Focusing The Mind

“Sharp downward movements do that… they focus the mind, like a good hanging used to do in the Old West.”
-Judge Roy Bean
Despite Friday’s US equity market selloff coming on one of the lower volume days of the month, this morning’s follow through selling in Asia and Europe has us focusing the mind…
Last week’s catalyst of Bernanke pandering is now in the rear-view. Today’s risk management task is to look forward. Now you are seeing a US Dollar strengthen in international currency trading. Almost every time that happens, you’ll see weakness in everything priced in dollars. Commodities are trading lower right now, as are US stock market futures. This shouldn’t be a surprise.
The manic media will be looking to build a narrative around the weakness in the US futures. I’ve already heard “Japanese GDP being lower than expected” at least half a dozen times since I woke up. For one, I am short Japan (via the EWJ etf) so I have every reason to support this view – but the reality is that it’s a ridiculous reason to explain away all that’s changed in the last 48 hours of global macro market news-flow.
Contrary to what you may be hearing parroted around the Street, I thought the economic news out of both Japan (+3.7% Q2 GDP) and Singapore (-8.5% non-oil exports) were more positive than negative. I thought the foreign direct investment drop in China (-36%) was more negative than positive. I am long China and short Japan. I have no room to infuse my personal confirmation bias into these economic read-throughs. They are what they are - no matter what my positioning.
If you wake up every morning looking for data points to support your portfolio’s positioning, you are probably not going to be a winner in this game over the long term. If you wake up chasing the SP500 to a new YTD high on Thursday (1,012), and scrambling to make sales this morning down at another higher-low (989) you are just going to frustrate yourself and your clients.
Have your own investment process. Make it malleable and repeatable. Buy low; sell high.
On Thursday, I sold my Freeport McMoran (FCX) and Southern Copper (PCU), then I shorted Apple (AAPL). Why? when everyone is chasing things in this tape, you have to find a way to focus your mind and book gains. You also have to be able to short other people’s hopes. You have to have the ability to maintain opposing thoughts in your mind and still fade the market. You have to find ways to win.
On Dollar down days, the Bankers, Debtors, and Politicians get paid – meanwhile American commoners and the Chinese government get plugged. One of the main reasons why the US stock market failed to make a higher-high on Friday was just that. The US Consumer gets this trade – he isn’t stupid. Friday’s Michigan Consumer Confidence reading flashed another lower-high, catching those who don’t get what the American consumer does off-sides.
This morning’s USA TODAY/Gallup Poll reveals that, “57% of adults say the stimulus package is having no impact on the economy or making it worse… 60% doubt that the stimulus plan will help the economy in the years ahead… 18% say it has done anything to help improve their personal situation…”…
As the US Dollar tested new YTD lows last week, the US stock market made new YTD highs. All the while, Chinese stocks started to fall. Again, this makes sense  - if you believe me that the Chinese don’t like this US Dollar Devaluation any more than the American Saver does.
Last night, the Chinese stock market got hammered, trading down another -5.8%. Since it peaked on August the 4th at 3,471, the Shanghai Composite has seen a -17% correction. Never mind a correction – for a country, that’s a crash!
So what to do here this morning? Run around like chickens with our heads cut off yelping for bananas? Uh, no – chickens don’t eat bananas. Let’s just take a deep breath, and remind ourselves that the Buck can start to Burn again just as quickly as it stopped going down. This remains the global macro trade that continues to matter. It won’t forever – but until forever comes, don’t fight it – capitalize on it.
I have immediate term TRADE downside support levels for the SP500 and Nasdaq at 989 and 1,965, respectively. Immediate term TRADE upside resistance for both US indices  is now 1,015 (SP500) and 2,019 (Nasdaq).
Best of luck out there this week,


XLK – SPDR Technology Tech and Healthcare remain the two sectors most primed for accelerating M&A activity in Q4. Both look great from an intermediate term TREND perspective, but at a price.

EWC – iShares Canada We bought Canada on 8/11 ahead of Bernanke’s pandering. Canada has what THE client (China) needs, namely commodities, which we believe will reflate as the buck burns.   

USO – Oil FundWe bought USO on 8/10. With Bernanke as the catalyst for the USD breaking down we want to be long oil.

