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Chance of a Crash?

“We are taking a greater chance of having another crash at a time when the world is less capable of bearing the cost.”

-Raghuram Rajan

 

Crash? Yep. My man Dr. Raj doesn’t consider it improbable. Do you? The aforementioned quote comes from an interview the former Chief Economist of the IMF (2003-2006) and now Governor of the Reserve Bank of India just gave to the Central Banking Journal.

 

“Investors are counting on easy money – they put the trades on even though they know what will happen as everyone attempts to exit positions at the same time… there will be major market volatility if that occurs.”

 

I can assure you that “everyone” has not attempted to get out of the US stock market, yet. Just think, all we needed was a 2% down day (and a -3.5% correction from the all-time bubble highs), and volatility (VIX) ripped +65%! That’s called some wicked asymmetry.

 

Chance of a Crash? - EL chart 2

 

Back to the Global Macro Grind

 

I have no love lost for those who think that they can centrally plan things like gravity, economic cycles, etc. But if I had to pick one modern central planner to help me run money, it would be Dr. Raj. When it comes to real-time interconnected market risk, sorry Janet, but you wouldn’t make it past the first interview at a performance based fund.

 

Not only did Rajan tell linear-economist Larry Summers to go flower himself circa 2006 (Summers called Rajan’s views of market risks “misguided”), but he’s taken India on a path that American, European, and Japanese bureaucrats seemingly do not have the spine to traverse – that of raising interest rates in order to tone down the real cost of living (inflation).

 

India’s stock market (one of our favorite long ideas in 2014 – the Wisdom Tree India Earnings Fund (EPI) in Real-Time Alerts) not only took the rate hikes and inflation fighting policy from Dr. Raj in stride, they celebrated them. India’s BSE Sensex is up another +0.4% this morning to +23.2% for the YTD as these wacky things called investment and capex cycle expectations in India take hold.

 

Raising rates?

 

Sadly, if we’re right on both US Housing and GDP continuing to slow here in Q3, there isn’t a chance on this side of central planning hell that Janet Yellen is going to raise interest rates in the 1st half of 2015.

 

Being the bear on both US growth and rates this year, I get a lot of questions on Fed timing. I spent all of yesterday seeing Institutional Investors in NYC (8 meetings) and by the end of the day I came to the realization that the biggest risks to our current views are:

 

  1. We aren’t bearish enough on US growth
  2. We aren’t bullish enough on long-term Treasuries

 

Sounds a little crashy, but just fyi, markets do crash after making all-time bubble highs on no-volume.

 

Again, what I just wrote is that the risk to our current view is that we’re not bearish enough on the US stock market. Since we don’t do the “year-end bonus-target” thing for stock and bond market levels, here’s that current view:

 

  1. US Treasury 10yr Yield tests 2.21-2.41%
  2. SP500 corrects towards 1829

 

Yeah, on that 2.41% level for the 10yr, I know. What a leap that forecast is with the 10yr at 2.45% this morning! As my friends from Thunder Bay would say though, “the thing of it is” we’ve been looking for 2.41% since the 10yr was at 3%.

 

On the SP500 though, my current views are finally shifting to the bear side.

 

As most of you who have been following my team and my levels know, I have been more focused on having you sell the Russell 2000 than the SP500 YTD, primarily because the SP500 has many more slow-growth #YieldChasing components that I like(d).

 

Provided that the SP500 remains bearish on my intermediate-term TREND signal (1930 resistance), I see my long-term TAIL risk line of 1829 support as probable. What does probable mean in risk management speak? Well, it doesn’t mean improbable.

 

Other than a certified train wreck for whoever bought SPX 1987, what would 1829 look like?

 

  1. A -4.7% correction from yesterday’s closing price of 1920
  2. A -8% correction from the all-time high (1987) – the Russell 2000 has corrected -7% since July 7th

 

Oh, and about 1987… if you want to go all crashy in your investment meeting today, how ominous of a date/level is that?

