Conclusion: In attending a Paul Krugman lecture yesterday, we came away with two main takeaways: 1) the Perceived Wisdoms of academic dogma run rampant throughout U.S. monetary policy; and 2) Keynesians really don’t get it.
Yesterday, I had the “pleasure” of attending a Paul Krugman lecture in one of my old classrooms at Yale and came away with a very different experience than the one I would have had as a wide-eyed undergraduate immersed in the dogma that is Yale econ theory. Also, I was really taken back by the fact that only Yale undergraduates were able to ask him questions; the older, more-informed members of the audience (roughly 50% of total attendees) were not allowed to partake in the discussion and ask challenging questions. Below, I’ve posted my “lecture notes” for your education/entertainment purposes:
My takeaways on Professor Krugman are below:
- Like any good charlatan, Krugman does a great job of defecting attention away from what others perceive as the real issues towards his Keynesian musings. Of course, it didn’t help that he was surrounded by the academic dogma that is his self-proclaimed “Yale-MIT axis” [of economic leadership].
- He was very smug towards Fed critics and essentially laughed off the Sovereign Debt Dichotomy – suggesting that advanced economies could issue much more debt and stimulus than perceived by the markets.
Krugman’s key quotes and conclusions from the Q&A session:
- Austerity is depressing European economies
- He wrote off the bond market’s views on the sovereign debt/deficits, using the U.K. (1920’s-1950’s) and 1990’s Belgium and Italy as examples of high debt/GDP ratios that didn’t matter to markets
- Our capitalist, free-market economy is a real disaster now and Europe’s social safety nets mean that there is less “misery” there
- The U.S. can pile on more debt and gov’t spending b/c they can issue debt at low yields
- He uses the recent -0.55% TIPS auction as an example of the U.S.’s low cost of borrowing (completely ignores the inflation expectations embedded in a negative TIPS yield)
- “The problem in the U.S. is that we’ve run out of room for monetary policy and we don’t have enough government spending to prop up demand long enough for the private sector to get healthy”
- The Federal stimulus was not big enough, rather $1.2 Trillion would have been a more appropriate sum
- 40% of the stimulus was just tax cuts that were mostly saved, not spent
- The stimulus didn’t even have a net increase in total government (federal, State, local) spending growth when you factor in the cuts made on the State and local level
- China sucks demand away from the rest of the world and their currency manipulation shaves 1% of global GDP
- China is largest example of currency manipulation in history
- Also one of the largest examples of protectionism in history and we need to punish China for the sake of “playing by the rules”
- China is doing its best to push global growth in the wrong direction
- Imports/exports are more about exchange rates than they are about saving/consumption
- Should the Fed take into account the global impact of QE?: “Yes… some.”
- “The U.S. can’t bear the world’s weight on its own”
- “Yes, QE tends to reduce the U.S. dollar’s exchange rate, but that is offset by the growth QE provides to the U.S. economy”
- “The U.S. has to look out for itself regarding its decision to move forward with QE” [I find his rationale here very interesting, given that he’s publically lambasting China for acting it its own self-interest re: yuan]
- QE is designed to help housing, corporate borrowing, encourage consumer spending (via driving up asset values)
- The U.S. should have more academics in policy-making roles and we would have been better off over the last few years had more academics been in key policy-making roles over the last decade
In short, we continue to stand counter to the academic dogma that is associated with Quantitative Guessing being positive for the U.S. economy and the bullish hope that it will end well. We have expressed this conviction by being short U.S. equities (SPY) in our Virtual Portfolio. Further, we will continue to hold the U.S.’s economic and political leadership (or lack thereof) accountable each day.
Yours in Risk Management,
It’s still a long term story is the answer. We were hoping for a bigger stock price decline on the lower guidance but hope isn’t an investment process.
The quarter was decent and in-line but the mix was different. International was very strong and management, both on and off-line, appears particularly bullish on this segment. Replacements were pretty much where we thought they would be and IGT seems to have reclaimed the pole position in terms of market share. 2011 guidance was weak but our $0.83 estimate is in the wide range of $0.77-0.87.
While the long-term story remains compelling, near-term catalysts remain elusive. We do believe there are buyers in the name and the fact that the stock is only down 3% following lower guidance and a 15% up move into the print is indicative of the demand. Rebounding market share due to mean reversal and better content will likely emerge as the next positive catalyst unless they take out the darn convert. Of course, the biggie is improving replacement demand. We are taking the under on current expectations of 18 months before replacements accelerate.