QQQQ – PowerShares NASDAQ 100 We bought Qs on 8/10 to be long the US market. The index includes companies with better balance sheets that don’t need as much financial leverage.

COW – iPath Livestock This ETN tracks an index comprised of two thirds Live Cattle futures, one third Lean Hogs futures. We initially began looking at these commodities because of recession inspired capacity reductions combined with seasonal inflections. A series of macro factors including the swine flu scare, a major dairy cattle cull in response to collapsing milk prices and the collapse of the Argentine agricultural complex due to misguided policy provided us with additional supporting fundamental data points for the quantitative set up in price action.  

EWG – iShares Germany Chancellor Merkel has shown leadership in the economic downturn, from a measured stimulus package and budget balance to timely incentives such as the auto rebate program. We believe that Germany’s powerful manufacturing capacity remains a primary structural advantage; factory orders and production as well as business and consumer confidence have seen a steady rise over the last months, while internal demand appears to be improving with the low CPI/interest rate environment bolstering consumer spending. We expect slow but steady economic improvement for Europe’s largest economy, which posted a positive Q2 GDP number.

XLV– SPDR Healthcare Healthcare has lagged the market as investors chase beta.  With consumer confidence down and the reform dialogue turning negative we like the re-entry point here.

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.

CYB – WisdomTree Dreyfus Chinese Yuan The Yuan is a managed floating currency that trades inside a 0.5% band around the official PBOC mark versus a FX basket. Not quite pegged, not truly floating; the speculative interest in the Yuan/USD forward market has increased dramatically in recent years. We trade the ETN CYB to take exposure to this managed currency in a managed economy hoping to manage our risk as the stimulus led recovery in China dominates global trade.

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. We believe that future inflation expectations are currently mispriced and that TIPS are a efficient way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.

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.

VXX – iPath VIX
As the market rolled over and volatility spiked, we shorted the VXX on 8/13.

UUP – U.S. Dollar Index We believe that the US Dollar is a 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 US dollar.

DIA  – Diamonds Trust- We shorted the financial geared Dow on 7/10 and 8/3.

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.

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.


THE WEEK AHEAD: August 17-21


The Week of the 17th through the 21st had fewer major economic data releases scheduled than the prior two weeks, but there is still a tremendous amount to digest. Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.


Sunday/Monday August 17


US: The August Empire State index will be released on Monday morning, as will Treasury Department Net Foreign Securities Purchases for June.


Europe: The Eurostat Eurozone Trade Balance figures for June will be released as will June Retail Sales for Switzerland.


Asia: Japanese Q2 GDP data will be released on Sunday evening. On Monday morning Singapore July Export data will be released, while in the evening the RBA August meeting notes will be released giving greater insight into the mindset of Governor Steven’s and his team.


Tuesday August 18


US: PPI data for July will be released at 8:30 am on Tuesday as will Census Bureau Housing Starts, Building permit and Housing Completion figures for July. Weekly ICSC, Redbook and ABC Consumer Comfort index data will also be released.


Europe: UK CPI and Retail Prices data for July will be released on Tuesday morning, as will August ZEW sentiment indices in Germany.  


Asia: Hong Kong Unemployment rate data for July will be released on Tuesday morning.  On Tuesday evening, RBA Assistant Governor Edey will be speaking on the impact of the global financial crisis on the Australian Financial Services Industry.


Wednesday August 19


US:  Weekly MBA Mortgage application data will be released on Wednesday morning, as will EIA oil gas and distillate stock levels.


Europe: The minutes from the BOE August 5-6 monetary policy meeting will be released on Wednesday morning. German PPI data for July is also slated for released on Wednesday: a data point which, although stale, is of key interest to us as we follow industrial recovery in the largest European economy. Eurozone Current Account data for June will be released on Wednesday by the ECB.


Asia:  Malaysian CPI data  for July is due on Wednesday morning, with consensus estimates at just shy of -2.5% Y/Y, any surprise to the upside in this commodity driven economy will be of intense interest to any South East Asia inflation watchers.


