Client Talking Points


Is the U.S. Dollar strengthening because the U.S. economy is, or is it signaling immediate-term TRADE overbought versus the EURO because Europe is slowing now too? We’ll take the latter – because the early cycle growth components of everything from the Russell 2000, Housing, and UST 10YR Yield are.


We see bearish @Hedgeye TREND signals across European Equities  - and while the DAX is down the least (compared to Portugal -1.6%, Spain -1.3%, Italy -1.1%) this morning, at -0.7% to 9523, it’s well below our 9788 TREND resistance line.


Newsflash: One up-day to lower-highs within a bearish TREND for U.S. 10yr yields doesn’t a new bear market in the long bond make. 2.54% 10yr yield within a 2.44-2.56% immediate-term risk range. We reiterate our #Q3Slowing USA theme this morning.

Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

Hologic is emerging from an extremely tough period which has left investors wary of further missteps. In our view, Hologic and its new management are set to show solid growth over the next several years. We have built two survey tools to track and forecast the two critical elements that will drive this acceleration.  The first survey tool measures 3-D Mammography placements every month.  Recently we have detected acceleration in month over month placements.  When Hologic finally receives a reimbursement code from Medicare, placements will accelerate further, perhaps even sooner.  With our survey, we'll see it real time. In addition to our mammography survey. We've been running a monthly survey of OB/GYNs asking them questions to help us forecast the rest of Hologic's businesses, some of which have been faced with significant headwinds. Based on our survey, we think those headwinds are fading. If the Affordable Care Act actually manages to reduce the number of uninsured, Hologic is one of the best positioned companies.


Construction activity remains cyclically depressed, but has likely begun the long process of recovery.  A large multi-year rebound in construction should provide a tailwind to OC shares that the market appears to be underestimating.  Both residential and nonresidential construction in the U.S. would need to roughly double to reach post-war demographic norms.  As credit returns to the market and government funded construction begins to rebound, construction markets should make steady gains in coming years, quarterly weather aside, supporting OC’s revenue and capacity utilization.


Legg Mason reported its month ending asset-under-management for April at the beginning of the week with a very positive result in its fixed income segment. The firm cited “significant” bond inflows for the month which we calculated to be over $2.3 billion. To contextualize this inflow amount we note that the entire U.S. mutual fund industry had total bond fund inflows of just $8.4 billion in April according to the Investment Company Institute, which provides an indication of the strong win rate for Legg alone last month. We also point out on a forward looking basis that the emerging trends in the mutual fund marketplace are starting to favor fixed income which should translate into accelerating positive trends at leading bond fund managers. Fixed income inflow is outpacing equities thus far in the second quarter of 2014 for the first time in 9 months which reflects the emerging defensive nature of global markets which is a good environment for leading fixed income houses including Legg Mason.

Three for the Road


Former CEO of PepsiCo Americas Foods, Brian Cornell, is named as new CEO and chairman of the board of Target.



Creativity comes from trust. Trust your instincts. And never hope more than you work.

-Rita Mae Brown


Another solid session for Chinese stocks, Shanghai Composite up +0.9% to +7.2% year-to-date.

CHART OF THE DAY: GDP Newsflash, It's Q3

To be fair to the 2014 US Growth Bulls who are looking for +3-4% GDP and a 10yr Yield > 3%, with a Q2 +4% bounce off of one of the worst Q1s since WWII on an annualized basis, 1st half of the year GDP in the US wasn’t negative. It was +0.87%. 

CHART OF THE DAY: GDP Newsflash, It's Q3 - Chart of the Day

Newsflash, It's Q3

“For a fee, the exchange will flash information.”

-Michael Lewis


That’s a simple quote (from Flash Boys, pg 44) to a simple problem that RBC’s Brad Katsuyama faced in 2009 – being run over by getting late information. This is why Raj @Galleon paid such a premium for inside information. Front-running information flow? Yep. There’s big money in that.


There’s also lots of moneys in not losing other people’s moneys by chasing macro headlines that are taken out of context. Yesterday’s newsy Q2 2014 US GDP report was a fantastic example of that: “US Equity Futures and Bond Yields Surge on +4% GDP!”


Newsflash: it’s Q3.

Newsflash, It's Q3 - GDP cartoon 07.30.2014


Back to the Global Macro Grind


To be fair to the 2014 US Growth Bulls who are looking for +3-4% GDP and a 10yr Yield > 3%, with a Q2 +4% bounce off of one of the worst Q1s since World War II (see our Chart of The Day for context), on an annualized basis, 1st half of the year GDP in the US wasn’t negative. It was +0.87%. #Booyah


“So”, 62 months into a US economic expansion, as the intermediate-term TREND in US economic growth slows, you want to be buying that flash of Q2 “bounce” information, right? Wrong. US Equity futures reversed in a hurry yesterday and are now indicated down another 13 handles.


