and energy down -4.6%.

 

In a recent book by Frank Partnoy, he shows that decisions of all kinds, whether “snap” or long-term strategic, benefit from being made at the last possible moment. The art of knowing how long you can afford to delay before committing is at the heart of many a great decision—whether in a corporate takeover or a marriage proposal. 

 

The reality in the investment management business though is that you literally can’t wait until the last minute unless you have unlimited duration on your capital, like say Warren Buffett.  The rest of us market minions actually have to try and stay ahead of market moves and shifts in economic outlook.  This is why in our macro process identifying economic and market changes on the margin is so critical, and why long term valuation targets can be so misleading.

 

The question of course is whether it is possible to front run (legally) moves in the market.  For example, did any of the bulls on Japanese equity shift quickly enough in 2014 to avoid the almost -9% drawdown in the Nikkei in January? Perhaps, but unlikely.  After all it is human nature to value and project things for perpetuity based on the most recent data points.

 

An example is Kinder Morgan using $95 oil in their projections for oil or European bears projecting an abject failure of European markets when the sovereign debt turmoil was at its worst.  On the last point, the healing of Europe and European credit markets has been staggering over the past few quarters.

 

Currently, the Spanish 10-year yield is +3.73% and the Italian 10-year yield is +3.85%, which are literally the lows for the Eurozone.  This morning Italy also sold five year notes at a record low yield of 2.43% with a bid/cover of 1.49 versus a bid/cover 1.28 on December 30th.

 

This rampant improvement in European sovereign debt obviously begs the question of whether we are closer to the bottom then the top in European debt.  But one thing is for certain, if the European debt markets are again working fluidly, it is positive for corporations that need to borrow to grow. It also begs the question of whether a short European debt and long European equities play is the best relative value play around.  But, as they say, valuation shmaluation!

 

Our immediate-term Global Macro Risk Ranges are now:

 

SPX 1755-1809 (bearish)

Nikkei 14738-15411 (bearish)

VIX 15.31-20.41 (bullish)

USD 80.17-81.19 (neutral)

Gold 1231-1272 (neutral)

 

Keep your head up and stick on the ice,

 

Daryl G. Jones

Director of Research

 

Valuation Shmaluation - Chart of the Day

 

Valuation Shmaluation - Virtual Portfolio


Mucker’s Cheat Sheet, Refreshed

Takeaway: Be careful out there.

Editor's note: This is a recap of CEO Keith McCullough's market thoughts as shared no-holds-barred on Twitter today. To learn more about how you can subscribe to our services click here.

 

*  *  *  *  *  *  *

 

It was a fun day for us. While I was wrong on the market call, I was really right on the stocks. I thought this market was going to crack (maybe it still will). But I do think wrong sometimes.

 

Our shorts have been working out extremely well during an up tape. Twitter (TWTR) and Whole Foods (WFM) are two examples. (Check out WFM after hours down 20%. Two of our analysts nailed this short two weeks ago on HedgeyeTV.) Speaking of short calls, our energy analyst Kevin Kaiser absolutely tagged Boardwalk Pipeline Partners (BWP) the other day. The stock is down over 40% this week. The “Hedgeye Short-Selling Machine” is grinding. Great job by all of our analysts. I am nothing without my team.

 

On a more somber note, the US Dollar continues to lose credibility. It’s actually sad to watch. You can thank the Fed for that.  

 

Mucker’s Cheat Sheet, Refreshed - wekd

 

Does anyone truly believe this whole “Down Dollar, Down Rates” thing is going to end well for America? If you do, I'm guessing you're smoking some of that funny stuff now legal in Colorado.

 

Oil inflation? It looks primed to rip the economy another new one. The Fed would do well to take a page out of the Bank of England’s playbook. Carney’s Pound continues to crush Yellen’s Dollar.

 

This time last year, I was extremely bullish on US #GrowthAccelerating because it was “Dollar Up, Rates Up.” That was unmistakably a pro-growth signal – what’s going on now is a slow-growth one.