 

If I am right in that I am not bearish enough on the SP500 (yet), and my long-term TAIL risk line of 1829 snaps. Oh snap, they will. That’s the point about my definition of TAIL risk – once it’s on, the only support strategy (level) I’ll be recommending is prayer.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 2.43-2.53%

SPX 1

RUT 1107-1131

India’s BSE Sensex 251

VIX 14.92-18.59

Gold 1

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Chance of a Crash? - Chart of the Day


August 7, 2014

August 7, 2014 - Slide1

 

BULLISH TRENDS

August 7, 2014 - Slide2

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August 7, 2014 - Slide6

 

BEARISH TRENDS

August 7, 2014 - Slide7

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August 7, 2014 - Slide10

August 7, 2014 - Slide11
August 7, 2014 - Slide12


THE HEDGEYE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP – August 7, 2014


As we look at today's setup for the S&P 500, the range is 30 points or 1.11% downside to 1899 and 0.46% upside to 1929.                                                        

                                                                       

SECTOR PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 1

 

THE HEDGEYE DAILY OUTLOOK - 2

 

EQUITY SENTIMENT:

 

THE HEDGEYE DAILY OUTLOOK - 10

 

CREDIT/ECONOMIC MARKET LOOK:

  • YIELD CURVE: 2.00 from 2.01
  • VIX closed at 16.37 1 day percent change of -2.96%

 

MACRO DATA POINTS (Bloomberg Estimates):

  • 7am: BOE rate decision
  • 7:45am: ECB rate decision
  • 8:30am: Draghi press conference
  • 8:30am: Initial Jobless Claims, Aug. 2, est. 304k (prior 302k)
  • Continuing Claims, July 26, est. 2.512m (prior 2.539m)
  • 9:45am: Bloomberg Consumer Comfort, Aug. 3
  • 10am: Freddie Mac mortgage rates
  • 10:30am: EIA natural-gas storage change
  • 3pm: Consumer Credit, June, est. $18.650b (prior $19.602b)

 

GOVERNMENT

    • President Obama signs VA bill, speaks in Fort Belvoir, Va.
    • 2pm: House Foreign Affairs panel hearing on Ebola outbreak with CDC Director Tom Frieden among the witnesses
    • 2pm: Treasury Dept’s Federal Advisory Cmte on Insurance mtg w/Federal Insurance Office Director Michael McRaith
    • Africa Summit:
    • 8am Discussion w/ E. African community presidents including Rwanda, Kenya, Tanzania, Uganda, Burundi hosted by U.S. Chamber
    • 8am: Guinea, Kenya, Congo, Ghana presidents at seminar on growth models
    • 9am: CSIS Mali/regional security forum w/ Mali president
    • 5pm: Burkina Faso president at news conf. on his role as regional mediator
    • U.S. ELECTION WRAP: Tenn. Primary Tmrw; Walsh Weighs Future

 

WHAT TO WATCH:

  • BofA said to near mortgage-probe settlement of up to $17b
  • July U.S. comp. sales may gain as retailers discount summer merchandise
  • Russia bans array of U.S., EU food in retaliation for sanctions
  • Fox tops earnings ests. with film, cable units spurring gain
  • Symantec 1Q rev. tops estimates on security demand
  • Draghi outlook menaced by Putin as Ukraine hurts recovery
  • Germany’s bond advance sends note yield below zero before ECB
  • German industry output grows less than forecast on Ukraine
  • Boeing weighs buying parts recycler to profit from junkyard jets
  • Nestle plans share buyback as sales beat analysts’ estimates
  • Rio to bolster returns after first-half profit advances 21%
  • Iliad doesn’t plan to increase T-Mobile US bid: Les Echos
  • Google to boost encrypted websites in rankings, WSJ says
  • Range Resources faces Pennsylvania fracking water fine: Reuters
  • Google, Barnes & Noble in online shopping pact, NYTimes says

 

AM EARNS:

    • AES (AES) 6am, $0.28
    • Air Canada (AC/A CN) 6am, C$0.47 - Preview
    • AMC Networks (AMCX) 7am, $0.86
    • AmTrust Financial (AFSI) 7am, $1.00
    • Apollo Investment (AINV) 7:30am, $0.22
    • Auxilium Pharmaceuticals (AUXL) 6am, $(0.21) - Preview
    • Brinker Intl (EAT) 7:45am, $0.87
    • Broadridge Financial (BR) 7am, $1.16
    • Canadian Tire (CTC/A CN) 7:40am, C$2.01
    • Chiquita Brands Intl (CQB) 8:03am, $0.62
    • CI Financial (CIX CN) 9:40am, C$0.46
    • Cooper Tire & Rubber (CTB) 7:30am, $0.80
    • Duke Energy (DUK) 7am, $0.98
    • EchoStar (SATS) 6am, $0.17
    • Fifth Street Finance (FSC) 6:45am, $0.26
    • Finning Intl (FTT CN) 8am, C$0.47
    • Foster Wheeler (FWLT) 6:45am, $0.47
    • Harman Intl (HAR) 8am, $1.21
    • Horizon Pharma (HZNP) 6:30am, $0.07
    • Huntington Ingalls (HII) 7:15am, $1.81
    • IGM Financial (IGM CN) 10:08am, C$0.8
    • Inter Pipeline (IPL CN) 11:26am, C$0.24
    • Intercontinental Exchange (ICE) 7:30am, $2.02
    • Lamar Advertising (LAMR) 6am, $0.37
    • Laredo Petroleum (LPI) 7am, $0.18
    • Linn Energy (LINE) 6:45am, $0.42
    • Mallinckrodt (MNK) 6am, $0.87
    • Manulife Financial (MFC CN) 6am, C$0.40 - Preview
    • Mylan (MYL) 7am, $0.72 - Preview
    • NorthStar Realty Finance (NRF) 8am, $0.35
    • NRG Energy (NRG) 6:56am, $0.18
    • OGE Energy (OGE) 7am, $0.52
    • Orbitz Worldwide (OWW) 8:03am, $0.15
    • Radian Group (RDN) 7am, $0.28
    • Sarepta Therapeutics (SRPT) 7am, $(0.77)
    • Scripps Networks (SNI) 7am, $1.13
    • Semafo (SMF CN) 8:23am, $0.03
    • Sempra Energy (SRE) 9am, $1.13
    • Springleaf Holdings (LEAF) 8am, $0.45
    • Stratasys (SSYS) 6:30am, $0.45 - Preview
    • SunEdison (SUNE) 6am, $(0.26)
    • Telus (T CN) 8:45am, C$0.58
    • Teradata (TDC) 6:55am, $0.65
    • TMX Group (X CN) 6am, C$1.01
    • TRI Pointe Homes (TPH) 6:45am, $0.16
    • Wendy’s (WEN) 7am, $0.10
    • WhiteWave Foods (WWAV) 6:30am, $0.22
    • Windstream Holdings (WIN) 7am, $0.08

 

PM EARNS:

    • Allscripts Healthcare (MDRX) 4:01pm, $0.09
    • Alnylam Pharmaceuticals (ALNY) 4pm, $(0.52)
    • Alona Energy (ALJ) 5:19pm, $(0.01)
    • Assured Guaranty (AGO) 4pm, $0.41
    • AuRico Gold (AUQ CN) 4:37pm, $(0.04)
    • CareFusion (CFN) 4:02pm, $0.72
    • CBS (CBS) 4:01pm, $0.72 - Preview
    • Computer Sciences (CSC) 4:22pm, $0.94
    • Consolidated Edison (ED) Aft-Mkt, $0.54
    • Credicorp (BAP) 7pm, $7.45
    • Great Plains Energy (GXP) 5:10pm, $0.41
    • Linamar (LNR CN) 4pm, C$1.28
    • Lions Gate Entertainment (LGF) 4:05pm, $0.21
    • Medivation (MDVN) 4:10pm, $0.23
    • MercadoLibre (MELI) 4:03pm, $0.26
    • Monster Beverage (MNST) 4:05pm, $0.75
    • Nvidia (NVDA) 4:20pm, $0.26
    • Pengrowth Energy (PGF CN) 7:41pm, C$0.00
    • Salix Pharmaceuticals (SLXP) 4:01pm, $1.69
    • SolarCity (SCTY) 4:05pm, $(0.99)
    • Spectrum Pharmaceuticals (SPPI) 4pm, $(0.09)
    • Sprouts Farmers Market (SFM) 4:05pm, $0.18
    • Ubiquiti Networks (UBNT) 4:05pm, $0.51
    • Vivus (VVUS) 4pm, $(0.30) - Preview
    • Zynga (ZNGA) 4:04pm, Break-even - Preview

                                                                                                                               

COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)

  • World Food Prices Drop to Six-Month Low as Grain Costs Decline
  • Russia Accounts for Less Than 10% of EU’s Agriculture Exports
  • Female Lumberjacks in Japan Boost Abe Growth Plan: Commodities
  • Nickel Rises Most in Four Weeks Amid Deficit View as Mine Halts
  • Japan Buys 154,245 Metric Tons of Milling Wheat Via Tender
  • Wheat Declines in Chicago as Traders Focus on Russia Outlook
  • Raw Sugar Climbs as China Seen Buying From Brazil; Coffee Drops
  • Rubber Rises From One-Week Low as Crude’s Advance Boosts Appeal
  • China Bonded Copper Stocks Fall Further on Qingdao: Macquarie
  • Thailand to Cut Down More Rubber Trees to Reduce Supply
  • Oil Traders Flee Brent as Prices Signal Glut: Chart of the Day
  • Steel Rebar Closes Near 3-Week High Before China Trade Data
  • Noble Says Second-Quarter Profit Gains 5% on Bigger Volumes
  • Freeport Indonesia Ops. Back to Normal; To Finish Loadings 3pm
  • Russia’s Food Ban Seen by UN’s FAO as Tending to Depress Prices

 

THE HEDGEYE DAILY OUTLOOK - 5

 

CURRENCIES


THE HEDGEYE DAILY OUTLOOK - 6

 

GLOBAL PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 3

 

THE HEDGEYE DAILY OUTLOOK - 4

 

EUROPEAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 7

 

ASIAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 8

 

MIDDLE EAST

 

THE HEDGEYE DAILY OUTLOOK - 9

 

 

The Hedgeye Macro Team

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


Early Look

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K: Repeatable Pattern

This is a classic!

