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TODAY’S S&P 500 SET-UP – December 2, 2014

As we look at today's setup for the S&P 500, the range is 48 points or 1.19% downside to 2029 and 1.15% upside to 2077.                                                         













  • YIELD CURVE: 1.72 from 1.74
  • VIX closed at 14.29 1 day percent change of 7.20%


MACRO DATA POINTS (Bloomberg Estimates):

  • 7:45am: ICSC weekly sales
  • 8:10am: Fed’s Fischer speaks in Washington
  • 8:30am: Fed’s Yellen speaks in Washington
  • 8:55am: Redbook weekly sales
  • 9:45am: ISM New York, Nov. est. 55 (prior 54.8)
  • 10am: Construction Spending, Oct., est. 0.6% (prior -0.4%)
  • 11:30am: U.S. to sell 4W bills
  • 12pm: Fed’s Brainard speaks via video to conf. in Los Angeles
  • 4:30pm: API weekly oil inventories



    • 8:30am: Blood Products Advisory Cmte meets on whether ban preventing gay, bisexual men from donating blood should be partially ended
    • 9am: House Homeland Security Cmte hears from Homeland Security Sec. Jeh Johnson on immigration executive order
    • 9:30am: Health, Education, Labor and Pensions Cmte considers nomination of Lauren McGarity McFerran to serve as member of National Labor Relations Board
    • 2:15pm: Senate Environment and Public Works Cmte hearing on “Super Pollutants Act of 2014”
    • 2:30pm: Senate Commerce, Science and Transportation Cmte hearing on domestic violence in professional sports



  • Japan’s Otsuka Agrees to Buy Avanir Pharma for $3.5b, or $17/shr
  • GIC to Buy Blackstone’s IndCor Properties for $8.1b
  • Cypress Set to Acquire Chipmaker Spansion for $1.6b
  • Nov. U.S. auto sales: Chrysler ~8am; Ford ~9:30am; GM ~9:30am
  • Web Consumers Stretch Out Holiday Shopping Beyond Cyber Monday
  • Russia Scraps Proposed EU Gas Link in Favor of Turkish Delivery
  • Russia Sees First Recession Since 2009 With 0.8% Slump Next Year
  • Boeing’s Dreamliner Battery Fire Caused by Design, Probe Finds
  • EU Said to Face Basel Committee Rebuke on Bank Capital Standards
  • Ebola Crisis Will Cause Economies to Shrink, World Bank Says
  • Wanda Holds Talks to Acquire Lions Gate, MGM in Hollywood Push
  • Highland Seeks $250m From Credit Suisse Over Appraisals
  • New York Times Gets at Least 85 Buyout Applications by Deadline
  • Takata to Expand U.S. Air Bag Recall Nationwide, Nikkei Says
  • Apollo Global Mgmt Leads in Bidding for PetSmart, NY Post Says



    • Bank of Montreal (BMO CN) 7:30am, C$1.68 - Preview
    • Vince Holding (VNCE) 6am, $0.33



    • Ascena Retail (ASNA) 4:02pm, $0.26
    • Bazaarvoice (BV) 4:01pm, ($0.09)
    • Bob Evans (BOBE) 4:01pm, $0.33
    • Guidewire (GWRE) 4:08pm, $0.03
    • OmniVision (OVTI) 4:18pm, $0.51



  • Saudi-Venezuelan Split Plays Out Behind Closed Doors in Vienna
  • Gold Retreats After Rally as Stronger Dollar Reduces Demand
  • Hedge Funds Add to Copper Bear Bets on Growth Risk: Commodities
  • Andurand Fund Sees Oil Slump to $50 in 2015 as OPEC Steps Back
  • What Will World Weather Do in ‘15? Forecasters Say El Nino Looms
  • Steel Rebar in Shanghai Rises as China Inventories Decline
  • Rubber Gains From 3-Week Low as Producers Seen Withholding Sales
  • Funds Cut Bullish U.S. Crude Wagers Before OPEC Price Rout
  • Palm Oil Rebounds From Biggest Drop in 16 Months as Crude Gains
  • Port Hedland Engineers Approve Agreement, Ending Strike Threat
  • Junk Backing Shale Boom Facing $8.5 Billion Loss: Credit Markets
  • Putin Scraps South Stream Gas Pipeline on European Pressure
  • Societe Generale Cuts 2015 and 2016 Brent Forecasts to $70/Bbl
  • Iraq-KRG Government Reach Accord on Oil Exports: Al Mada Press



























