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    NPD released August Video Gaming results on Friday and the data looks less bad.  To this I ask, "Is the consumer spending more or are easy compares providing a mirage of health that doesn't really exist?"  Unfortunately, it is the later not the former and as we head into 4Q09/2010 consumer-based headwinds only get worse.


    Last year, August was the slowest month of the year in terms of absolute sales data captured by NPD - $1.08Bn.  This year, August data improved sequentially but it still trailed last year by a solid margin at just $0.91Bn.  August marks the 3rd month this year that consumers spent less than $1Bn on the sector.  The bears are claiming victory while bulls hide in their offices or point to "it's always this bad right before the cycle turns".






    Where do we go from here?  Frankly, I am torn.  On the one hand, console price cuts are already driving some elasticity in the market and that should continue to help between now and year end.  On the other, I can't help but worry about a toxic set-up that increasingly looks likely to pressure consumer spending over coming months and years. 


    My colleagues are among the best I've had the opportunity to work with and below are relevant excerpts from their work over the last few days.  Their points are valid and surely technology-based consumer spending is not immune to these factors.  Taken in this vein, it is hard to imagine that console price cuts are going to be enough to counter the mounting pressures that exist.



    First, from Andrew Barber - a great post on Consumer Spending headwinds:


    Keith likes to remind us that everything that matters in macro happens on the margin – and that being good at what we do means being vigilant for signs of change and that, while we invest in the present we must keep an eye on the horizon at all times. The horizon for US consumer spending looks bleak based on multiple overlapping demographic factors.


    In the charts below I have illustrated two potentially peaking long-term drivers for consumer spending. In the first chart, we see the age breakout of the work force estimated by the Department of Labor. The imprint of the baby boom is clearly seen, cresting in successive peaks roughly a decade apart.  






    The second chart shows the long term view of US consumer leverage. The Federal Reserve reported Tuesday that consumer credit declined in July by a larger-than-anticipated $21.6 billion from June, the most on records dating to 1943. In the midst of the great recession it’s clear that consumers are accessing fewer loans (whether by design or because of reluctant lenders) and spending less.






    Taken in unison, the two illustrations indicate an easy to understand trend for the coming years: the number of people in the US labor force who are at optimal earning age has peaked and will be steadily decreasing while, simultaneously, consumer credit is declining. If you combine this long tails data with the points we hammered on in our unemployment post on Wednesday (“Stagflation: Where the Pain is”) in which we discussed how current unemployment trends were being felt most heavily by the oldest and youngest components of the work force, the picture becomes increasingly grim. Not only are there fewer young people entering the work force, they are having difficulty finding employment and when laid off are taking much longer to find new positions.


    As Todd Jordan pointed out in a recent post on gaming industry trends, prior to the consumer downturn beginning in the fall 2008 personal consumption expenditures were on a steep twenty-year incline.  With consumer spending accounting for roughly 70% of GDP the implication is clear: the higher one goes, the more pertinent gravity becomes and keeping rates at zero or buying clunkers can only delay the inevitable. Gravity always wins. 



    Second, a related and especially well-written piece by Todd Jordan:


    “The better part of valor is discretion”

    – William Shakespeare


    Thanks Bill, and the better or necessary part of consumer spending is the staples.  Necessity is why staples are also called non-discretionary.  With their discretion, will consumers be so valorous as to empty their wallets for things they want, rather than need?  The almost vertical trajectory of discretionary consumer stocks suggests yes.  On the contrary, sound analysis indicates that consumers face an almost impenetrable ceiling, triple fortified by the Three S’s:  Savings rate, Stagflation, and Share of wallet.  I’d add consumer credit (bad) to the mix but it doesn’t begin with an S, we like 3s, and our macro team will be addressing this topic shortly.


    So while Geithner may say that “things are better than 3 months ago, 6 months ago, before this recession began”, I would ask two questions:  By what metric and for whom?  Geithner’s preferred metric lately, it appears, is the rate of change or the “less bad” thesis that Research Edge was espousing when everyone else thought the world was falling apart (March 9th ring a bell?).  The stock market has already discounted “less bad”, then “stability”, and now is viewing the consumer as in “recovery” mode.  This is what scares me.


    “Recovery mode” implies, well…recovery.  I’m certainly not seeing it in the consumer discretionary sectors of gaming, lodging, and leisure that comprise my analytical vertical.  Is business less bad?  Maybe, but I think the comparisons are just getting easier.  The consumer is not necessarily getting stronger.


    “Recovery mode” also implies some lasting duration.  We are very worried about Q4 from a macro and consumer perspective.  The threat of stagflation is real, maybe coming as soon as Q4.  Stagflation is a consumer killer.  In a stagflation environment, fewer consumers have jobs and the ones that do can’t buy as much as before.  Will you take credit for that too, Mr. Geithner, when it happens?  Your policies and your predecessor’s policies (as well as the Bernanke constant) have created a fertile environment for potentially massive inflation, yet unemployment continues to grow.  Sure unemployment is growing at a slower rate (10% but it could’ve been 10.5%!). Congratulations - pop the champagne – at least the French consumer discretionary industry will benefit.