Spooo-hoo. What else can US consumer (XLY, XLP), housing (ITB), or early cycle industrial (XLI) perma bulls blame this morning?


  1. Europe? Sure, most of it, actually – Italian youth unemployment = 43.7% (whatever it takes!)
  2. China? After one of its best 2-week stock market moves in 4 years, not so much
  3. How about Israel or Putin, or something like that? #BlameCanada


I can flash you bullish information. Manufacturing that is easy. Twitter actually made-up user information using robots! It’s funny - if we write anything remotely USA bullish an entire community seems to cling to that like we’re going to enter the next 62 month expansion without ever leaving the first one!


According to one reading that I would characterize as one of the best contra-indicators of late 2007 (the Conference Board’s qualitative consideration of US consumer confidence), everything is just peachy. Problem is that you sell a cyclical (the US economy) when goldilocks is feeling peachy.


The best 2015 bull case (sorry, it’s still 2014) for the average American consumer that I have read to-date is one that our own Darius Dale wrote about yesterday (ping for his note) – reversing the bearish #InflationAccelerating call we have had since January.


That thesis goes as follows:


  1. US Dollar rips again (after it already ripped to overbought YTD highs)
  2. Commodities collapse (like they did in 2013)
  3. And the US consumer starts spending his and her brains out


If only 80% of America got DD’s flash report from us in their gmail boxes this morning… The poor bastard making $48,000/year with peak all-time cost of living would wake up feeling rich again!


Obviously real world wages and consumption patterns don’t work that way (or did you get a rent reduction and discount at Chipotle this morning?). Markets aren’t economies either. If they were, the Argentine stock market wouldn’t have been +7% to +67.3% YTD yesterday.


Markets are non-linear and constantly being barraged by multiple risk factors, across multiple durations. Meanwhile investors are constantly being tested by their confirmation biases and emotions. That’s why, as I get older and fatter, I like to wait and watch.


I also like to ask myself a lot of questions. I genuinely enjoy reading my analysts research views too. If they are doing their job, they’re constantly in flux, weighing each data point within the context of both the last and our forward looking TREND.


Is the US Dollar “strong” (US Dollar Index is +0.4% over the last 6 months, -0.5% over the last year) because the US economy is strengthening, sequentially (from Q2 to Q3) or is the Euro (vs USD) simply weak because the European recovery is weakening?


If Europe’s recovery slows in 2H 2014 like the USA’s did in 1H 2014, what does that mean for US listed multi-national consumer staples and industrial stocks? Fortunately the answers to these questions won’t be in a “survey.” They’ll be marked-to-market, flashing as new time/price information on our screens.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 2.44-2.56%


RUT 1134-1154


VIX 12.21-14.41

USD 81.61-81.57

EUR/USD 1.33-1.35

Gold 1

Copper 3.17-3.27


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Newsflash, It's Q3 - Chart of the Day

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Vacant Minds

This note was originally published at 8am on July 17, 2014 for Hedgeye subscribers.

“If you leave the smallest corner of your head vacant for a moment, other people’s opinions will rush in from all quarters.”

-George Bernard Shaw


Perhaps the most challenging part of the investment business is to control your own views.  After all, the world today is replete with conflicting opinions and research.  Some of it is very insightful, but the vast majority of these opinions are what we would characterize as the noise, versus the signal.


One point most of us can agree on is that when successful investors speak with conviction, it's worth giving them a little room in our ever so full minds.  In this vein, we thought that Stan Druckenmiller of Dusquesne and Soros Capital fame, had some apropos comments at the Institutional Investor “Delivering Alpha” conference yesterday.


Here are a few of Druckenmiller’s best quotes:


“I am fearful that today our obsession with what will happen to markets and the economy in the near term is causing us to misjudge the accumulation of much greater long term risks to our economy.”


“I hope we can all agree that once-in-a-century emergency measures are no longer necessary five years into an economic recover.”


“There is a heated debate as to what a 'neutral' funds rate would be. We should be debating why we haven't moved more meaningfully toward the neutral funds rate if for no other reason so the Fed will have additional weapons available if the outlook darkens again.”