 

Some Quick Thoughts:

  • Financials (XLF) look identical to the S&P 500 – it needs to go a lot higher to change my market view.
  • Gold ripping new highs is a very bearish growth signal.
  • Flat to down YTD for the US stock market is the new perma bull up.
  • If you're a bullish momentum monkey, just buying the market because it’s up, well I guess that's why you’re a monkey.

Look, I get the whole catalyst that allowing Janet Yellen to torch America's currency inflates stocks. Just don’t confuse that with the America that you want.

Join the Hedgeye Revolution.


Why you should worry about U.S. inflation (not deflation)

Takeaway: Inflation is likely to lead to stock market multiple compression, the very opposite of what most Wall Street strategists are calling for.

Editor's note: This is an excerpt of an article written by Hedgeye Managing Director Moshe Silver just published on Fortune.

 

FORTUNE – Believe it or not, commodity prices are breaking out right now as other inflationary pressures continue to build. Don't believe it? Take a look at gold prices. They have already risen over 7% year-to-date as the S&P 500 has fallen 1.5%. Meanwhile, the CRB Commodity Index is up 4% year-to-date.

 

Something is stirring here and it doesn't have the whiff of deflation.

 

Why you should worry about U.S. inflation (not deflation) - 7777

 

If U.S. Federal Reserve Chair Janet Yellen decides to "rescue" equity markets by reversing the central bank's plans to scale down its bond purchases, the impact could knock down the U.S. Dollar and trigger investors to chase yield, which would drive up inflation hedge assets and likely spark another round of growth-slowing commodity inflation.

 

After peaking in 2011-2012, commodity prices cratered in 2013. Because of last year's price declines, period-to-period comparisons are especially sensitive, so even a moderate commodity price increase looks inflationary year-over-year. This is an optical effect, not yet an economic reality. But policy – and market panics – are made in response to how things appear, not how things actually are.

 

Hedgeye CEO Keith McCullough says we are unlikely to see 2011-2012 style actual inflation (which the Fed did not see at the time.) But, as people perceive the rise in commodity prices alongside decelerating growth and declining stock prices, there will be speculation that the Fed will again loosen policy to support flagging growth. If Yellen reverses plans to scale down the Fed's bond purchases, a process dubbed, 'tapering,' your stocks will lift temporarily. But globally the dollar will suffer, causing inflation to rise faster.

 

Click here to continue reading at Fortune.


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INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE

Takeaway: The labor market data slowed again in the most recent week, adding to a string of data pointing in the same direction.

#Deceleration: Par for the 2014 Course

 

We profiled the deceleration in the Retail Sales data this morning - Here

 

Inclusive of this week’s data, the trend in the high frequency labor market data is telling a similar story as seasonally-adjusted rolling claims rose again WoW and the rate of improvement in the rolling average of YoY non-seasonally adjusted claims decelerated 70bps to -5.0%.  

 

As we highlighted last week, its important to remember that initial claims can’t show “accelerating improvement” in perpetuity – the rate of improvement will inevitably converge towards zero as we approach the historical, frictional floor at ~300K in the seasonally adjusted series.   

 

Its notable, however, that the claims data has deteriorated even as we’ve moved into the period of peak, positive seasonality.  Any softness in the underlying trend will be (optically) exaggerated as seasonality again reverses into 2Q14. 

 

Elsewhere, and on the constructive side, bloomberg’s weekly read on the consumer showed confidence ticking up 2.4 pts WoW to -30.7, the highest reading in a month.  After a discrete breakout in 2013, confidence has been middling the last couple months with readings mixed mixed across the primary survey’s.

 

Dollar Down, Rates Down, Utilities leading and yield chase/inflation hedge assets (Gold/REITS/CRB) outperforming today….also par for the 2014 course.    

 

Below is the detailed breakdown of this morning's claims data from the Hedgeye Financials led by Joshua Steiner. If you would like to setup a call with Josh or Jonathan or trial their research, please contact 

 

 

- Hedgeye Macro

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - Confidence Table 021314

 

 

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INITIAL CLAIMS: The Labor Market Slows Further ...

Last week we profiled the labor market beginning to show modest signs of cooling off. This week's data marks a continuation of that trend. Our preference remains to look at the trend in the year-over-year rate of change in the rolling NSA initial jobless claims.

