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SEPTEMBER 21, 2009





  • Footwear maker Wolverine World Wide is announcing plans to add production lines to its Big Rapids factory. The factory makes the company's Bates brand of footwear worn by uniformed military and police personnel. It makes sense that this would be US production given the PR disaster that would ensue from incremental capacity for military footwear coming out of Middle America and into China.  But this initially caught my eye because I am increasingly convinced that we’ll see a supply chain shake-up above and beyond the current state of flux as the US dollar ceases to be the world’s reserve currency. Expect to hear more from us on this in coming weeks as this will increasingly rear its head as a key issue.


  • Over the weekend Amazon.com launched a new private label brand called AmazonBasics, a line of consumer electronics accessories. While it is likely this week will be filled with lots of buzz about Amazon’s private label efforts and attempt to morph into a “general store”, most may not realize Amazon has already been selling private label products. The company has been selling products for about two years under the brands: Pinzon (kitchen gadgets), Strathwood (outdoor furniture), Pike Street (bath and home products), and Denali (tools). With the recent acquisition of Zappos, we would not be surprised to see more private label in softlines on the horizon.


  • Overnight, Li & Fung Ltd., (the biggest supplier of clothes and toys to US mass retailers) came out and noted that it is seeing re-order activity at a level not seen in two years, and that “Mid-tier” and mainstream U.S. retailers such as Walmart, Target and Kohl’s Corp. are “doing well.”  In the same statement, management noted that “for the world to get out of the recession, it has to be based on a U.S. recovery.”   Ok…tell us something e don’t know.  Yes, the comment is directionally positive, but I’ve never seen these guys come out and say anything other than positive things about their biggest customers. Their comments synch with the “things stopped getting worse” theme, and nothing more.


  • In effort to re-brand and re-position itself, privately held Restoration Hardware has re-launched. The company’s new focus is on higher quality and higher prices. The new offerings are 20-30% higher than prior merchandise and the brand is now intensely focused on quality, style, and craftsmanship. Given the company’s long history with ever changing strategies, we wonder how going upscale at this time will be received by both its loyal and potentially new customers.


  • In addition to selling one million copies of The Lost Symbol on its first day, digital e-book and audio book versions jumped to the top of the list of the most pirated books on the internet. The book has now been downloaded tens of thousands of times on BitTorrent, just one of many popular peer to peer file sharing sites. While digital music pircy has had its fair share of high profile legal battles, digital books up until now have been largely left out of the spotlight. It will be interesting to watch how aggressively Dan Brown’s publisher attempts to control or curtail digital piracy given this will most likely become the most downloaded book (legally and illegally).





-J.C. Penney and Phillips-Van Heusen are turning to football to bolster their relationship with the male shopper - In a new marketing initiative that will run through February, the companies have teamed up with the Pro Football Hall of Fame to provide the first-ever forum for fans to vote and debate their choices for 2010 inductees. Starting Tuesday, fans can visit the Van Heusen Pro Football Hall of Fame Fan’s Choice at jcp.com/fans to find stats on all 130-plus candidates, and opinions from sports experts, Hall of Famers and other fans. They are also encouraged to debate potential choices, lobby for their favorite players and post videos to support their picks. Steve Lawrence, executive vice president of men’s apparel for Penney’s, said the initiative is part of the store’s “long-term plan in men’s. We know our marketing efforts have to reach men, and sports marketing is the best way to do that. And football is the holy grail of sports marketing.” The campaign will also be featured at select NFL stadiums around the country where Hall of Famers and memorabilia from the Hall of Fame will appear, and “Fan Face-Off” debates will be encouraged. <wwd.com/menswear-news>