Thursday August 20


US:  the Confidence Board Leading Indicator index for July will be published at 10 AM, while weekly Initial Claims, EIA Natural Gas Stock and Fed M2 figures will be also be released through the day at their normal times. At 11 AM, the Treasury will announce 2, 5 and 7 year notes.


Europe: A slew of data points will be released in the UK on Thursday morning including July Retail Sales, M4 and CML Mortgage Lending. Also that morning, Norway will release Q2 GDP.


Asia:  The big story in Asia on the 20th will be reported Q2 GDP and Current Account data for Taiwan. With the country reeling from the destructive Typhoon, it is likely that government policy makers will use this release as an opportunity to discuss further strengthening of  trade ties with the mainland as the recovery process continues after this setback. Weekly Indian Wholesale Price Index data is reported on Thursday, with levels still registering stubbornly negative in recent weeks there will be continued scrutiny of the figures by RBI watchers. Also on Thursday, Hong Kong will release CPI levels for June.


Friday August 21


US: July Existing Home Sales will be released at 10 AM. Also at 10 AM, Chairman Bernanke will speak at Jackson Hole on “Reflections of a Year in Crisis”. Expect any statements by “the bearded one” that sound remotely self congratulatory to stoke more pundit criticism for perceived Fed failures. There will be a subsequent fed panel discussion on policy implementation in the afternoon.


Europe:  Reuters August PMI data for the Eurozone in aggregate as well as Germany and France in particular will be released on Friday morning. With the recent signals of returning strength in the German and French economies we will be focused on any signals contained in the Manufacturing and, or Services index levels.


We've got some more color on the sequential decline in participation units, the Haddrill contract amendment, and other tidbits.



- Hadrill’s new contract:

  • He was originally brought in to “turn around” the Company. Now the board wants him to focus on strategic initiatives and growing BYI
  • Compensation structure was changed to align his incentives to focus on creating “longer term value” and getting him paid in case the company gets bought out before he sees the fruits of his labor. Hmmmm....
  • You know our thoughts here (see the Footnoted post, "BYI: WHY THE NEW HADDRILL CONTRACT?" from 8/13/09)


- WAP/LAP installed base decreased in the quarter and over the last few quarters because the company hasn’t released new content in quite a while.  Over the last few months they’ve issued several new titles to go on their Millionaire 7’s and Quarter Millionaire platforms.  Management believes that over time the base of WAP/ LAP games should increase. 


- Daily & Rental Fee games decrease

  • Mostly in low fee rental & daily fee games, many of which got converted to for sale or weren’t earning enough to make it worthwhile to keep out there.  Based on our estimate these types of games contribute an immaterial amount to the gaming operations business
  • We estimate that there are roughly 6,500 “premium” rental & daily fee games earning on average $50/day, 2000 Seminole games (in a sale leaseback type arrangement) earning around $20-25/ day, and the balance earn around $10/ day


- Increase in Centrally Determined games was driven by Mexico & Washington


- Decrease in deferred revenue:

  • Management is trying to be more cognizant not to “bundle” systems and slot sales to avoid unnecessary deferral of revenues
  • A large portion of system sales are “add on” products to existing system which aren’t subject to deferral accounting since deferral revenues are more often associated with new system sales


- Apparently, management’s ommission of quarterly detail was accidental

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The Tail Charts for Energy

This week we held our monthly strategy call with a detailed discussion on energy.  Setting aside the price fluctuations that might occur in the short term, I wanted to highlight two charts from that call that are very critical for any supply analysis of oil.


The first is the long term production chart (which is posted below), which highlights the flat lining of production globally over the past five years.  From 2001 – 2004, global oil production CAGRed at 1.8%, while from 2004 – 2008 it CAGRed at only 0.4%.  The long term average, over 30 years, is for 0.9% annual growth in oil production.  We are clearly seeing a slowdown in the rate of production growth globally.


The second chart that is critical is that of global rig count, which has been ramping dramatically for the last 10-years.  Global rig count CAGRed at 5.8% from 2001 – 2004 and then 8.6% from 2004 – 2008.  So investment in finding and producing oil ramped in a period in which production flat lined.