- Domestic machine sale revenues were $4.6MM below our estimate
- Units recognized in the quarter were 250 below our estimate and pricing was $300 lower
- There were roughly 1,300 Dynamix packages included in IGT’s game sales this quarter (they sold approx 5,300 in total, compared to 4,017 as of the June quarter). We think the math works as follows:
- MLD= 21,000 list price *90% = retail price (~19k)
- Less 2 free conversion kits ~ 2,750/ each = $13,400
- So 1,300 of the 3,330 units in NA were priced at $13,400, which implies a price of $14,700 for the other units sold. Without Dynamix, the price would have been even higher since the MLDs sold in the quarter would not have been discounted.
- Domestic non-machine sales were $10MM better than our estimate due to better systems and conversion sales. It would be really helpful if IGT provided any information to model this bucket, like conversion kit sales, used games, or systems data.
- Margins on Domestic product sales were weak. Partly driven by very low unit sales and therefore the impact of fixed costs. We also think that non-machine margins were impacted by higher mix of systems products which carry lower margins than conversion kits. Therefore, despite beating our revenue estimate by $5MM, gross margins were in-line with our estimate.
- International box sales blew away our number
- FX was a large part of this – ASP was $1,700 higher than our estimate and $2k higher on units ex. Barcrest. There was also a $18MM FX benefit to cash flow this quarter… a lot of which came from Australia.
- International units recognized were 1,475 higher than our estimate with the outperformance coming from Latin America, Asia and Australia. The international unit breakdown was as follows:
- Asia: 400
- Australia: 1,900
- Europe: 400
- UK: 2,800
- S. Africa: 200
- Mexico: 0
- Latin America: 1,900
- Gross margins were also a lot stronger at 55% vs. our estimate of 47%. We think that some of this is due to lower mix of low margin Baccarat & elimination of Japan. We also suspect that non-box sales were mostly conversions.
- The remaining Alabama units came out of game operations this quarter – so going forward there are no Alabama units in the numbers.
- Guidance of hoping to get better yields and flat install base isn’t exactly inspiring… nor do they have a track record of being able to grow yields – especially given the mix shift away from WAP games of late.
- On the positive side, D&A per game ops device is decreasing meaning that the average game life is increasing
- SG&A was high. They actually had a $1.9MM credit for bad debt expense so clean SG&A was almost $93MM. Claims that there is a lot of G2E expense in there as well as bonuses etc. The good news is that SG&A should be flat next year.
- They are looking at taking out the convert – which would be nicely accretive to next’s year’s EPS
- While we won’t know exact market shares until ALL reports, IGT did garner the highest share this quarter. Based on our estimates it looks like they stayed at 26% followed by WMS at 18%, Konami at 16% and BYI at 16%. That is based on recognized shipments. For actual shipments, IGT’s market share was even higher.
- It looks like total shipments this quarter were roughly 12,750, with just over 9,000 coming from replacements compared with 11,000 in 3Q2009
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Position: Long the U.S. Dollar (UUP); Short the Euro (FXE)
This morning, we received several outstanding questions regarding our FX strategy; all are posted below with answers:
Q: Recently, you have been calling for a +3% move in the U.S. dollar; has that target changed, given the +2.6% move we’ve seen off the lows?
A: Thanks – all TRENDs start as TRADEs… and your question is really THE question to be asking here. I’ll answer quantitatively:
- TRADE line (what was resist is now support) = 76.89
- If the TRADE line holds, mean reversion upside to the TREND line = 80.39
- That’s +3.8% of what I’d call probable upside from yesterday’s close over the next three months
Q: You went long the U.S. dollar last week using global tightening and the G20 as catalysts. What (if any) are the bullish factors from a quantitative standpoint?
A: US Treasury yields all confirming bullish USD TRADE here – I didn’t have that last week. Can Bernanke pin 2-yr back below 0.37% is the question?
Q: Also, what are your views on the yen, the euro, and the British pound?
- Bullish USD vs Euro
- Bullish USD vs. Yen
- Bearish Euro vs. Pound
Keith R. McCullough
Chief Executive Officer
R3: REQUIRED RETAIL READING
November 10, 2010
- Burberry continues to push the digital envelope with the unveiling of it latest online effort, custom trench coats. The ecommerce site, to launch next year, will allow consumers to customize a trench coat of their own in up to 12 million style combinations. Fabrics, colors, and trim will all be customizable.
- In honor of Ralph Laurens re-opening of its NY flagship stores, the company is sponsoring a “4D” public art show tonight. The spectacle will included music, light projections, an artificial breeze, and the fourth-dimension (fragrance!). Look for the media to compare this effort to Target’s recent show which rented an entire hotel so performers could dance in every one of the hotel’s windows.
- In an effort to become a truly global ‘head-to-toe’ brand, FOSL is one of the few retailers planning to aggressively ramp catalog distribution as it expects to mail 20mm this year compared to only 11mm just last year. While the incremental increase will be largely aimed at growing the company’s international sales base, the increased cost of what has become a legacy medium is certainly notable.