-Mindful of the environment, the industry increasingly turns to natural rubber outsoles that combine cushioning with flexibility - This renewable material can be used on its own or mixed with coconut husk fibers, cork and hemp, further reducing its environmental impact. Such alternative materials also help reduce the weight of a rubber outsole by as much as 40%, due to their lower densities. Outsoles made of natural rubber can be found on everything from tailored pumps to novelty wedges reminiscent of the 1970s and from brands such as Terra Plana, Arche and El Naturalista. Although these bottoms are more costly to produce than their synthetic counterparts (such as EVA and polyurethane), due to increased difficulty handling the material, manufacturers are taking advantage of it nonetheless for the comfort and environmental advantages. Rubber, a yellowish, elastic, amorphous material that comes from the latex or milky sap of various tropical plants, dates back to Mesoamerica (southern Mexico and Central America), 1600 B.C. But these days, the bulk of rubber is produced in Malaysia, Thailand and Indonesia, in climates near the equator, where rubber plants thrive. Over the decades, the term rubber has come to refer to both natural and synthetic versions, the latter introduced in 1935 by German chemists. However, synthetic rubber is made with petroleum and is nonrenewable. And while man-made rubber accounts for more than 75% of all rubber production, more companies are looking to make outsoles with recycled man-made rubber — especially from used tires — in combination with the natural material to help protect the environment. <wwd.com/footwear-news>


-Retailers at last week’s Children’s Great Event Shoe Show took a conservative approach to spring ’10 buying - Many said the price-value equation is more important than ever. While buyers weren’t abandoning their higher-end collections altogether, they were looking at their opening price points rather than top-of-the- line goods. One collection fulfilling needs was Geox, which offered introductory items that were $5 less than the collection’s usual retail price of $60. According to Patrick Dougherty, national sales manager for children’s at Edison, N.J.-based Geox, the company introduced lower-priced product for fall ’09, a tactic he said is continuing into spring. The merchandise has attracted both current accounts and new ones, Dougherty said. “We see it as an opportunity to get new customers into the brand,” he explained. Less-expensive product is now available in its light-up program, sport line, multipurpose footwear and waterproof collections.  <wwd.com/footwear-news>


-Sport footwear sales flat for Back to School - Even as back-to-school becomes less important to a retailer’s success for the total year, the season is still a bellwether for how the market views retail health in the back half of the year and the prospects for Holiday sales growth. The BTS season may be more important to the Sport Footwear business as parents send their little ones packing for school. A later Labor Day holiday this year had a noticeable impact on the timing of sales at retail. <sportsonesource.com>


-K-Swiss discusses performance platform for future growth - While Under Armour received overwhelming attention from the media and Wall Street for its running shoe “launch” this past year, another iconic athletic brand is making inroads into the running shoe market while flying under the radar.  The primary difference in the way the two brands entered the running has to do with the slow, measured approach taken by K-Swiss Chief Executive Steven Nichols as he works to build on a performance platform for future growth. Founded in 1966, K-Swiss may be best known for its signature leather model tennis shoe, its “Classic” that made its debut at Wimbledon the same year as the brand’s inception. Over time, the “Classic” has evolved from a high-performance shoe into a casual, lifestyle shoe. In 2008, K-Swiss reclassified its footwear products into two product categories - lifestyle and performance. “We’re the newest addition to specialty running,” says Mark Sheehan, director of performance running for K-Swiss.  Sheehan, who has created running products for Nike, Reebok and Puma, says K-Swiss has “points of difference” that sets it apart from competitors.   <sportsonesource.com>


-Russian Retail Sales Declined 9.8% Last Month, Steepest Drop in 10 Years - Russian retail sales fell for a seventh month, the longest period of declines on record, as pay cuts and mounting joblessness forced shoppers to reduce spending. <bloomberg.com>


-Japan's ABC-Mart to Open 10 Shoe Outlets in Taiwan By 2012, Nikkei Says - ABC-Mart Inc., a Japanese retailer, will start operations in Taiwan next month and is targeting sales of 2 billion yen ($21.9 million) in the year ending February 2012, the Nikkei newspaper reported.  <bloomberg.com>