Combined, while these two charts and data sets don’t necessarily validate peak oil, but they most certainly validate the fact that oil has become much more difficult to find and will require much more substantial investment than we have seen historically to grow production rates.  These are two facts, and charts, to keep front and center as you position your portfolios for the tail duration on oil (three years or less).


Daryl G. Jones

Managing Director


The Tail Charts for Energy - oildj



Today’s Q2 GDP release for Hong Kong registered at a 3.3% improvement over the first quarter or a 3.83% decline over Q2 2008. This recovery was driven almost entirely by increased demand on the mainland which brought total exports to over HKD 600 billion for the quarter, although local political intervention did contribute with stimulus measures bringing government consumption up by 1.6% Y/Y.

(continued after chart)



As a trading economy, Hong Kong’s exports provide one of the clearer rear view mirror maps of global recovery to date separating the strong from the weak. On a re-export basis (meaning the goods in question originated elsewhere and only passed through HK) shipments to China and Taiwan showed positive year-over-year growth in June by 10.2% and 2% respectively, while shipments to Germany & South Korea  improved sequentially by wide margins (though remaining negative on a Y/Y basis). Meanwhile Chinese made exports passing through Victoria Harbor bound for the UK and US declined in June. 


Whether you believe that China’s recovery to date has been wholly artificially manufactured, or believe that it contains the seeds of expanding organic consumer demand, the fact remains that it is real. With today’s confirmation from Europe’s stronger economies that growth is returning there as well, Hong Kong’s ports should now start to see traffic improve in both directions. 


Andrew Barber




RRGB’s 2Q09 same-store sales came in down 11.5%, representing a dramatic sequential fall off in sales on a both a 1-year and 2-year basis.  Comparable sales growth trends deteriorated further during the first four weeks of Q3, -15.3% versus the +4.4% from the same 4-week period last year.  Management stated that the most difficult comparisons of the year are now behind them, but as we have seen in this environment, easy comparisons no longer seem to matter. 


RRGB continues to blame its sales weakness on both the macro environment and the company’s decreased level of YOY spending on national cable advertising.  RRGB should never have invested in national cable advertising because its less than 500 unit store base does not warrant such a high level of spending.  Since its inception, management was never able to quantify the advertising campaign’s returns, but based on management comments, guest count growth was directly related to the level of advertising spending in each quarter.  More importantly, it was directly related to the incremental spending on a YOY basis, which means that the company had to spend increasingly more money to continue to drive traffic higher.  This is an addictive type of spending, which does not yield the necessary returns because the incrementally higher level of spending does not typically generate incrementally higher growth.  Instead, the increased spending is needed to maintain the same level of growth.


RRGB launched its national advertising campaign in April of 2007 and ran advertisements for 11 weeks in FY07.  In 2008, the company increased this ad time to 23 weeks and its total spending to $18-$18.5 million from $11.5 million in 2007.  In 2009, RRGB does not plan to do any national cable advertising and reduced its contribution to the national advertising fund to 0.25% of restaurant sales from 1.5% in 2008.  The chart below shows the quarters when there was no advertising, increased, decreased or even advertising weeks versus the prior year (as shown by +, -,=) relative to reported traffic results.


Early on, RRGB's traffic growth benefited from this incremental spending (turning positive in 2Q07 and 3Q07) but went negative again in 4Q07 when the ads went off the air. There was some sequential improvement in 1Q08 traffic (still slightly negative) when there were incremental weeks of advertising relative to no advertising in 1Q07.  In 2Q08, advertising levels were flat with the prior year and traffic continued to decline.  Even with higher levels of advertising spending in the back half of 2008, traffic declines deteriorated further.  Of course, the macro environment had a lot to do with the top-line weakness at RRGB and outweighed the benefit of having incrementally more television ad support in 2H08.  Due to the decline in sales in 2H08, the company could not justify maintaining the same level of investment in national cable advertising in 2009.


Last year, we heard about top-line weakness despite increased spending in 2H08 so margins felt the impact of both declining sales and the incrementally higher costs.  This year, RRGB continues to point to the decreased level of advertising as the reason why sales have continued to fall off so significantly.  Most of the questions on the earnings call were focused on a national advertising campaign that does not even exist this year, which highlights the distraction it has become for the company even after the case.