 

If you were CEO, what would you do?

 

Your company is dramatically underperforming the peer group, you just reported a disaster quarter, the core business is in a secular decline and there is not a defendable strategy to fix the business.

 

Yes, buy another company to mask these issues!

 

The British press has been floating rumors around that United Biscuits intends to go public in the fall or potentially be for sale at a $2.0 billion valuation.  At the time, the potential buyers were Kraft and Campbell’s, & Turkey’s Ulker.  Today, the rumors are that Kellogg may make a $2.0 billion bid for the company.

 

While anything is possible, it is unlikely that the rumors are true.  However, if they were, we believe it’d make K an even better short than before.

 

Our summary thoughts:

  1. K has the cash to make a bid.  According to the 10Q filed on 8/4/14 – in February 2014, the company entered into an unsecured five-year credit agreement to replace its existing four-year credit agreement, which would have expired in March 2015.  The new five-year credit agreement allows the company to borrow, on a revolving credit basis, up to $2.0 billion.  This includes the ability to obtain letters of credit in an aggregate stated amount not to exceed $75 million and swingline loans in aggregate principal amount up to $200 million in U.S. dollars and $400 million in Euros.
  2. UB will not solve the company’s problems in the U.S.  The acquisition will only distract management from fixing the core business.
  3. Management’s acquisition track record has been tarnished by the Pringles acquisition.
  4. Given the multiples that food stocks are selling for, we suspect the acquisition would be massively dilutive to K.

 

As K moves higher on this rumor, the short becomes more appealing.

 

Howard Penney

Managing Director

 

Matt Hedrick

Associate

 

Fred Masotta

Analyst


Nike Vs.Under Armour: Deep Dive into Endorsements

This note was originally published August 05, 2014 at 17:48 in Retail

Here’s a detailed financial look at athlete endorsement trends between Nike and Under Armour.

 

These are long-term trends that don’t serve as a smoking gun for a given quarter. That said, it is fascinating to see how the portfolio of sponsorship deals is both growing and maturing at an accelerating rate.

 

Furthermore, we can see the costs that are coming down the pike. For example, next year NKE is looking at an incremental $82mm (or $991mm in total) in endorsements. To justify that without being margin-dilutive, NKE needs to generate an extra $585mm in revenue. That’s 2.1% growth, which it can pretty much do in its sleep.

 

UA, on the other hand, is looking at a 39% jump in minimum sponsorship payments to $81mm, its biggest jump ever. UA can cover that with a 9% incremental sales boost, or $210mm – not a problem for UA. But keep in mind that this past year it only needed $45mm to cover a measly $5mm incremental bump in endorsements.

 

If there’s any real takeaway here it’s that as UA grows and succeeds in its own right, it is competing increasingly against the big boys (NKE, Adidas, Reebok, Puma) for marketable talent. It has a great advantage in that the brand is so hot, authentic and relevant. But those factors do not trump the economics associated with a higher ante-chip for sponsorship deals.

 

We can see what’s coming on the cost side, now we just need the revenue to follow. It’ll probably come. But anyone looking for margins to go up might be in for a surprise.

 

The revenue growth did not matter as much over the past year – but now it matters materially, especially with the stock trading at 70x+ earnings.

 

DETAILS

When people think of the biggest costs associated with competing in the athletic footwear and apparel business, they usually talk about raw materials, labor, distribution and physical infrastructure. All those things matter. But one of the biggest costs is athlete endorsements. This line item is so big, in fact, that the companies are required to file all minimum required payments in almost exactly the same way that retailers are obligated to outline future minimum lease payments under operating lease agreements.

 

We think that the comparisons are particularly interesting between NKE and UA. Obviously, there is a huge difference in aggregate sponsorship amounts, but in looking through the numbers we can pull away some interesting trends as to how each company’s portfolio is structured and evolving. Here are some key takeaways:

 

1. Gap is Huge, But Closing: Nike has $4.7bn in forward obligations to pay its athletes and teams, while UnderArmour is sitting at $273mm. That’s a huge difference, but keep in mind that UA was only 2% as large as Nike four years ago, and is 6% today. That far outpaced UA’s revenue growth.

