This note was originally published at 8am on March 05, 2014 for Hedgeye subscribers.
“Reality is wrong. Dreams are for real.”
My colleague and energy Sector head, Kevin Kaiser, approached me in the office the other day and told me that he had a disconcerting dream about me. It turns out the dream itself wasn’t all that crazy, but was simply that I decided to get a Mike Tyson-esque face tattoo. My takeaway was that Kaiser was probably just spending a little too much time on MLP accounting.
Incidentally we are still short Kinder Morgan (KMI) and Linn Energy (LINE) on our Best Ideas list.
In tribute to Kaiser’s dream, though, I’ve included as the Chart of the Day below an exhibit from his most recent note on LINE. The exhibit shows the actual free cash flow from every quarter in 2013 as well as his projected 2014 free cash flow. Admittedly, free cash flow might be a bit of a misnomer as cash flow is actually decidedly negative.
In fact, in 2013 free cash flow (defined as discretionary cash flow less cap-ex and contribution to JV) was negative $-374 million. In 2014E, we are projecting free cash flow of negative $-132 million. An astute analyst might actually note that at least the free cash flow deficit is improving, which is true if you believe LINE’s guidance. The bigger issue, though, is one of distributions.
Based on current guidance, LINE will be paying right around $960 million in distribution in 2014E. How does a company that has negative $-132 million in free cash flow pay almost $1 billion in distributions you might ask? Well, in this instance, we can only assume that either they are going to issue massive amount of debt and new shares (they already have $9.1 billion in net debt), or as the famous American poet Tupac said in the quote above ...dreams are for real.
(Incidentally, you can rest assured that I won’t be getting a Mike Tyson face tattoo anytime soon!)
Back to the Global Macro Grind ...
Speaking of dreamland, President Putin proved yesterday that he may not actually be living in one based on his press conference to discuss Russia’s actions in Crimea. We wrote in yesterday’s Early Look that Putin’s ambitions may not actually be as grandiose in the Ukraine as many in the manic media would have us believe. In fact, it seems the key take away from the rambling press conference is that Putin has no intention to use force and is merely protecting legitimate Russian interests in the region.
The broader take away from this incident may actually be its impact on President Obama and, by default, the Democrats heading into the mid-term elections next fall. As I wrote yesterday, we did a poll in which the results indicated pretty decisively that Putin would come out as the stronger leader and it seems this is certainly the case. The New York Post (admittedly a Republican leaning newspaper) made an apt analogy between Obama and Jimmy Carter this morning in an op-ed in which they wrote:
“Vladimir Putin has taken the measure of Barack Obama. He’s found Jimmy Carter.
Like Jimmy Carter, who boasted he was free of any “inordinate fear of communism,” Obama began his term as president vowing to “reset” relations with Russia.
Like Jimmy Carter, who conveyed weakness when Iran took our embassy staff hostage, Obama confirmed his own weakness when he drew a red line in Syria and then backed down from enforcing it.
Like Jimmy Carter, who was rewarded by Leonid Brezhnev with a Soviet invasion of Afghanistan, Putin has returned Obama’s favor with a Russian invasion of Ukraine
And just like Carter, who responded with what his staff called “a strong public statement,” Obama responded with his own statement saying he is “deeply concerned” by Russia’s military movement in Ukraine.
As in the Carter era, Obama-era defenders of inaction suggest there is little they can now do to get Russia out of Crimea. They are likely right.”
Now whether Obama is truly a foreign policy comrade (for lack of a better word) of Jimmy Carter, or the NY Post is actually living in Republican dreamland, is certainly up for some debate. But there can be no question that that is something that Republicans will push aggressively into the upcoming mid-terms, especially if the Russians remain in Crimea.
Even before the Ukrainian situation, President Obama’s approval rating was doing the Democrats no favors. Since last summer, the last time his approval rating was higher than his disapproval rating, his rating has turned negative and decidedly so. Based on the current Real Clear Politics poll aggregate, Obama’s disapproval rating is 52.7 for an almost 10 point spread versus his approval rating of 43.1.
In other news in the world of dreams, the Chinese this morning may be experiencing their first corporate bond default ever. Specifically, Shanghai Chaoroi Solar announced it won’t be able to pay roughly $14.6 million in interest on a bond issue from two years ago. It is likely too early to tell whether this is the canary in the Chinese debt coal mine, but one thing is for certain - the Chinese GDP target of 7.5% will be a mere dream if the $1.5 trillion Chinese corporate bond market starts to shake.
Conversely, the European economic recovery seems much less of a dream as PMI data accelerated to 32-month high 52.6 versus 51.6 prior. Additionally, European retail sales came in at a better than expected +1.3% year-over-year gain versus an expected decline of -0.4%. When combined with the fact the periphery yields are now near all time lows, as evidenced by the Spanish 10-year yield ticking lower ahead of tomorrow’s auction, it may be time to do more than dream about the European revival.
Our immediate-term Risk Ranges are now as follows (our Top 12 macro ranges are in our Daily Trading Range product):
Keep your head up, stick on the ice and dream big,
Daryl G. Jones
Director of Research