His last point is perhaps most spot on.  Five years into the “recovery”, why are we still at extreme, once in a century emergency policy measures?  And given that, what, if any, options do policy makers have if the economy does sour?


Inquiring and non-vacant minds want to know Dr. Yellen!

Vacant Minds - Fed bubbles cartoon 07.09.2 14


Back to the Global Macro Grind...


To her credit, even if she didn’t give us any real insight on her strategy as it relates to monetary policy, Dr. Yellen did give us some decent stock advice in her recent congressional testimony.  Specifically, she said that she believed valuations for biotech and social media stocks were stretched.


While we would never recommend shorting a stock on valuation (sorry Dr. Yellen!), we absolutely agree with her call that certain social media stocks are overvalued.  In fact, our top pick on the short side is and continues to be YELP.


On that front, yesterday a key risk to the short idea disappeared as Yahoo effectively indicated they would use much of their Alibaba proceeds to return cash to shareholders.  While the company didn’t specifically say they wouldn’t buy YELP, buying YELP would certainly be inconsistent with returning cash to shareholders (to say the least).


Speaking of returning cash to shareholders and technology, we recently launched our newest sector, Semiconductors, led by Craig Berger.  A key theme of his launch was that there is a subset of semi-conductor stocks that have been returning cash to shareholders and will continue to aggressively do so.


Yesterday, Intel (INTC) reported strong numbers, which was capped with an additional $20 billion added to its stock buy back program. Intel, certainly, knows what to do with the Fed’s low interest rates!  While Berger remains cautious on the outlook for INTC because of the PC market (in effect: can things get better from here?), he continues to like this theme of owning companies in the semiconductor space that will increase dividends.


In the Chart of the Day below, we highlight this very investable theme with a slide from our Semiconductor launch presentation, which shows the companies that historically have returned the most cash back to shareholders. If you’d like to see Craig’s proprietary analysis on which companies are going to raise dividends next, or to set up a time to chat with him, please email


Getting back to the global macro grind, a key derivative play of semiconductors doing well is of course to be long Taiwan on a country basis. My colleague Darius wrote the following back in early June and it holds today:


“While it’s hard to argue in favor of the predictability of YTD gains, Taiwan does have idiosyncratic country risk factors that support allocating capital to this market at the current juncture. Specifically, improving GIP fundamentals support chasing Taiwanese equities up here – particularly amid heightened prospects for M&A activity in the global semiconductor space. It’s worth noting that the Tech sector accounts for a whopping 46% of TAIEX market cap, with semiconductors alone accounting for 23%. 


Contrary to Brazil, it’s particularly difficult to find a meaningful economic indicator in Taiwan that isn’t accelerating on both a sequential and trending basis. While headline inflation is indeed accelerating, it’s accelerating off of extremely low levels and does not warrant any attention from the central bank – especially with WPI trends being so subdued.”


While Taiwan has been a strong market in the year-to-date, this morning might actually offer an opportunity to get in at a discount as Taiwan Semiconductor is trading down almost 6% on news that it is likely to lose some next generation chip orders in 2015 from Apple and Qualcomm.


Before you head off into the trading day and eventually the weekend, we did want to offer one last quote that goes back to the start of our note and that we hope will find a spot in your mind:


"This [Federal Reserve Act] establishes the most gigantic trust on earth. When the President [Wilson] signs this bill, the invisible government of the monetary power will be legalized....the worst legislative crime of the ages is perpetrated by this banking and currency bill."

-Charles A. Lindbergh, Sr. , 1913


Indeed Mr. Lindbergh, indeed.


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


Vacant Minds - Chart of the Day

YELP: Winter is Here

Takeaway: The turn happened sooner than we expected; now it just gets tougher. We don’t need to dig that deeply to realize the model is breaking down


  1. BEAT & RAISE AGAIN: Once again, YELP didn’t produce much upside to the print, beating revenue estimates by only 3%.  The guidance raise wasn’t all that impressive either, up by $11-12M, which is a 4% raise on 2H14 after factoring in the 2Q beat.  Incremental detail on the core metrics below.
  2. FOOL's GOLD: There are some obvious metrics that the sell-side bulls will be touting.  We’re going to take a deeper look at what’s going on there, because most of it isn't that good, some of it is just scary.
  3. WINTER IS HERE: The turn happened sooner than we expected. We initially believed YELP's fundamentals would begin deteriorating in 2H14 and worsen through 2015, but YELP’s active business accounts took a sharp turn for the worse in 2Q14.  Further, there is another glaring sign that the business model breaking down.  