    So if I’m out of work (thankfully I’m not) and my purchasing power begins to decline at an accelerating rate (rate of change cuts both ways Tim), am I really going to buy that 2nd boat, 8th Coach bag, or book that 3rd cruise this year, or will I feed my family.  Want versus need.


    This also gets us to the share of the wallet question. In an inflationary economy, a larger part of consumer spending will go to non-discretionary items.  With stagflation, the size of the wallet shrinks.  One of my industries has a third problem:  even within the consumer discretionary segment, casino spending is shrinking as a % of Personal Consumption Expenditures (PCE) for the first time in 25 years.  Now that’s a triple whammy!


    So what do we do?  Be careful and manage risk.  We can’t ignore the warning signs just because the stock market and consumer stocks are going up.  Timing, as always, is critical.  This is where I defer to our timing tutor, Keith McCullough.


    Conclusion:  Both of these pieces are thoughtful and proactive given recent stock market performance.  As bullish as I am on Technology, consumer-based headwinds are not something to ignore.  And as it relates to video-gaming spend in particular, I like the secular shifts transforming the group, but even I must admit that spending on games is pure want versus need.



It has come to our attention that many of the LVS sell-side models and price target derivations are failing to account for about 157 million shares related to in-the-money warrants.


As a reminder, LVS completed a $2.1BN stock preferred and warrants issue in November 2008. LVS issued 10,446,300 shares of 10% Series A Cumulative Perpetual Preferred Stock and warrants to purchase up to an aggregate of approximately 174,105,348 shares of common stock at an exercise price of $6.00 per share and an expiration date of November 16, 2013.  During the 1H09, 1,106,301 warrants were exercised to purchase 18,438,384 shares of common stock at $6.00.  Currently, there are still 9.4MM warrants outstanding and at $16.73 per share, those warrants are certainly dilutive and should be counted in LVS’s share count adding 155.7MM to the 659MM shares outstanding at the end of 2Q09.  Even if we exclude options that are in the money, LVS’s share count should be at least 815MM – not the 660MM that most analysts are using.


So check the model of your favorite, non-Research Edge analyst for the proper diluted share count in both their EPS calculation and price target derivation.  Both could be materially overstated.

Slouching Towards Wall Street… Notes for the Week Ending Friday, September 11, 2009

And Now It’s Time To Play ‘You Bet Your Life’!


O Death, where is thy sting?  O Grave, where is thy victory?

                             - 1 Corinthians (15:55)



We Couldn’t Make This Up If We Tried.  A story in the New York Times (5, September, “Wall Street Pursues Profit In Bundles Of Life Insurance”) describes the latest hot trend in investment banking: securitizing life settlements.

This is viaticals on steroids.


Viaticals were a form of investment that sought to combine the profit motive with compassionate humanitarianism.  In a classical transaction, a viatical broker gets paid a commission for selling to an investor the life insurance policy of a terminally ill person.  The patient, with a medically pronounced short life expectancy, needs cash now to pay for drugs, home care, and mounting expenses occasioned by the miseries surrounding the end of life.


The investor pays a discount and receives the full death benefit when the patient dies and the policy pays out.  Viatical settlements companies have historically paid between 60-80% o the face value of the life insurance policies they acquire, but the example quoted in the Times article is a mere $400,000 cash for a policy with a $1 million death benefit.  This is a reflection of supply and demand: the supply of aging, sick baby boomers and their parents – an increasing number of whom are suddenly out of work, have found their compensation cut by 10%-30%, or are just plain scared they will soon lose their job and never be able to work again – is growing, while the supply of available cash is dwindling.


It looks like Wall Street has timed this market perfectly and is offering the largest group of sick, scared old people in the history of capitalism just enough money to get them to sign over their heirs’ inheritance.  Note that by the time the viator – the person who is terminally ill – signs over the insurance policy, it is a good bet that all other family assets have been used up, and there’s nothing left in the estate.


Viaticals used to be – you will excuse the term – a thriving niche business, and they represented a healthy chunk of change.  It is estimated that by the year 2000, viatical settlements companies in America did $4 billion in business.

The AARP quotes the North American Securities Administrators Association (NASAA – the umbrella group for state securities regulators) as calling viaticals “one of the top ten investment scams,” and reports that “a Florida grand jury in 2000 found as much as 40-50% of the life insurance policies viaticated by viatical settlement providers may have been procured by fraud.”


Viaticals fraud includes faking terminal conditions – which leads to the purchaser having to keep up premium payments or lose their investment altogether – and the risk that a broker may have sold the same policy multiple times.


But even without fraud, there are risks to these transactions.  With improving medical care, people are living longer, and the investor who thought he bought a Dead Man Walking may be dismayed to see that man walking back, very much alive, as he returns from his latest treatment or surgery – a drug or procedure that was not available when the policy was viaticated.

But of all the risks in the viaticals business, here’s the one we like best of all.


Wall Street firms collude to drive down the prices paid for viatical settlements.  Where legitimate viatical settlements companies historically paid as much as 80% of the value of a life insurance policy, the power of the investment banks drives viatical payments down to less than half the face value of the policies bought.  


Our scenario has the makings of a Perfect Storm: a cocktail that blends the despair of a broad swathe of the American public, with the greed and mind-numbing technologism of Wall Street’s whiz kids, with the desperation of global investors to find the Next Big Thing in the US Dollar – with a profound failure of regulation.