 

We look for signs of acceleration or deceleration and treat that as a referendum on the marginal strength of the economy. This week, that measure showed 5.0% y/y improvement. Here's how the last five weeks now look, ordered from oldest to most recent:  -8.5%, -7.9%, -7.3%, -5.7%, -5.0%.

 

Clearly the trend over the past month has been one of a slowing rate of improvement. This doesn't mean that the economy isn't still progressing and jobs aren't still being added, but it does mean that the rate at which those things are happening is slowing down. Credit-sensitive financials should take note.

 

The Numbers

Prior to revision, initial jobless claims rose 8k to 339k from 331k WoW, as the prior week's number was revised down by 0k to 331k.

 

The headline (unrevised) number shows claims were higher by 8k WoW. Meanwhile, the 4-week rolling average of seasonally-adjusted claims rose 3.5k WoW to 336k.

 

The 4-week rolling average of NSA claims, which we consider a more accurate representation of the underlying labor market trend, was -5.0% lower YoY, which is a sequential deterioration versus the previous week's YoY change of -5.7%

 

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - JS 1

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - JS 2

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - JS 3

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - JS 4

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - JS 5

 

Joshua Steiner, CFA

Jonathan Casteleyn, CFA, CMT

 

 


INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE

Takeaway: The labor market data slowed again in the most recent week, adding to a string of data pointing in the same direction.

The Labor Market Slows Further ...

Last week we profiled the labor market beginning to show modest signs of cooling off. This week's data marks a continuation of that trend. Our preference remains to look at the trend in the year-over-year rate of change in the rolling NSA initial jobless claims. We look for signs of acceleration or deceleration and treat that as a referendum on the marginal strength of the economy. This week, that measure showed 5.0% y/y improvement. Here's how the last five weeks now look, ordered from oldest to most recent:  -8.5%, -7.9%, -7.3%, -5.7%, -5.0%. Clearly the trend over the past month has been one of a slowing rate of improvement. This doesn't mean that the economy isn't still progressing and jobs aren't still being added, but it does mean that the rate at which those things are happening is slowing down. Credit-sensitive financials should take note.

 

The Numbers

Prior to revision, initial jobless claims rose 8k to 339k from 331k WoW, as the prior week's number was revised down by 0k to 331k.

 

The headline (unrevised) number shows claims were higher by 8k WoW. Meanwhile, the 4-week rolling average of seasonally-adjusted claims rose 3.5k WoW to 336k.

 

The 4-week rolling average of NSA claims, which we consider a more accurate representation of the underlying labor market trend, was -5.0% lower YoY, which is a sequential deterioration versus the previous week's YoY change of -5.7%

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 1

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 2

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 3

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 4

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 5

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 6

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 7

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 8

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 9

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 10

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 11

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 12

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 13

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 19

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 14

 

Yield Spreads Recover Modestly

The 2-10 spread rose 6 basis points WoW to 242 bps. 1Q14TD, the 2-10 spread is averaging 243 bps, which is higher by 3 bps relative to 4Q13.

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 15

 

INITIAL CLAIMS: LABOR MARKET MOMENTUM COMING UNDER SOME PRESSURE - 16

 

Joshua Steiner, CFA

Jonathan Casteleyn, CFA, CMT

 


HOT 4Q CONFERENCE CALL NOTES

Solid Q4 tempered by modest guidance outside of the US.

 

 