 

Nike Vs.Under Armour: Deep Dive into Endorsements - ua chart1

 

2. Both Follow The Same Trend.  We’d go to the mat with anyone who claims that UA and NKE don’t compete against one another for talent (yes, many people make this case to us). The reality is that when we chart sponsorship obligations over time as a percent of sales, the trends are unmistakable for these two companies. Nike operates on a higher (more expensive) plane than UA. But in each of the past seven years, they have moved in exactly the same direction. Nike’s not worried about this. UA probably should be at some level.

 

 Nike Vs.Under Armour: Deep Dive into Endorsements - UA chart2

 

3. As a % of Demand Creation Spend, UA has become Nike. This chart is fascinating to us, as it shows how sponsorships went from 15% UA’s Demand Creation budget in its earlier years, and has more than doubled to a level that sits just higher than Nike.  This is neither good nor bad. It simply tells us that sponsorships and endorsements are a key part of the UA model.  Unfortunately, we’d point out that Nike has 4x more sponsorship obligations globally today ($4.7bn) than UnderArmour has generated in Operating Profit since the brand’s inception in 1996. UA is going to have to get more active with some bigger name athletes, and Nike won’t be too keen to lose that battle.   

 

Nike Vs.Under Armour: Deep Dive into Endorsements - UA chart3

 

4. Obligation Weighting: UnderArmour generally has an endorsement portfolio with obligations that are more near-term weighted. Today, about 65% of its obligations are due by the end of 2016. Again, that’s neither good nor bad…it’s simply UA’s strategy.  Nike is more back-end loaded with almost a third of its deals due after 5-years. This is due to Nike’s long-term deals with the leagues like the NFL and national teams like Brazil. It’s in the process of exiting its 10-year deal with Manchester United, which saves it about $38mm annually.

 

Nike Vs.Under Armour: Deep Dive into Endorsements - UA chart4

 

5. In looking at UA more closely, there’s actually been a fairly dramatic change in its sponsorship duration composition over the past two years alone. UA went from having 84% of deals due within 3-years and only 1% after 5-years, to having 19% due after year 5. This shows that UA is playing in the big leagues - competing for higher profile athletes and teams.

 

Nike Vs.Under Armour: Deep Dive into Endorsements - UA chart5


RL – Big Win If They Get This Right

Takeaway: The key question here is the duration of the transition and investment needed to launch the company into its next mega-growth cycle.

Not much in this RL quarter to get excited about one way or the other. The market already made that abundantly clear.  While there were a few interesting takeaways for us on the specific business units and growth levers, the big question for us is simply when the time will be right to step up and make a definitive long call on RL.  We don’t think it’s a question of If, but When.

 

Simply put, virtually every negative factor associated with the investment case around RL can ultimately be tied back to the company transitioning from one long-tailed cycle of repurchasing licenses/regaining control of the brand, to accelerating organic growth of its content on a global scale. Opportunities don’t come along very often where the stock of a quality company is out of favor due to the near-term financial impact of the company doing the right things to re-fuel growth. Operating profit – in absolute dollars – just hit a 4-year low with the quarter that RL reported today. The growth algorithm was horrible. Sales +3.3% (closer to flat excluding Chaps), EBIT -6.2% and EPS -7.6%. Not much to get excited about, and certainly not what one expects from a quality company like RL.  But that’s precisely why the stock is trading at 16x earnings – near the biggest discount  to Nike in the modern history of both companies. It’s also why the short interest is up 240% in six months.

 

We still have a lot of work to do on this one. Specifically, this ‘investing period’ everybody talks about is a lot more than that. It’s a major shift in direction for the brand(s), company, management and infrastructure. The question in our mind is whether this takes another 2-3 quarters to take hold instead of 2-3 years. If it’s the latter, then this stock is going nowhere but down.  But ultimately, if our model as outlined below is correct, then we’re going to see this company earn $10.00 per share next year, and $16.00 in year five of our model. As it exits ‘investing mode’ we’ll see organic growth accelerate to the high single digits, margins blow through prior peak to 18%, $5bn of cumulative free cash flow (which we have buying back stock), and RNOA approach 40%. Today the stock is trading at 16x next year’s earnings, and less than 10x EPS in year 5 of our model. That’s a story that not only offers considerable downside if our initial model is right, but long-term upside to $300. With a story like that, we’ll let the consensus bicker all it wants about Polo stores and Ricky bags.

 

RL – Big Win If They Get This Right - rl financials

RL – Big Win If They Get This Right - NKE RL PE Spread


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