-Specialty retailer Rue21 revealed plans on Friday for an initial public offering within the next two months - The company filed a registration statement with the Securities and Exchange Commission and firms typically go public within 60 days of the filing the statement, called Form S-1. The underwriters are Bank of America, Merrill Lynch, Goldman Sachs & Co., J.P. Morgan Chase & Co. and Piper Jaffray & Co. Rue21 targets young men and women ages of 11 to 17 with private and exclusive brands. The retailer has more than 500 stores in 43 states, mostly in strip centers, regional malls and outlet centers, as well as a Web site. The store locations are in small- and middle-market communities with populations between 25,000 and 200,000 people. Typically, Rue21 faces limited direct competition in the communities in which it operates, the company said. Merchandise is offered in apparel, accessories, footwear and fragrances at value prices. <wwd.com/business-news>


-Feds ask for more financial data from Overstock.com - The U.S. Securities and Exchange Commission is investigating Overstock’s previously announced restatements of its financial statements in 2006 and 2008. The online retailer says it will cooperate with the regulatory agency. <internetretailer.com>


-The South Australian Farmers Federation has recently recommended the federation members to vote for the current 2 % levy at the forthcoming Woolpoll. The wool committees of the other state farmer organizations also will hold a meeting in coming weeks to make a recommendation in this area. The organizations have not publicly voiced their opinion, but in all probability, will also recommend a vote in favour of the current 2% levy to their members. It would mean an end of the national wool research and marketing body Australian Wool Innovation and its research, marketing and development programs, if the wool growers will not vote for current 2% levy. State farmer groups are encouraging the wool growers to vote in Woolpoll and sending across the message that, not taking part in Woolpoll means, allowing others to take a decision on their behalf. <fashionnetasia.com>


-South Africa: 140 clothing workers on strike are arrested - About 140 clothing workers have been arrested in Johannesburg while they were peacefully on legal strike in front of clothing factories for wage raise demands. According to the local news, the police fired teargas and rubber bullets to the workers, Louisah Modikwe, the SACTWU Organiser was smacked and manhandled by a police officer. Most of the arrested workers have been locked up at Jeppe Police Station in Market Street in Johannesburg. The union has despatched its attorney to the police station but police have refused any discussion. <fashionnetasia.com>






  • Jennifer De Winter, EVP of Stores, sold 25,823shs ($188k) after acquiring the right to buy 25,823 less than 15% of total common holdings.
  • Stephen Sadove, Chairman & CEO, sold 25,823shs ($188k)after acquiring the right to buy 25,823 shares less than 4% of total common holdings.
  • Donald Hess, Director, sold 25,823shs ($188k)after acquiring the right to buy 25,823 shares roughly 16% of total common holdings.
  • Robert Wallstrom, Group SVP, sold 12,913shs ($94k)after acquiring the right to buy 12,913 shares less than 8% of total common holdings.
  • Michael Rodgers, EVP of IT/Operations, sold 5,164shs ($36k)after acquiring the right to buy 5,164 shares less than 4% of total common holdings.


BGFV: Steve Miller, President & CEO, sold 80,000shs (~$1.2mm) less that 10% of total common holdings pursuant to 10b5-1 plan.


GPS: Sabrina Simmons CFO, sold 20,000shs ($440k) after exercising the right to buy 20,000 shares nearly 50% of total common holdings pursuant to 10b5-1 plan.


TJX: Jerome Rossi, SEVP – Group President, sold 41,250shs (~$1.6mm) approximately 50% of total common holdings pursuant to 10b5-1 plan.


DFZ: Glenn Evans, Sr. VP Sourcing & Logistics, sold 5,000shs ($38k) roughly 17% of total common holdings.


TLB: Gregory Poole, EVP Supply Chain Officer, sold 5,844shs (~$55k) less than 20% of total common holdings.



Is Bigger Better?

“Any fool can make things bigger, more complex, and more violent. It takes a touch of genius - and a lot of courage - to move in the opposite direction.” -Albert Einstein

Is Bigger really Better? That question can be asked to a lot of constituencies, and I actually don’t want to know the answer to all of them! When it comes to the US Government’s balance sheet however, I think that the marked-to-market price of US Dollars has already answered the question.

Whether you are a Dallas Cowboy or Federal Reserve fan, you are waking up to a little nausea this morning. The Cowboys hosted the biggest fan base to ever see an NFL football game (over 105,000 people) last night, and they lost. The US Federal Reserve expanded America’s balance sheet to her largest size ever last week ($2.14 TRILLION), and the US Dollar lost value for the 3rd consecutive week.