CONF CALL

  • In 4Q last year, projected 5-7% REVPAR growth for 2013.  GDP in 2013 was slower than in 2012 and REVPAR growth reflected that.
  • Latin America:  +1% 
  • Mexico REVPAR continued its rebound
  • Brazil uncertainty with elections
  • Argentina:  a mess with currency issues
  • Egypt:  civil war affected visitation
  • Dubai/Gulf:  booming business
  • China: +2% REVPAR in 2013; market did not rebound as much as HOT hoped due to govt austerity, flooding in Sichuan, bird flu scares in East, soft govt business
    • 13% of fee revenues
  • Asia (ex China): REVPAR up 7%:  strong performance in India; adverse FX impacted REVPAR by 80bps
  • Strong corporate transient demand in NA
  • 15 more properties coming to Africa in next few years
  • Residental sales at Bal Harbour did well;  Bal Harbour essentially sold out. 
  • Asset light:  sold 6 hotels and one non-core asset for total of $263MM
  • SVG share of occu stayed consistently above 50%.  Global sales organization posted another year of double digit growth as well and for 2014 is set to bring in more than twice the revenue than it did in 2009.
  • Repurchased 4.9MM shares for $216MM
  • 2014
    • US set to improve
    • Europe will muddle through another year
    • Customers telling them they are adding staff and plan to travel more
    • China
      • 2nd and 3rd tier city development continues
      • Good sales momentum in Chinese corporate accounts
      • Strong Chinese outbound travel
  • Mobile accounts for 42% of site visits to Starwood, up from 16% two years ago
  • Mobile bookings growing 5x faster than web bookings did 10 years ago
  • New technology:  smart check-in
  • 2013 FX headwind: $17MM
  • 2013 US REVPAR:  6.3%
  • 4 condos left to sell at Bal Harbour
  • Sold a hotel for over $1 million per key
  • Net debt:  $528MM
  • Sale of St. Regis Bal Harbour added another $200MM to cash balance in January
  • No longer report out Bal Harbour profits:  will be ~5 MM in 2014
  • Expect NA REVPAR trends (6.7% REVPAR) to continue; supply subdued, occu continues to climb helping ADR too
  • Negotiated corp rates: up mid single digits for 2014
  • Group rates:  up mid single digits for 2014
  • Canadian business remains sluggish and the weakening Canadian dollar will also be a drag. 
  • NA REVPAR 5-7% outlook:  rate will account for 75-80% of the increase
  • Despite the Harsh weather, January REVPAR at Company-Operated hotels in North America was up almost 8%.
  • Q4:  saw mid single digit REVPAR growth in Spain, Italy and the U.K.  Only Germany was a little soft,  offset by strong growth across eastern Europe.  Occupancies continue to rise which is a good sign, and rate growth could accelerate.  Nevertheless assume Europe REVPAR growth in 2014 will be at the low end of worldwide outlook range.  Europe also had a good January but it's the low season.  
  • China:  expect to outperform in 2014
  • China:  On track to get 200 operating hotels in near future
  • Expect 2014 REVPAR growth in China to pick up from the Q4 trend of 3.1%
  • Expect Asia REVPAR to continue to grow at the high end of global REVPAR outlook range of 5 to 7%
  • Middle East and Latin America:  expect REVPAR at the lower half of 5-7% range
  • Mgmt and franchisee fees:  45% from US, 12% from Europe; 40% of fees from growth markets
  • 85% of incentive fees outside of US; >75% of international hotels pay incentive fees vs 25% in US
  • Expect Bal Harbour to be fully done selling by 1H 2014
  • M&A:  next 18-24 months could be prime time for asset sales.  They intend to be active in the market.
  • Cash flow priority:  1st is to pay down debt and achieve BBB rating
  • Will move to a quarterly div payment schedule in 2014
  • Will be aggressive buyers of stock.  614MM in buyback authorization availability

Q & A

  • No buybacks in 4Q; hurting the stock?
  • Reducing capital spending on owned hotels as they finish renovations
  • On pace for $750MM in asset sales per year ($3BN by 2016)
  • Transaction market:  markets are becoming deeper. More buyers. Private equity/sovereigns are back.
  • Sheraton:  50% US, 50% non-US
  • Group:  return of incentive travel in Europe; higher volume of smaller meetings
  • China:  no crackdown on luxury
  • Half hedged to euro exposure at $1.36
  • A plus or minus 1% move of the dollar uniformly against other currencies is still about 5 million.
  • Portfolio sales may pick up
  • Any future portfolio sale would therefore mark a significant uptick in that demand
  • Will do a timeshare securitization in 2014 - around $250MM
  • D&A guidance for 2014:  It includes the proportion of the JVs so it's going to be higher than what you're seeing on our balance sheet...It will be a little higher because it's going to reflect the investments we've been making both in the renovations we've been doing and some of the technology...normalized will be +5-6%

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