We make our prediction now: you will see the day when shocked and outraged members of Congress will pronounce themselves “horrified” and state that “no one could have predicted this disaster.”


The investment banks will be given the regulatory green light to package trillions of dollars in life insurance policies.  They will sell the resulting securities to the Chinese.  In this they will be aided and abetted by Congress, who will put hurdles in front of nascent insurance reform. Recall that the abuses of Credit Default Swaps, which led to the implosion of AIG and much of the rest of the world, were largely tied to speculative trading.  CDS were created to serve a specific function relating to capital requirements.  A regulatory carve-out was granted – the wisdom of this act may be questioned, in view of subsequent events – but regulation never foresaw that the market would metastasize. 


CDS resembled insurance policies.  Indeed, they were described as such.  But insurance policies are not speculative instruments, and the law requires that a policy holder must have an “insurable interest” in the insured.  Otherwise speculators would be lining up outside old-age homes and taking out policies on the residents by the hundreds. 


The viatical settlement companies serve a legitimate niche.  By bringing financial relief to the hopeless, they provide a capitalist solution to human suffering.  It is far from pretty, but in our hearts we can see the logic in permitting someone to advance money to a dying stranger, and be compensated for the use of those funds.


At the Wall Street level, though, how do we reconcile packaging life insurance policies on this scope with the notion of “insurable interest” on which insurance regulation is predicated?  This fits nicely with pending health reform legislation.  CEOs of Wall Street banks will clamor for a seat on the Death panel, knowing their clients’ income stands to be affected adversely if too many people are allowed to live too long.  We remember that Lloyd Blankfein was in the room when Treasury and the Fed pulled Lehman from life support.  Will he be standing at her bedside in St. Barnabas too?


Or how about the insurance industry itself?  Will it be a major buyer of these securities?  After all, who knows better than they when these people are really expected to die?


It is still early days.  No securities have been issued yet, and it looks like the press is serving as the beard for this new concept – the Times article makes it seem that firms are reluctant to lend their names to this just yet, though Credit Suisse is mentioned by name.  And “one investment banker not authorized to speak to the news media” is quoted as saying “we’re hoping to get a herd stampeding after the first offering” of these Death Swaps.  We understand why this banker was not authorized to speak to the media.  We wonder what firm he works for?


Imagine what it will look like ten years from now, when several trillion dollars in Death Swaps have been sold.  When the investment banks have taken in a few billion in fees, and the Chinese government has been paid tens of trillions of dollars in death benefits.  By then, millions of American families will have lost not only their loved ones, but every penny of their inheritance.  The fat banking fees will be paid to American investment bankers, while the real money – trillions of dollars – will be paid to foreign governments who will buy these things by the boatload.  Just as they bought our mortgage-backed paper, the Europeans and the Chinese will scoop up our death-backed securities (“DBS” – or will they call them MBS – “Mortuary-Backed Securities”?) like there’s no tomorrow (darn! There we go with those unfortunate metaphors again!)


Finally, after a generation has seen their patrimony wiped out, the lawyers will jump into the fray.  And probably the states’ attorneys general too.  There will be a multi billion-dollar settlement, and Wall Street will ride off into the sunset, looking for fresh fields to plunder.


Where there’s life, there’s hope. 





The Full Madoff 


We have stolen from the People of Israel, and from the Nations.  We have repaid Evil for Good. 

          - “The Great Confession”, Yom Kippur liturgy



Now it can’t be told.


After announcing it could be some weeks before we saw the document, the SEC Office of the Inspector General dished up its full report on the Madoff matter late on Friday, right before the long Labor Day weekend.  This is an odd regulatory bootleg play.  It can’t be that the SEC thought no one would notice it.  Perhaps it was their effort to provide that last bit of beach reading for those who have already polished off the last Harry Potter novel.


After reading the Executive Summary we thought seriously about hanging up our scrivener’s spurs.  We have re-convinced ourselves that the relentless persistence of Mediocrity and Evil in the world is not sufficient cause to cease trying to do Good.  We despair of ever being able to Speak Truth to Power – because no one wants to know the Truth, and Power doesn’t listen by definition.  But we can at least voice an opinion contrary to what the world is being force-fed by government and media alike.


We are tempted to embark on a line-by-line dissection of the OIG report, but we will confine ourselves to two observations.  We can not stress how important it is that you read this document for yourself.


First: SEC staffers are garbage.


This is not our opinion.  Nor is it the opinion of major news media or financial commentators.  We believe it is largely the opinion SEC staffers hold of themselves.


When a group of over-educated and under-motivated people persistently fail at everything they undertake, are never allowed to bring a project to completion, and are always staring at an insurmountable pile of work for which they have no expectation of receiving reward or praise, this fosters a case of collective depression.  And we can think of few things more depressing than being a career SEC employee.


It’s pretty depressing to go through four years of college, three years of law school – four, if you work full time while taking classes at night – put in five, six, seven years of 14-hour days, seven-day weeks as an associate at a law firm, being tied to cell phone and blackberry every moment of your vacation or days off, only to be told that you are “not partner material”.


The law firm model is not a complete scam – does it make sense to tell a second-year associate you already know they will never make partner, when they are competent and effective in the niche you have designated for them? 