The Hedgeye Macro Team



















CHART OF THE DAY: "Money Is #Gold, And Nothing Else." -J.P. Morgan

CHART OF THE DAY: "Money Is #Gold, And Nothing Else." -J.P. Morgan  - 12.02.14 Chart


*  *  *  *  *  *  *


Editor's note: The brief excerpt below comes from Hedgeye CEO Keith McCullough's introduction in today's Morning Newsletter.


“Money is gold, and nothing else.”

-J.P. Morgan


That was one of John Pierpont Morgan’s summary investment conclusions before he passed away in March of 1913.


Ironically enough, later that year, Carter Glass introduced modern day central planning of market expectations, currency manipulation, etc. to the US House of Representatives via the Federal Reserve Act.


By 1971, when US Dollar denominated money was fully politicized by Nixon (he outright abandoned the Gold Standard), J.P. must have been rolling in his grave…


Today, I’d say that money is whatever you think you have that can pay for things. In other words, if all your money was denominated in Bitcoins, Burning Yens, or Russian Rubles, you can pay for a lot less today than you could last year.


Money can often be an illusion of wealth, and nothing else.

Golden Headfakes

“Money is gold, and nothing else.”

-J.P. Morgan


That was one of John Pierpont Morgan’s summary investment conclusions before he passed away in March of 1913.


Ironically enough, later that year, Carter Glass introduced modern day central planning of market expectations, currency manipulation, etc. to the US House of Representatives via the Federal Reserve Act.


By 1971, when US Dollar denominated money was fully politicized by Nixon (he outright abandoned the Gold Standard), J.P. must have been rolling in his grave…


Today, I’d say that money is whatever you think you have that can pay for things. In other words, if all your money was denominated in Bitcoins, Burning Yens, or Russian Rubles, you can pay for a lot less today than you could last year.


Money can often be an illusion of wealth, and nothing else.

Golden Headfakes - Dollar cartoon 11.25.2014


Back to the Global Macro Grind


What if all your money was in the Russell 2000 this year? That would suck. After doing literally nothing (flat for 4 straight weeks in November), the Russell #Bubble got pounded for a -1.7% loss yesterday, falling back to -0.9% for 2014 YTD.


Gold, on the other hand, had a big day, rallying +3.1%, inching its way back to +0.8% for 2014. And this came on a US Dollar DOWN day, which drove the machines squirrely.


*Squirrely (definition: to chase one, either proverbially in your head, or physically in the Yale Hockey House).


Here are the inverse correlations, across durations, between Gold and the US Dollar Index:


  1. 180-days = -0.90
  2. 120-days = -0.94
  3. 90-days = -0.96


In other words, for most of the time in the last 3-6 months, Gold has been the inverse of the US Dollar, and nothing else.


“So”, with the following moves across a crashing commodity complex yesterday:


  1. Silver +6.1% to -15.0% YTD
  2. Wheat +5.1% to +0.3% YTD
  3. WTI Crude Oil +4.8% to -29.5% YTD


What do you do? Do you chase the squirrel? Do you fade? Or do you do nothing at all?


Most of the time, I like to analyze everything… and do nothing. It hasn’t always been this way for me (as a knuckle-head hockey player, I always thought I needed to do something!). But as I age, I’ve found that there is more money in waiting and watching.


After not chasing silver, wheat, or oil yesterday, and seeing today’s renewed selling in everything inflation expectations (commodities down), I’ll be considering the short side of Gold and Silver today.


While we can have a healthy debate about the definition of squirrel hunters or money, there is none to be had about the direction of trending prices – they are either inflating or deflating – and it’s our job to be on the right side of those trends.