Now I am certain that Cowboys fans will find some wins, but will the USA’s Bigger Debt is Better Plan find a special place in the hearts and minds of fans across the nation? Is Bernanke/Geithner America’s Team?

While America’s Household Balance Sheet expanded by over $2 Trillion Dollars last quarter to $53.1T, a US Dollar ain’t what it used to be. Despite the SP500 ripping the Depressionistas for a +58% loss since March, America’s Household Net Wealth is still -17% from its Q3 of 2007 peak ($64.7 Trillion Dollars).

American Consumer confidence was still tracking down at -49 per the weekly ABC/Washington Post Consumer confidence reading last week (all time low is -54), and after President Obama appeared on every TV show other than Sunday Night Football yesterday, one has to wonder if he scored any points.

Is Bigger Government really better? Is Bigger Debt really better? What do Americans dislike more? Government or Debt? Interesting questions for interesting times…

Last week, the Fed’s Balance sheet expanded by another $52 Billion Dollars. That was the 6th consecutive week of bigger debt taking the year-over-year expansion of the Fed’s Balance sheet to +$1.15 Trillion Dollars. Yes, I am spelling out Billion and Trillion this morning for a reason. Bigger Debt = bigger word count for KM’s Early Look.

In the short term, this is high octane gas for the Burning The Buck tailgate party. In the intermediate term, it has equated to a US Dollar crash move of -14.5% since March, and like I said prior, a +58% REFLATION move in stocks. Debtors, Bankers, and Politicians get paid. Creditors get the bill.

It’s sometimes ok to get the bill if you are winning, but even after a generational move in US stocks, America’s Team is sitting at the bottom of the Global Macro League standings. On Friday, Brazil’s Bovespa hit another new YTD high at +62%. Mid-week, the Russians were staring down a +100% YTD stock market move. In Vietnam last night, stocks added on another +1.2% move, taking their YTD run-up to +83%.

All the while, American politicians are whining, not winning. They thought they’d get paid in political capital if they fixed the stock market. They are getting paid alright – via political football season!

As we head into the two major macro events this week (Fed meeting on Wednesday and the G-20 on Thursday/Friday), President Obama and Ben Bernanke have to find a way to reconcile how to tell both Americans and the World that only 3-6 months ago we were having a Great Depression, but now the Recession is “very likely” to be over…

Bigger Debt and bigger storytelling is what we should expect to see in the coming days. This is what it is. How we can go from said Depression to hoped for Recovery (ostensibly skipping the recession) in 3-6 months? All the while we are Burning The Buck with a reckless “emergency rate of ZERO” percent for our Creditors. America’s financial forecasting team’s storytelling must be far more sophisticated than we fans are…

The US Treasury is going to issue another $112 Billion Dollars in US Debt this week. At the same time, the US Federal Reserve will be politically pressured to maintain their planned $1.25 Trillion Dollar MBS (Mortgage Back Securities) buy-back program. All the while the Chinese will be in Pittsburgh (G-20) smiling at us like I would if I had to look at Timmy Geithner for more than 3 seconds face-to-face…

Alan Stanford has apparently hired a Bigger is Better legal team that they are calling a “Champagne Defense” this morning. When Bernie can set the bar so high, what’s a $7 Billion Dollar lie worth in this country these days anyway? Again, “any fool can make things bigger, more complex” … especially if we let them…

All of this is plain sad and it might just mark the end of the US Dollar going down, for now. Then again, it might not. Real-time market prices will rule my macro model in analyzing it all the while. All Ben Bernanke has to do on Wednesday is change his rhetoric that Bigger Debt isn’t a perpetual plan. Now that he doesn’t have to worry so much about job security, heck, there’s always some hope that he may stop pandering…

With year-over-year deflation morphing into late Q4 inflation, and the USA setting up to print a much larger than expected Q4 GDP number, the Bigger is Better balance sheet policy will be under fire. Bigger American savings accounts are most easily achieved by giving Americans something Bigger than ZERO as a rate of return.