In fact, the way our national mentality shapes dialogue is inherently flawed, and unrealistic expectations lie at the heart of our national self image.  How often have we heard that in America, “everyone can grow up to be President”?  And while the election of Barak Obama seems to finally have proven that to be almost true (we note that the Democrats were Uncomfortable With Hillary – America is ready for a half-white President, but not yet for an all-woman one) the reality is: only one person grows up to be President.


But some of the others grow up to be investment bankers.


Lord Turner, chairman of the UK Financial Services Authority, recently remarked (FT, 3 September, “Regulators And Bankers Must Share The Blame”) that the industry he oversees has grown ”beyond a socially reasonable size” and that most of what bankers do is “socially useless activity.”


If you are an investment banker earning four hundred thousand dollars your first year out of B-school, it will be hard to convince you your are engaged in a socially useless activity.  Now imagine being an SEC staff attorney, three years out of law school, sipping nasty office coffee, taking orders from a career bureaucrat, being treated like doggy-doo by investment bankers, and earning $85,000 a year.


Who says SEC employees are garbage?  Everybody.  It’s the way the system is structured.


These are the people charged with policing our securities markets.  The junior grunts, already jaded by their third year at the Commission, are the ones who failed to catch Bernie Madoff with his fiduciary pants down.


It can not fail to resonate with anyone reading the OIG report that the SEC received numerous highly detailed, highly specific tips and complaints – including a detailed analysis provided by a hedge fund of funds at the request of the SEC – and did absolutely nothing about them.  Is it really possible that the watchdog of the global securities marketplace doesn’t care?


An item in the NY Times (13 September, “But Who Is Watching The Regulators?”) points out that there is essentially no consequence to a regulator of failure to exercise due diligence.  Indeed, we can fairly say that, for most regulatory employees, the consequence of failure to fully carry out their job is… longevity in that very job.


Imagine yourself as a second-year SEC attorney, listening to Bernie remind you that he is in his second term as Chairman of Nasdaq and being considered to be the next SEC chairman.  You know that Bernie lied to you, that his answers to your questions didn’t make any sense, and that he is withholding information.  Are you going to lay your $85,000 a year job on the line to charge Bernie Madoff with wrongdoing?  Put differently: if you, a second-year drudge, have already figured out that Bernie is pulling a scam, then surely those above you in the organization must already know it.  When they tell you to “keep you eyes on the prize” and look, not at the evidence of fraudulent activity, but at the lack of evidence of front running, you read between the lines and elaborately do nothing.


Go after Bernie Madoff?  That’s above my pay grade.


Our second observation is that we don’t believe the major conclusion underlying the OIG report.  The report states blandly that the OIG found no evidence of any conflictual relationships between SEC staff and Madoff.  The report concludes that “senior officials at the SEC” did not try to influence or interfere with any of the probes of Madoff’s business.


We don’t buy it. 


There are too many instances of examiners being put off, pulled off, and pushed off the scent.  Too many instances where even the junior SEC grunts knew something was wrong.  We remain convinced that folks inside the Commission were running interference for Madoff – perhaps without even knowing why.


Or perhaps it was not “senior officials,” as some of the clear instances of examiners being called off were from staffers who might be characterized as “mid-level.”  If the OIG is weaseling out of pinning blame by defining the miscreants out of the game, this is a pretty poor, if highly predictable, gambit.  What do you call a cover-up of a cover-up?  Watergate-gate?


When Linda Thomsen abruptly closed the single most important review undertaken by the Commission in years, the only tangible results were a highly suspicious termination of a senior SEC attorney, and the totally improper passing of a tip to Morgan Stanley’s counsel that John Mack was not going to be charged.  How was Thomsen disciplined for trashing this key docket?  She got to stay on for the duration of Chairman Cox’s term, then left to become a partner at the law firm of Davis Polk.


No sooner does Mary Schapiro take over than the SEC announces they are re-opening the Pequot matter.  Then Pequot abrptly closed down, and now Mack has announced his retirement from Morgan.


But this just scratches the surface, similar to the raft of Ponzi cases the SEC has brought recently.  The SEC is gunning for the low-hanging fruit – as well they should.  But it appears that the low-hanging stuff is all they ever capture, and a steady diet of this stuff is not good for the digestion of the Body Politic.  Remember too, this is the Agency that fined BofA’s shareholders $33 million for what look like deliberate lies and cover-ups on the part of management, abetted by complete incompetence on the part of the Board of Directors. 


By constantly caving in to the bureaucratic pissing contest within its own walls, by focusing on turning out files and memos rather than preventing criminal activity, by pandering to politicians rather than policing the markets – and with less than a billion dollars to spend on all their efforts – it is no wonder the SEC is largely staffed by the Dullest and Worst, those who can’t find work anyplace else.


Chairman Schapiro has to acknowledge that there is plenty of dead wood at the Commission.  She has to acknowledge that there are bad people at the Commission.  More important, she has to actually do something to clean house.  The Commission still has plenty of work and lots of explaining to do to get Madoff-gate behind them.





Being Academically Right Means Never Having To Say You’re Sorry


For the sin that we have sinned before You without knowledge; and for the sin that we have sinned before You with the utterance of the lips.