As of this morning’s refreshed price, volume, and volatility data here are some bearish Hedgeye TRENDs I want to reiterate:


  1. Russell 2000 remains bearish TREND with intermediate-term resistance = 1190
  2. UST 10yr Bond Yield remains bearish TREND with intermediate-term resistance = 2.79%
  3. CRB Commodities Index remains bearish TREND with intermediate-term resistance = 280
  4. Gold remains bearish TREND with intermediate-term resistance = 1225
  5. Silver remains bearish TREND with intermediate-term resistance = 17.98
  6. WTI Oil remains bearish TREND with intermediate-term resistance = 85.31


I know, I know… but the SP500 and Apple are up. And that’s just great – but it doesn’t change the fact that the stability of the macro market’s proverbial snow-pack is getting less stable by the day.


Exercising the same mountain of snow metaphor, if there is one factor forming within the layers of interconnected market risk that is signaling #avalanche right now … it’s #deflation.


In between now and mid-December you have two causal forces (Draghi/ECB perpetuating #deflation via devaluing the Euro and/or a Japanese snap election that will decide at what pace Abe/Kuroda can burn the Yen) that can drive #StrongDollar deflation.


If yesterday was simply a head-fake, and Dollar Up, Gold Down, Oil Down correlation risks take hold (again), the accumulation of #deflation risks will continue to rise. And neither Putin nor High-Yield Energy/Gold Bonds will sit on this mountain of risk idly.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 2.16-2.26%

SPX 2029-2077

RUT 1146-1173

VIX 13.11-15.59

USD 87.41-88.54
WTI Oil 64.45-69.69
Gold 1154-1225


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Golden Headfakes - 12.02.14 Chart

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November Rain

This note was originally published at 8am on November 18, 2014 for Hedgeye subscribers.

“If at first you don’t succeed, then skydiving definitely isn’t for you”

- Steven Wright


Every November for the last decade, my high school buddies and I gather ahead of Thanksgiving to toast our respective, eclectic journeys into grown up’ness.


Every November for the last half-decade, domestic inflation expectations have crashed in an acute, seasonal de-crescendo.                                                                                                                                                    

Every November, Global Central Bankers meet in the collective effort to arrest economic gravity. 


Every December, the Macro Muchachos of Hedgeye toast to the profit opportunities borne of the unique pervasiveness of this-time-is-different’ness


Back to the Global Macro Grind…


In mid-October, Fed researchers documented Residual Seasonality in the reported Inflation data whereby in 8 of the last 10 years consumer price inflation has tended to be higher in the first half of the year than in the second half – a pattern evident even in the seasonally adjusted data. 


The research doesn’t really offer a supporting theory for the serial seasonality but the publication of the research suggests the Fed is, at least, aware of the seasonality and may (partially) discount the magnitude of sub-target inflation reported in the 3rd and 4th quarters. 


Notably, the paper also fails to identify policy itself as a contributing factor in perpetuating that phenomenon. 


As can be seen in the 1st Chart of the Day below, policy initiatives have, in recurrent fashion, been implemented circa November in the wake of crashing growth expectations.  


November Rain - EL Chart  1 QE vs BE


The direction of causality is (perhaps) open to debate but given that QE initiatives (generally announced in late 3Q) drove recurrent bouts of commodity price inflation & ‘escape velocity’ optimism into the New Year and that inflation expectations, in regular fashion, collapsed subsequent to cessation of QE initiatives is certainly suggestive.   


The 2nd chart of the day, first published by our Financials team early in the year, shows that the end of QE1 & QE2 were both followed by sharp drops in 10-year treasury yields as the bond market priced in slowing growth and the inability of the private sector to successfully take the hand-off from the Fed.   We’re inclined to interpret the current weakness in the 10Y as a protracted version of this recurrent cycle.  Essentially, it's the same selloff seen in the last two iterations, but in slow-motion, over the duration of the taper instead of all at once.


The Fed wants to get out of QE if only to afford themselves the opportunity to get back in and the cost-benefit balance in terms of policy spillover to financial market (in)stability has shifted in favor of policy normalization, but established patterns/habits and embedded (dovish) ideologies are hard to break…. particularly with the Quad#4 scourge of disinflation and slowing growth becoming an increasingly tangible threat.    