My immediate term TRADE levels for the SP500 are now 1050 (support) and 1079 (resistance).

Best of luck out there this week,





CAF – Morgan Stanley China Fund A closed-end fund providing exposure to the Shanghai A share market, we use CAF tactically to ride the more volatile domestic equity market instead of the shares listed in Hong Kong. To date the Chinese have shown leadership and a proactive response to the global recession, and now their number one priority is to offset contracting external demand with domestic growth. Although this process will inevitably come at a steep cost, we still see this as the best catalyst for economic growth globally and are long going into the celebration of the 60th Anniversary of the People’s Republic.

GLD – SPDR Gold We bought back our long standing bullish position on gold on a down day on 9/14 with the threat of US centric stagflation heightening.   

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. We shorted EWU on 9/9.

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.



The mainland has relaxed restrictions for its citizens from Guangdong travelling to Macau, which has resulted in a strong showing so far for September and big hopes for October, according to two unnamed “top executives at two of the market’s six casino licensees” cited by the SCMP.  The sources also stated that the authorities began to ease restrictions as early as two months ago.  Currently, citizens of Guangdong can travel to Macau once a month.  One of the sources claimed that October could see monthly casino revenues soar to a record high, partly due to the relaxation of visa restrictions.




The size of Wynn’s upcoming IPO in Hong Kong for its Macau unit has been increased by about 25%, seeking to raise up to US$1.6billion.  The move comes after positive feedback from investors; the company is now willing to sell 25% of the division, up from the 20% originally intended for sale.  The price range of the offer is expected to be HK$8.52-HK$10.08 per share, with at least 1.25 billion shares being sold.


In the prospectus for the IPO, Wynn stated that Encore at Wynn Macau is scheduled to open in the first half of next year.




Wynn Resorts has secured commitments of $250m for its upcoming IPO from cornerstone investors including Hong Kong tycoons Walter Kwok and Thomas Lau.  Quek Leng Chan, the Malaysian billionaire, is also on the list, according to people close to the transaction. 


Las  Vegas Sands is planning its own Hong Kong listing of its Macau casinos later this year.





Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.46%
  • SHORT SIGNALS 78.35%


Last week the Brazilian company JBS SA agreed to acquire Pilgrim’s Pride, making it the world’s largest meat processor ahead of Tyson Foods Inc (TSN).  As expected, TSN played down the potential impact the industry consolidation may have on future business.  Clearly, others in the industry are preparing for further consolidation.  SAFM’s strong fundamentals, some of the best we have seen in years, combined with the fact that management could possibly sell the company, make SAFM a WIN WIN in my book.    


The following is a summary from Michelle Leder.        


Employment agreements may seem like a pretty standard feature at most public companies. And to be sure, the overwhelming majority of companies provide their executives with employment contracts. But some companies -- for various reasons -- choose not to offer them. Or they only offer them to a few executives. So when a company that has made a point of not offering employment contracts begins to start offering them, you need to ask yourself why.


That's exactly the case with Sanderson Farms, which earlier this week entered into employment agreements with CEO Joe Sanderson Jr., Chief Operating Officer Lampkin Butts and CFO D. Michael Cockrell. None of the three executives are new to the company. Nor do they have new jobs -- the logical reasons that companies enter into employment contracts.


So that leaves us with the illogical reasons: the company is putting various protections in place for the executives in the event of a deal. All three of the new agreements have fairly standard language about what happens upon a change in control of the company, say if the executive's commute to work becomes longer than 40 miles one-way. Given Sanderson Farm's relatively remote location, it's a pretty safe bet that anyone buying the company would be beyond that distance. There's was also this phrase that caught our attention in the agreement: "the alteration of the Executive’s position in a way that significantly changes his status, offices, reporting requirements, authority, daily routine or responsibilities as they existed before the Change in Control." Under that scenario, even if the person's title remained the same, there would still be a way to trigger the change in control provisions.