          - Confession of Sins, Yom Kippur liturgy


It must be that time of year.  First, Sam Antar rats out his community (see last week, “Insaaaaane!”).  Now, Nobel Prize-winning economist Paul Krugman rats out his whole profession (Sunday New York Times Magazine, 6 September, “How The Economists Got It So Wrong”)


As Krugman’s account of the dismal performance of the Dismal Scientists makes clear, no group of people have greater cause than the economists to beg forgiveness for the sin of ignorant utterings.  Or of utter ignorance.


Examples abound of brands which, once known for quality, innovation and efficacy, fell victim to their entrenched distribution network and the easy buck.  Second-rate innovations were pumped out to existing customers to generate revenue, and it often takes a generation – coupled with a major technology revolution – for users to recognize thatthey have been victims of inferiority.


“No one ever got fired for buying a ____”  is a fiction to which everyone subscribes.  It is the technological equivalent of Plausible Deniability.  Keeping the job has become more important than doing the job, not just at the SEC, but across the board in Corporate America.


The tyranny of Ivy League PhD economists is one of the most destructive manifestations of the Legacy Mediocrity that affects our consumer society.


Speaking a language of numbers and algorithms that gut traders and market makers – many who earned their PhD in the University of Hard Knocks – could neither emulate nor comprehend, they wowed managers and investors alike with science.  Soon they were running the show.  A generation of the most important business, social and political decisions have been made by people who never actually held positions in business, or hands-on positions in dealing with social or political issues.


Worse, like the economists who were their professors and mentors, they refused to believe their science could get it wrong.  If the outcome did not match theory, there must be something wrong in the implementation.  Another run would surely get it right.  Who are their laboratory rats?   Why, We The People.


Generations of highly intelligent young people went into the world’s finest universities and obtained a theoretical grounding in how the world is supposed to work.  Now our world has been their post-doctoral laboratory.  Sorry if they got it wrong.

Princeton.  Wharton.  Stamford.  Harvard.

There is plenty to atone for.




In memoriam – all victims of terror.



Moshe Silver

Chief Compliance Officer



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Chart of The Week: Burning Underwater?

A few weeks back I called the US Dollar a Ball Underwater. I have also called it a Burning Buck. Something that’s Burning Underwater is something that I have never seen in my life. Then again, I have never seen US monetary policy this politicized either!


As the Buck Burns, that Ball Underwater that creates REFLATION in anything priced in US Dollars is the US Dollar Index that Andrew Barber and I have outlined in the chart below. Since March, the US Dollar Index has crashed into the depths of waters unknown to the tune of -14%. Over the same time frame, the SP500 has reflated +54%!


The simplicity of this conclusion is what is born out of Chaos Theory. Underlying the madness of the manic media and all of the global macro data points they attempt to synthesize in the rear-view mirror is a very deep simplicity. It’s a dominating mathematical pattern that governs us all. It’s beautiful.


Today we have seen the US Dollar once again lose it’s early morning bid. As the Buck begins to Burn again, the SP500 has recouped most of her morning’s losses. This inverse correlation won’t be perpetual. Balls Underwater eventually get released to the upside. Look what happened to this chart below in the late January-early February period for a sneak preview of the same.


Keep your swimsuits on. This global macro tide pulls both ways.



Keith R. McCullough
Chief Executive Officer


Chart of The Week: Burning Underwater? - usdchart


Chasing Tail

“Everything should be made as simple as possible, but not simpler.”
-Albert Einstein
Simple is as simple does. For now, the driver of macro market moves remains the direction of the US Dollar. While I understand that correlations in global macro trends are not perpetual, I also appreciate that they can remain simple and profitable for as long as they want to.
No matter where you go this morning, there it is – that US Dollar finally has some semblance of a bid, and most things priced in dollars are for sale. Will this last 3 hours, 3 days, or 3 weeks? We will have to let Mr. Macro decide. We will then have to manage risk accordingly.
Last week, the US Dollar continued to crash. I know, I know – Washington gets paid to be willfully blind on this score, but that doesn’t mean that the score ceases to exist. It’s global this time, and the Chinese are watching more than just tire tariffs…
The Burning Buck lost another -1.8% on the week, taking the 2009 currency crash to -14% since March (yes, President Obama – that’s “the truth”). Ben Bernanke should dust off some of his pre-1930 history books and take a gander at what was happening around the world to currencies like Germany’s at the time. The world has never seen an outright currency crash in a major economy that didn’t carry far reaching consequences.
In the face of the US Dollar hitting fresh YTD-lows last week, the US stock market hit fresh YTD-highs. In the short term, this surely made anyone long this setup smile. In the intermediate term, this will surely lead to a Reflation Rotation (year-over-year deflation becoming inflation in Q4). In the long term, you know that plenty of things associated with this alarming long term TAIL will be dead.
The TAIL is what we call our longest term duration here at Research Edge. The TAIL is also where bad things happen versus expectations. The TAIL can also be subbed for what Nassim Taleb coined a Black Swan. Not all tails are the same…
Chasing TAIL isn’t a bad day job - from a risk management perspective that is! Our definition of an investment TAIL is simply something we have observed fortifying itself over a duration of 3 years or less. In sharp contrast to a Black Swan type tail event (defined on the tails of a probability curve), our TAILs are proactively predictable. They are basically long term investment trends.
I don’t mean to mix metaphors or mathematical terms here. Rather, I mean to submit that different risk management models compliment one another. I have learned a great deal from Nassim Taleb. He is one of the world’s pre-eminent risk managers for a simple reason – he has his own process and it’s grounded in math. One of Taleb’s “Ten Principles for a Black Swan-proof world” is to “counter-balance complexity with simplicity” – that’s a beautiful mathematical conclusion.
Chaos (or Complexity) Theory is one of the most relevant mathematical revelations in modern history. How many people manage your money in this interconnected and dynamic ecosystem called the global marketplace using it? That’s a tail I’d like to see some perceived to be money mavens chew on…
Back to chasing the TAIL. In our intraday Macro note today, I’ll be posting our “Chart of The Week.” While this point is clear enough for a monkey to understand when showing it with a picture (and colors), let me make it emphatically one more time with prose – the US Dollar’s TAIL is BROKEN.
So, even though the US Dollar has a +0.55% bid this morning, don’t mistake that with anything other than an immediate term TRADE that you can proactively manage risk around. Across all three of our investment durations (TRADE, TREND, and TAIL), the Buck is Burning. Here are those levels:
1.      TAIL = $82.86