In physics, Constructive Interference describes the phenomenon of wave propagation and the propensity for two, in-phase waves to meet and produce a resultant wave larger in magnitude than either of the individual waves.  Conversely, destructive interference, describes the propensity for two, out of phase waves to cancel each other out. 


How does that relate to global macro risk? 


A host of individual economies have traversed through Quad #4 over the last 5 years.  However, the preponderance of G7/G20 economies have been at different points along the economic cycle at any given time – effectively in a state of destructive interference with the collective effect being a global economy oscillating above and below middling growth.


One benefit from being “out-of-phase” is that a rotate-the-QE model among DM central banks was a viable strategy and the race to the currency war bottom could proceed in a more-or-less orderly fashion.   


At present, however, the global Macroeconomy is experiencing a constructive interference of sorts whereby individual country cycles are converging to an in-phase wave of disinflation and decelerating growth.  The expedited collapse in major currencies and the discrete rise of $USD correlation risk is symptomatic. 


Growth, domestically, was almost 5% in 2Q. The first  revision to 3Q GDP will  show a negative revision down to  ~3%.  The early estimate for 4Q from the Fed’s GDPNow model is pointing to  +2.6% growth.   


The U.S. has been a source of relative strength but the late-cycle data is cresting alongside persistent, negative revisions to global growth and inflation estimates.  With bonds leading asset class performance YTD and the canonical defensive trio of XLV/U/P leading the 2014 rise in sector variance, the market has been discounting some measure of the current reality for some time. 


Personally, I’m getting bored of being long the long bond and would welcome a shift back into early-cycle, high growth/high beta exposure but neither the quant nor the fundamental data are supportive of that, yet. 


In other physics 101 news, Work still = Force x Distance.  


Here, distance actually refers to displacement, so, if your net change in position is zero you didn’t technically do any work.  On a physics score, the Russell 2000, having round-tripped in price, hasn’t done any work for two weeks….technically, with the S&P 500 up ~0% on an inflation adjusted basis since mid-2000, we haven’t done any work in nearly two decades. 


Yup…all the collective speculation, all the sunken search and research costs, all the spurious activity = zero work done when measured in SPX price terms.    

To Tuesday morning existentialism and bull markets in (economic) #gravity. 


Our immediate-term Global Macro Risk Ranges are now:  


UST 10yr yield 2.29-2.35%

RUT 1149-1181

CAC40 4149-4262

VIX 12.53-16.01

Yen 114.04-116.94

WTI Oil 74.05-76.99

Gold 1130-1203 


Christian B. Drake

U.S. Macro Analyst


November Rain - EL Chart  2 QE vs BS


*Long YUM Call Today @10AM

Call Details:

Toll Free Number:

Direct Dial Number:

Conference Code: 968989#

Materials: CLICK HERE


*Long YUM Call Today @10AM - 1



  1. Vulnerable to Activism  There has been a number of events over the past two years that suggest the timing is optimal for YUM to simplify its corporate structure.  While there several different avenues of value creation, one thing is clear: YUM’s new corporate structure, multiple brands and underleveraged balance sheet almost ensure that the company is vulnerable to change.  What remains to be seen, however, is if the new CEO will be proactive and effect change or be reactive to the changing marketplace.
  2. Transformational Transaction  For the better part of the past two years, management has been asked about a potential spinoff of the China business.  In our view, this move would be the first step in a series of potential transactions that would simplify the structure and improve the operating performance of the company.  We find it likely that a group of influential shareholders begin to push the board in this direction.  It also makes sense to consider spinning off the dilutive Pizza Hut (co-owned stores) business, which would trade at a substantially higher multiple as a standalone entity.
  3. Multiple Ways to Win The new global reporting structure of the company allows for a clean split of YUM's business units into multiple asset-light business models.  We also believe there is an opportunity to increase leverage (to repurchase stock or pay a special dividend), cut excess SG&A, refranchise additional restaurants and command a premium valuation. 