The stock is down about 20% since mid-June and short-interest remains fairly high at around 9%. But back on Aug. 25, when Sanderson reported its third quarter earnings, my colleague, Howard Penney, put out a bullish note on SAFM, saying that the outlook "looks to be very bullish for the next couple of years if all of the pieces of the puzzle fall into place." Howard's main thesis was that falling feed prices and higher chicken prices combined with robust demand all made for positives, especially if demand from food service companies picked up.



ASCA is one of the few (maybe the only) gaming/lodging companies with dry powder to improve margins. They’ll need it when the duration of the regional downturn extends longer than people are expecting.



In a strong stock market, ASCA is 27% off its recent high and is the worst performing gaming stock since early June.  The reasons?  A weak Q2 and soft top line through August.  The soft top line is likely to persist, longer than investors currently think, in our opinion.  That’s a problem for all of the regionals.  At least ASCA still has some dry powder in the form of cost cutting that is probably not available to the other gaming operators, and most leisure companies for that matter.


We are of the belief that duration of the regional downturn will be longer than currently anticipated by investors.  The gas price headwind beginning in December, a higher sustained savings rate of the US consumer, and a continued decline in the % of Personal Consumption Expenditures devoted to gaming are the major drivers of that thesis.  Gaming revenues may disappoint in Q4 and through the first half of 2010.


On the cost side, gaming operators have done a great job cutting.  It looks like they need same store revenue gains to generate margin expansion from here on out.  They won’t get it.  While ASCA has already generated meaningful cost reductions, there is more to come.  ASCA’s properties operate a significantly larger number of restaurants and amenities than its competitors in almost every one of their markets.  In Kansas City and St. Louis, ASCA owns almost twice as many restaurants as the respective market average.


Why is this important?  Food & Beverage (F&B) generate low margins relative to the other functions, and probably negative margins when comped meals and drinks are factored in.  F&B comps represent approximately 80% of the total comps for regional casinos.  No casino operator makes money on F&B.  We think ASCA will close restaurants and reduce operating hours, and has the capacity to do that, should the downturn continue.  ASCA incurred about $75 million in expenses from F&B last year and $33 million through 1H 2009.  We think the company could save another $15-20 million or $0.16-0.21 in EPS next year.


I don’t know if the cost cutting dry powder is enough to make the stock go higher in the face of an extended downturn.  The regionals moved out of a horrible fundamental backdrop to “less bad” then to “stability” this year and we were there cheering them on.  Despite no evidence to support “recovery”, the stocks continued to climb.  Top line will continue to be a challenge for the regionals and revenue estimates for 2010 are probably too high across the board.  However, at least ASCA has a potential offset.

German PPI on the Rise

The German Producer Price Index rose +0.5% in August month-over-month and improved on an annual basis to -6.9%, signaling an inflection point in PPI. We believe this inflection is another indication of rising inflation in Q4 for Europe’s largest economy, and expect to see an incremental rise in CPI sequentially in the intermediate term. 


It is worth noting that energy costs are a main component of PPI (contributing to some two-thirds in change of the index, according to the Federal Statistics Office) and that the plummet of energy prices off last summer’s highs will define annual compares going into Q4. With PPI peaking in September ’08, the annual reading in August still yielded a discount in energy of 14.3%. However on a sequential basis, PPI gained 1.1%.  


As changes on the margin matter for our analytical process, it’s worth noting the divergence between comparing components on an annual versus sequential basis: while heating oil, diesel, and gas fell 34.9%, 20.5% and 8.5% respectfully annually, sequentially the components rose 11.5%, 5%, and 4.6% versus the previous month.


We see Germany slowly moving out of a deflationary environment into Q4. We expect a steady rise in CPI, which currently stands at -0.1% in August (annually, Eurostat) and that as inflation moves out to 2010 the ECB will need to raise rates to stem inflation. The danger therein lies that the stronger economies of the Eurozone (ie. German and France) stand to benefit from a rate hike at the expense of the weaker ones (ie. Italy, Spain, Portugal, Ireland, to name a few). 


On balance we continue to be bullish on Germany but are not invested in Europe on the long side. Currently we’re short the UK via the etf EWU.



Matthew Hedrick


German PPI on the Rise - a2

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