2.      TREND = $79.39

3.      TRADE = $78.37

In our risk management model, we call this a Bearish Formation. That’s simply when the TAIL line remains above the TREND line, and the TREND line remains above the TRADE line. This is where you get paid to chase TAILs. They can, and will, remain dominant for longer than plenty a super “smart” monkey in this business can remain solvent.
So what do we do with this today? For one, don’t freak out and call for a crash in everything priced in US Dollars. The Crash Callers continue to get run-over in 2009. Take comfort in them being, predictably, on the bid to cover. Provided that we don’t see a breakout and close above the $78.37 immediate term TRADE line in the US Dollar, take the market’s associated weakness with a US Dollar UP day as an opportunity to cover some shorts and buy things priced in bucks that are red.
That’s it. Simple is as simple does. My immediate term TRADE line of support for the SP500 is 1019.
Best of luck out there this week,


VXX – iPath VIX We bought volatility horribly the first time on 9/3. With the VIX testing our 23 level of support on 9/10, we added to the position.  

XLV – SPDR Healthcare
We’re finally getting the correction we’ve been calling for in Healthcare. It’s a good one to buy into. Our Healthcare sector head Tom Tobin remains bullish on fading the “public plan” at a price.

EWH – iShares Hong Kong The current lower volatility in the Hang Seng (versus the Shanghai composite) creates a more tolerable trading range in the intermediate term and a greater degree of tactical confidence.  

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.

LQD – iShares Corporate Bonds
Corporate bonds have had a huge move off their 2008 lows and we expect with the eventual rising of interest rates that bonds will give some of that move back. Shorting ahead of Q4 cost of capital heightening as access to capital tightens.

EWU – iShares UK We’re bearish on the UK’s leadership and monetary policy to weather its economic downturn. Although we’re seeing improved fundamentals within the country and across Europe we continue to see the country’s financial leverage as a headwind and increasingly the data suggests that inflation is getting ahead of growth. With the FTSE reaching a YTD high on 9/9, we shorted EWU.

DIA  – Diamonds Trust We shorted the Dow on 9/3.  In the US, we want to be long the Nasdaq (liquidity) and short the Dow (financial leverage).

EWJ – iShares Japan While a sweeping victory for the Democratic Party of Japan has ended over 50 years of rule by the LDP bringing some hope to voters; the new leadership  appears, if anything, to have a less developed recovery plan than their predecessors. 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.



SEPTEMBER 14, 2009





How can we not comment on the insider selling at KSS on Thursday and Friday.  Five insiders sold a total of 814k shares for about $45mm, marking the first insider open market sale at KSS since April 2007. If there’s any good news, it’s that in 2007 (with the stock at about $75) management sold about $215mm, and the previous cluster in 2006 was for $126mm.  But with 70% of the 20 analysts sporting Buy ratings, the remainder at ‘Hold’ and absolutely no one at ‘Sell,’ this is a major call out. So is the fact that price targets are only 5% above current value and short interest has been declining over the past three months and now sits below 6%. But when I look at our SIGMA, which shows that KSS is starting to anniversary positive Gross Margin swings over the past five quarters, SG&A compares should begin to get tougher, and capex as % of sales is at trough, it makes the consensus view of 60bp margin expansion next year and 13% EPS growth tougher to bank on. Simply put, this name is the poster child for the kind of consumer name where we need to bet to a meaningful recovery in consumer spending in order to make it work.  


1. Red arrows represent insider sells, while green represent buys.




2. Sell-side sentiment remains overwhelmingly positive 




3. Short interest has been heading lower 




4. SIGMA setup relies upon organic comp and SG&A leverage. 






Some Notable Call Outs


  • Following in the footsteps of GameStop and Best Buy, Toys R Us announced that is introducing a used video game exchange program. Customers can trade in used video games in return for a credit to be used towards any future purchase in store or online. It is unclear if Toys R Us is also selling the used games. Toys R Us offers a gift card in exchange for the trade-in whereas GameStop offers cash. Early experience with the new Toys R Us program suggest they are offering slightly higher trade- in values vs. GameStop.