Once again, YELP didn’t produce much upside to the print, beating revenue estimates by only 3%.  The guidance raise wasn’t all that impressive either, up by $11-12M, which is a 4% raise on 2H14 after factoring in the 2Q beat.  Detail on the core metric below

  • Revenues: Growth decelerated to 61% y/y (from 66% last quarter), despite an acceleration in local advertising growth to 69% y/y , from 67% last quarter
  • Active Local Business Accounts: Decelerated sharply to 55% y/y growth in 2Q14 vs. 65% in 1Q14 (more detail below)
  • Customer Repeat Rate: 75%, consistent with last quarter, which was a record for the company in its reported history. 
  • Attrition Rate: accelerated to 18.6%, from 17.9% in 1Q14. 
  • Local Cohorts2005-2010 exhibited a sharp acceleration in revenue growth.  
  • Sales Headcount: Accelerated to 63% growth, vs. 55% in 1Q14



There are some obvious metrics that the sell-side bulls will be touting.  We’re going to take a deeper look at what’s going on there, because most of it isn't that good, some of it is just scary.


Customer Repeat Rate

This is not a retention metric, it is a measure of mix (new vs. existing accounts).  The higher the customer repeat, the greater the mix of repeating clients, and the lower the contribution of new accounts.  Reporting record highs in customer repeat rate is not a good thing, because it means there is a lower percentage of clients locked into longer-term contracts.  When your business model is riddled by rampant attrition, that is a problem.


YELP: Winter is Here - YELP   Customer Mix 2Q14a


Surging ARPU

This is more of a function of revenue mix and the customer repeat rate than anything else. We estimate that Local Ad Revenue comes with a higher ARPU, so increasing mix there will drive the trend.  Further, If YELP's repeat rate is higher, it has a higher percentage of customers paying the full quarterly rate than its new customers who may have only paid for one or two months.  So while we have seen a surge in 2Q14, we suspect this has more to do with revenue sources vs. any underlying changes in the company's fundamentals.


YELP: Winter is Here - YELP   ARPU


Local Cohort Growth

This is going to get a lot of positive attention, but is actually one of our greatest concerns from the print.  YELP produced a massive acceleration across each of its legacy cohorts.  However, what isn't reported is the massive deceleration in its remaining cohort, which decelerated from 64% revenue growth in 1Q14, to 39% in 2Q14.  However, that is not our main concern.


YELP: Winter is Here - YELP   Cohort Growth 2Q14


There is really only one explanation for the bifurcation in cohort trends: YELP is redeploying its salesforce to attack the earlier earlier cohorts.  Maybe management is trying to juice its reported cohort metrics.  More likely, management has realized that its scattered TAM in the later cohort are tougher to penetrate, meaning its's business model isn't viable here.  Scary prospects when considering how large YELP's TAM really is.



We didn't expect YELP to begin showing signs of deterioration until 2H14, and it's net account growth decelerated sharply in 2Q14, with growth decelerating by 10 percentage points (the most since its hyper-growth phase in 2012).  


We also need to consider that SeatMe customers are included in its 2Q14 accounts.  YELP is no longer reporting this metric; management wouldn't answer the question during the call regarding the number of exclusive Seat-Me customers in 2Q14 (was last reported at 500 in 1Q14).  In short, its core business is likely seeing more pressure than its reported metrics suggest.


YELP: Winter is Here - YELP   Account Breakdown vs. y y growth


So what happened? New account growth just wasn't good enough.  It's not that the 20K new accounts added in 2Q14 is bad, it's actually a record (excluding the Qype transition in 4Q13).  It's because attrition is starting to exert more influence over the model, and that's because YELP's account base is larger.  So despite record new absolute account growth, net y/y account growth decelerated by 10 percentage points.


That is the problem with YELP's business model: the larger the account base, the higher its attrition, and the more new sales reps YELP must hire to drive enough new account growth to compensate.


This may be the more telling chart, because it calls the viability of its business model into question.    


YELP: Winter is Here - YELP   Sales vs. Net Account growth


YELP is moving in a direction where its net account growth can't keep pace with its salesforce hires; that is what happens when you have rampant attrition.  This means the long-term growth story doesn't have any legs.  YELP must consistently hire more and more reps just to tread water, and do so at a declining to an eventually negative yield when these reps can't deliver enough growth to support their own salaries.  


The company isn't dying, but its business model is, along with the +50% growth rates that street is paying 12x 2015 revenues for.  It only gets tougher from here.



Let us know if you have any questions or would like to discuss in more detail


Hesham Shaaban, CFA


July 31, 2014

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