OUR TAKE ON OVERNIGHT NEWS
AEO Opens Second Flagship in NYC - American Eagle Outfitters yesterday opened the doors to its second Manhattan flagship, a 24,000-square-foot three-level store at 599 Broadway at Houston Street in SoHo. The store is three times the size of the previous unit a few doors away. The ground level features women’s apparel and accessories, including key items for holiday such as sweaters and cargo pants. Jeggings and skinny jeans are well represented in the denim assortment and are double the presentation of the average American Eagle store. There’s an accessories area with scarves, jewelry, sunglasses, hats, shoes and other seasonal items, followed by New York-exclusive merchandise, including NYC graphic Ts, tote bags, hats, gloves and hooded sweatshirts . The upper level features men’s apparel, including a denim room and an underwear shop. There are two exclusive styles of skinny jeans offered here. The lower level features an intimate Aerie boutique offering bras, boyshorts, boy briefs, tangas, thongs and bikini underwear, as well as “cozy” apparel such as homespun knits, T-shirts, denim and outerwear. <WWD>
Hedgeye Retail’s Take: Enticed by a free $50 gift card, it’s estimated that 1,000 customers lined up beginning at 4:30am to enter the latest teen apparel haven. For those not familiar, this location is just 50 feet from ANF’s Hollister flagship.
Polo Appoints New APac President - Mark Daley has been named president of Asia Pacific for Polo Ralph Lauren Corp. He succeeds George Hrdina, who plans to retire after assisting with the transition. Most recently, Daley was chief executive officer of Dean & DeLuca for its U.S. and international markets. Before that, he was group president of worldwide operations and business development at DFS, a division of LVMH. During his 22-year tenure at DFS, he gained extensive experience in the Asia Pacific markets including China, Korea, Japan, Australia and Guam. Daley will report to Jackwyn Nemerov, executive vice president of wholesale brands, licensed products, sourcing, merchandising, home and Asia Pacific at Polo. <WWD>
Hedgeye Retail’s Take: Food courts coming to Asia? Probably not, but it’s not often you get a luxury exec crossed with a luxury food service exec.
Hilfiger Taking to the Road - Tommy Hilfiger, a man with an enduring passion for collegiate style, is heading to Britain’s oldest university — Oxford — to address the student union today. Hilfiger follows in the footsteps of Diane von Furstenberg, Roberto Cavalli, Anna Wintour, Emanuel Ungaro and others and is scheduled to give his talk at noon. “I just want to know one thing: Do I pick up my diploma beforehand or on my way out?” he asked during an interview at his Regent Street flagship and showroom here on Tuesday. Hilfiger said he planned to talk to the students about “25 years of Tommy Hilfiger, how we developed the brand, how it’s evolved and how we continue to celebrate it.” He said he planned to work an “American Ivy League” look for the occasion. After the address at Oxford, he’ll head to Copenhagen, Lisbon, Milan and — finally —Paris to open his 8,850-square-foot European flagship on the Champs-Elysées on Nov. 17. Separately, the company on Tuesday revealed plans to open its largest flagship in Asia, a 10,946-square-foot unit in Tokyo that will span three floors and carry the sportswear and runway collections and Hilfiger Denim. The store will open in March 2012 and the company said it will anchor the 108 Tommy Hilfiger stores currently in Japan. <WWD>
Hedgeye Retail’s Take: With international growth key to PVH’s Hilfiger brand, what better way to spread the preppy lifestyle than to have its 59 year old founder go on a PR tour.
Changes Underway at Barneys Co-Op - Barneys Co-op called out the contemporary category years before Scoop, Intermix and Cusp were in business. Yet the vision has never been quite fulfilled. That’s now up to Mark Lee, the former Gucci chief executive officer who joined Barneys as ceo eight weeks ago and is about to write a new road map for the Co-op division. “He is starting to make the rounds,” said David New, Barneys executive vice president of creative services for Co-op and its big brother, the Barneys New York luxury chain. “He needs time to sit back and look at everything. There will be a lot of analyzing of what we do and how we do it.” “You’ve got to believe Mark Lee will drill down into this business in a way not seen in a while,” said a ceo of a major supplier to Barneys Co-op. “He will give Co-op a different perspective. They buy a line with their own specific aesthetic and point of view that’s just different from other retailers. It’s very urban and esoteric. It’s worked for a number of years, but sometimes it’s a little too esoteric. Barneys could have a little more feminine perspective.” Locations, the marketing and the merchandise mix — premium denim, established contemporary designers such as Diane von Furstenberg and Theory and emerging designers such as Carven — are under review.< WWD>
Hedgeye Retail’s Take: Big win for consumers living in a co-op trade area as it appears change is underway. The Barney’s sub-brand, while once a fashion leader, has been directionless ever since its parent’s financial situation became cloudy. We wonder if the private label program will be amped up or cut given it’s clear goal was to juice gross margins.