  • When asked about the sustainability of the large amount of goods in the market for sale to off price retailers, Burlington Coat Factory’s CEO suggested obtaining inventory has never been a problem. His comments mimic the unanimous view from all off-pricers that there is always inventory available, no matter what the economic backdrop might be at any given time.


  • In an effort to differentiate itself from Target and Wal*Mart, Kmart is testing a program in Michigan that targets unemployed consumers. The program called Smart Assist offers a 20% discount towards purchases of private brands. Aside from driving incremental traffic, the program is also generating positive buzz in the media as the company competes head to head with WMT and TGT.





-Most footwear vendors say the recovery will be long, sluggish and have lasting effects on the industry - “This has been a wakeup call to the fundamental business models that had been in play,” said Angel Martinez, president and CEO of Deckers Outdoor Corp. Martinez said that for years the footwear market was unnaturally active, fueled by credit-card spending and money from home equity loans. As a result, the market grew at an artificial, unsustainable rate. Jerry Turner, chairman and CEO American Sporting Goods, said the slow recovery would be the new reality for manufacturers and retailers of all stripes. “There was so much false spending going on out there, with consumers using credit cards and borrowing on their homes, that there is no recovery from that. It was false. There’s no going back to that,” he said. “So there will be less business out there ... and it will take strong discipline on the part of anyone in business to grow profitably.” Wolverine Footwear Group President Ted Gedra said the company’s lean business practices have helped lessen the impact of the sour economy. Still, he said, the company had been forced to prioritize its investment spending. For example, in the Wolverine brand business, spending has been focused on lifestyle positioning, while the company’s core workboot business is centered on new technologies such as its Contour Welt construction. The “new normal,” as some have termed the current economy, has prompted Glendale, Wis.-based Weyco Group’s Florsheim brand to play to its strengths, shifting inventory deeper for core shoes and away from specialty items. “We used to be a little more aggressive with seasonal shoes,” said Tom Florsheim, Weyco chairman and CEO. “Now we’re about stocking inventory on our core shoes. [But] we’re really built for tough times. We run a very lean company.” K-Swiss expects another lasting effect of the recession could be a prolonged consumer focus on value, whether that means a lower price or a higher perceived merit. “That means you have to run your business very lean and tight forever,” said K-Swiss CEO Steven Nichols. “The recession could end, but I don’t think times are going to be spectacular.” To energize the value component of the company’s products, Nichols said K-Swiss was making significant investments in research and development and new technologies. “We’re probably putting more money into design and development than we ever have,” he said. “We’re doing things regardless of where the business is now.” <wwd.com/footwear-news>


-Unfortunately, Adidas won’t be producing the pink-and-yellow Barricade V shoe inscribed with the word “believe,” worn by 17-year-old tennis sensation Melanie Oudin during her phenomenal U.S. Open run. But there is a workaround for tennis fans desperate to pay homage: The company invites them to make their own via the Mi Adidas Website. “We will not be doing any mass production, [but] fans can go onto Miadidas.com — which is exactly the same way [Oudin] did it — and customize their shoes with ‘believe’ or whatever else inspires them,” said a company spokeswoman. Despite her loss to Denmark’s Caroline Wozniacki on Sept. 9, Oudin certainly secured a spot in tennis history last week and will likely become a familiar face for the athletic brand. “She will probably be a lot more prominent in terms of our tennis athletes,” said the Adidas rep.  <wwd.com/footwear-news>


-Footwear News survey says kids footwear sales are up - Channel checking 6 private family footwear stores yielded the results that children's footwear is selling.  <wwd.com/footwear-news>


-Ralph Lauren’s Rugby tosses a second ball into the mobile commerce scrum - Right now retail mobile apps are battling in a rugby-like scrum, fighting for the attention and subsequent downloads that move them high on the list of popular apps in an app store. Ralph Lauren’s Rugby brand today entered the fray with a mobile app targeting young adult fashion consumers who want to personalize what they buy and how they buy it. The new iPhone app expands Ralph Lauren’s already considerable presence in m-commerce. The retailer operates two transactional mobile sites, m.RalphLauren.com and Rugby.com/mobile, and both Polo and Rugby use text messaging in their marketing programs.  <internetretailer.com>


-Traffic fails to make the grade at computer and electronics e-retailers - Despite school days lurking right around the corner, consumers weren’t looking online for laptops or other gadgets to help them in school in July, at least not as much as last year. Most of the top 10 e-retailers in terms of traffic that sell computers and consumer electronics posted drops in unique visitors, Nielsen Online says. Gamestop was the traffic winner with a 25% rise compared to last year. On the other end of the spectrum, Circuit City posted a 73% decline. The top multi-category computers and electronics online shopping destinations in July with unique visitors in millions this year and last and growth from prior year, according to Nielsen Online, were: Best Buy, 14.36, 13.90, 3%, eBay Electronics, 4.89, 7.72, -33%, Gamestop.com, 4.06, 3.24, 25%, OSTG, 3.70, 4.10, -10%, Newegg.com, 3.24, 3.97, -18%, Circuit City, 3.21, 11.76, -73%, TigerDirect.com, 3.11, 3.56, -13%, eBay Computers, 2.09, 4.28, -51%, Sony Electronics, 1.54, 1.70, -10%, Samsung, 1.38, 1.62, -15%. <internetretailer.com>


-Yahoo! Inc. is selling a stake in Alibaba.com Ltd. - The operator of China’s biggest trading Web site, for as much as HK$1.17 billion ($151 million), according to the terms of the sale obtained by Bloomberg News. UBS AG, the sole bookrunner, is placing 57.5 million shares at an indicated price range of HK$19.80 to HK$20.30 apiece, the terms showed. That’s 6.4 percent to 4 percent less than Alibaba’s closing price in Hong Kong today and the number of shares is equivalent to a 1.1 percent stake. Sunnyvale, California-based Yahoo, owner of the second- biggest U.S. Internet search engine, is selling Alibaba shares after the Chinese company’s stock almost quadrupled in Hong Kong trading this year. Alibaba rose 3.7 percent to HK$21.15 in Hong Kong today, while the city’s benchmark Hang Seng Index fell 1.1 percent.  <bloomberg.com>


-John Lewis has relaunched its online fashion offer and is set to drive sales by 30% this year - The site, at www.johnlewis.com/fashion, gives shoppers access to over 200 fashion and beauty brands and includes updated search and navigation technology. The department store plans to add £70m to John Lewis’ online fashion sales by 2011. Fashion sales represent about 6% of johnlewis.com’s total sales and the department store is set to grow that by 30% this year. It will launch more than 100 new brands online across all categories. Brands available online will include Lulu Guinness, Steve Madden, Belstaff, Hudson Jeans, Elie Tahari, Mulberry, Ralph Lauren, Orla Kiely, Paul & Joe Sister, Nicole Farhi and Paul Costelloe. John Lewis Direct managing director Robin Terrell said: “Fashion online is one of the biggest business opportunities for John Lewis over the next three years and there will be a significant step change in our customers’ shopping experience online. <drapersonline.com>


-Retail sales in London in August were at their lowest in four years, according to the London Retail Sales Monitor - Sales for the four weeks to August 29 were down 5.9% on last year, the first time they have fallen this year, following a strong seven months. It is also the biggest like-for-like drop since August 2005. Overall UK retail sales dropped 0.1%, marking the first time this year that London has performed worse than the UK as a whole. Clothing and footwear performed worse than food. The fall in London was due in part to better August weather prompting people to spend their time outdoors, as well as visitors from the Middle East returning home earlier this year, as Ramadan began earlier. <drapersonline.com>


-Gap making more of a presence in UK with a pop-up shop for 19 days - Gap opened a 40th anniversary pop-up store in Kingley Count, off London’s Regent Street. The two floor store is one of a quartet of pop-ups marking the event. The first opened last month in Los Angeles last month followed by London, New York and Paris. The London store has two floors, will trade for 19 days and 69 hours (the original Gap store opened in 1969) and on opening day 69 pairs of jeans were on offer for, yes, £19.69. <retail-week.com>


-Glassware and gifts brand Designs by Lolita is unveiling a home accessories collection - by Avanti Linens this fall at Macy's stores. The line includes beach towels ($24.99) and other accessories for bath, kitchen, bed, bar and beach. The beach towels, which feature a fiber-reactive print on the front and has a drink recipe on the back, will first hit in November at Macy's stores in South Florida. A nationwide rollout will follow in the spring. More product release dates and retail partners will be announced in October. <licensemag.com>


-Indian retailers are upbeat once again as consumption picks up indicating more money coming in to the hands of customers - Researchers say that private consumption continues to grow at double digit - Rs18 trillion projected for 2010 and that modern retail is expected to further spur consumption and catalyze speedier economic growth while technology brings in efficiencies in every sphere of retail and contribution. These will be the broad agenda at India’s mega retail convention, India Retail Forum (IRF) ’09, scheduled on 16th & 17th September at the Renaissance, Mumbai. <indiaretailing.com>







  • Kevin Mansell, Chairman, President & CEO, sold 138,000shs ($7.8mm) nearly 50% of total common holdings, but closer to 10% of total holdings including options.
  • John Herma, Director, sold 100,000shs ($5.7mm) less than 2% of total common holdings.
  • Bill Kellogg, Director, sold 300,000shs ($16.7mm) less than 4% of total common holdings.
  • Frank Sica, Director, sold 1,000shs (55k) less than 5% of total common holdings.
  • Peter Sommerhauser, Director, sold 35,000shs (~$2M) nearly 30% of total common holdings.
  • (Thursday 9/10) Lawrence Montgomery, Director, sold 240,000shs ($13.1mm) nearly 35% of total common holdings.


DKS: Ed Stack, Chairman & CEO, sold 50,000shs ($1.1mm) after exercising the right to buy 50,000 shares less than 1% of total common holdings.


FOSL: Ken Anderson, Director, sold 6,750shs ($190k) after exercising the right to buy 6,750 shares roughly 50% of total common holdings.


GES: Michael Relich, SVP & CIO, sold 6,697shs ($240k) nearly 25% of total common holdings.


VLCM: Richard Woolcott, Chairman & CEO, sold 20,000shs ($300k) less than 1% pursuant to a 10b5-1 plan.



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