FitFlop Plans Expansion - FitFlop USA LLC is staking a bigger claim in the wellness market with an expanded men’s collection and the debut of its first U.S. headquarters. After launching a men’s sandal collection in 2009, the company is rounding out the offering for spring ’11 with six new styles that include the FF Supertone M sneaker, a sports recovery shoe. Set to retail from $60 to $130, the line will hit retail in January. And to stay better connected to its U.S. customers, the company has just signed a 10-year lease for space at 10 Bank St. in White Plains, N.Y. <WWD>
Hedgeye Retail’s Take: With toning over a year into its record breaking growth trajectory, it’s hard to know why FitFlop is just now investing heavy into the US market with new styles and a local office. Recall that over 3 years ago The Limited had a US exclusive on the FitFlop which sold out immediately, but then didn’t sell as well in its second season.
Sears' Cross-Platform Holiday Gift Guide - Sears Holdings Corp. today began offering for the first time its holiday Wish Book gift guide catalog on Facebook, its iPad app and mobile site. The retailer previously had only offered the Wish Book on Sears.com and in print. Customers who Like Sears on Facebook can access the Wish Book using a separate tab on Sears’ profile page. Within it, consumers can create and share wish lists with their social network, and add items to their Sears.com cart on Facebook. Consumers also can enter sweepstakes available only to customers who Like the company on the social network. Sears has about 220,000 Likes. “Sears is constantly seeking for ways to become more innovative, improve customers’ shopping experiences and ultimately make shopping even more social, especially around the holidays,” a Sears spokesman says. Online at Sears.com/wishbook, customers can browse items in top gift-giving categories such as jewelry, tools and electronics, or view a digital version of the print catalog. <internetretailer>
Hedgeye Retail’s Take: While the goal is always to bring in younger customers, we wonder how impactful Sears’ social networking efforts will really be given their aging customer base. How many twenty somethings are out there looking to Sears to fulfill their holiday needs?
Integration of Branded Online Communities Grows - According to the second annual “State of Online Branded Communities” study by full-service social engagement firm ComBlu, which examined practices in the online communities of major brands, marketers have adopted a wide variety of best practices and begun to integrate their online community efforts across a variety of social media. In 2009, just under a third of communities studied were integrated with Facebook, Twitter, YouTube or other social sites that the marketer had a presence on. By 2010, the proportion had more than doubled, to 68%.
Comparing a variety of features studied in 2009 to levels of adoption in 2010, the study found online branded communities had increased adoption of best practices across the board. Some of the biggest jumps were in availability of faceted search, inclusion of rich media content, integration with social media and the use of “fun” engagement tools. <emarketer>
Hedgeye Retail’s Take: Not terribly surprising given the underpinnings of Facebook, Twitter, and YouTube are all rooted in ease of use. Marketers are simply enjoying the simplicity of these platforms rather than having to build their own.
Shoe Production in Spain to Grow 3% in 2010 - Footwear exports in Spain grew by 6.7% in terms of volume to 57 million pairs and 4.7% in terms of value to Euro 895 million for the first half of this year, according to figures released by the Federacion de Industrias del Calzado Espanol (FICE). Exports to Portugal rose by 29%, while export growth to Germany, the UK, Italy and France are 15.5%, 13.7%, 9.8% and 5.3% respectively. Meanwhile, exports to the US and Japan reported the first time of growth in recent years. The industry’s target for the year is to achieve a 3% growth in terms of production. To realize this goal, strategic expansion into emerging markets need to be implemented. For example, exports to Brazil increased by 287%. New markets including Turkey, China and South Africa are also gaining importance. <FashionNetAsia>
Hedgeye Retail’s Take: Perhaps this is the one bright spot in Spain’s economy? With inflation on the horizon in the major Asian footwear producing countries, we suspect the smaller, more specialized manufacturing centers to continue to see growth.
Initial Claims Fall Sharply - Starting to Get Interesting
The headline initial claims number fell 24k last week to 457k (22k net of the revision). Rolling claims came in at 446k, a decrease of 10k over the previous week. This significant improvement moved claims near the lows of the year on both the rolling and reported series. There have been five weeks in 2010 where rolling claims fell by 10,000 or more. Today’s report brings the series closer to the 375-400k range we are looking for before unemployment can begin to improve.
In the table below, we chart US equity correlations with Initial Claims, the Dollar Index, and US 10Y Treasury yields on a weekly basis going back 3 months, 1 year, and 3 years.
Joshua Steiner, CFA
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