Howard Penney

Managing Director


Fred Masotta


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana

“Again, we get down to low $70s, a lot of bets are going to change on a lot of things. And there's no doubt that would be impacted to some degree. I would agree with that.”

– Doug Oberhelman 3Q 2014 Earnings Call





We have long referred to CAT as exposed to ‘resources-related capital spending’, not just mining, because we have expected a decline in energy-related capital spending.  Given the decline in crude oil prices, it seems likely that CAT’s 2015 will show stress from reduced oil & gas capital spending.  CAT’s Energy & Transportation (E&T) segment was already facing 2015 challenges from Tier IV Final. 


We also expect 2015 to bring some credit challenges to CAT Financial.  With the further declines in mined commodities, as well as Mercury Air Toxics regulations, receivables backed by mining equipment collateral may be less secure than some investors expect.  Higher provisions for credit losses seem likely, as mining equipment values (and liquidity) are likely to decline just when collateral value matters most.  CAT has had some “material weaknesses” relating to its Allowance for credit losses, but the allowance magnitude looks like a pressing problem.


We view 2015 consensus as too high, with our expected range in the $4.50-$6.70 reasonable range for next year (an EPS decline) vs. a consensus $7.05, ex charges.  There is a meaningful upcoming catalyst in the initial 2015 EPS guide with CAT’s 4Q earnings report in January.


*See Sept 2012 CAT 10 minute thesis call here, slides: CAT's Deep Cycle or our March 2013 Mining & Construction Equipment presentation for a full review.  We also held a call with the former head of Finning Power Systems titled Understanding CAT Power Systems.  On excess capital investment in energy, see links here.


Oil & Gas Capital Spending


The shale boom and high energy prices significantly increased capital investment in crude oil and natural gas production.  This chart ends in 2013, but conveys the idea reasonably well.  In our view, there is significant potential downside to oil and gas capital investment.


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta1



CAT sells large engines and turbines into oil & gas applications, with much of the equipment fetching high margins.  The list below is from a call with Jeff Leigh, former head of Finning Power Systems.


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta2



CAT in the Last Energy Downturn


Looking at CAT’s 1983 annual report, it is interesting to note that lower oil prices caused a meaningful drop in turbine and engine shipments, among other difficulties, particularly in emerging markets.  We have often compared the current resources capital spending downturn to that of the 1980s (see Party Like Its 1979).  Truck engines, which benefited from lower oil and deregulation, will not be an offset for CAT in this cycle.


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta3


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta4



Large Gensets & Locomotives:  2015 Tier 4 Final


Power generation is divided between prime power and standby power.  Lucrative prime power sales are often made to off-grid users, like mine sites and shale oil plays, or in emerging markets.  We assume sophisticated purchasers of larger gensets are pre-buying ahead of Tier 4 Final in 2015.  A prebuy seems evident from CAT’s E&T results, as sales are likely increasing in a pull forward from 2015.  


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta5


Locomotive sales have been more formally disclosed as a T4F pre-buy, but management suggested the post-pre-buy bust will only trim about 2% off of E&T next year.  Given our understanding that something like 70% of CATs locomotive sales are in the U.S., maybe half of that is OE, and that EMD will make up a bit over 10% of E&T sales this year, the decline will be a bit larger, we think.


Taking the guided 2% decline for locomotives and what is likely to be lower genset sales post-Tier 4 Final and lower resources spending, it is not easy for to see how E&T revenues can increase in 2015. 


Gas Compression


CAT often describes natural gas compression as the “majority” of the oil & gas exposure in the Energy & Transportation segment.  It is not entirely clear if that is of sales or installed base, but it would be very helpful if they simply provided the numbers instead of leaving investors to speculate.  We assume that if it were favorable, it would be presented more clearly. 


Still, USA Compression (USAC) is the second largest outsourced compression services provider in the US, and they appear to have been fairly aggressive in 2014.  Street capex forecasts for Exterran, the largest provider, and USAC capital spending currently project a 6% and 20% decline in 2015 capital spending, respectively.  While it is challenging to get insight into the broader compression market, it does not appear to us that gas compression will drive E&T growth in 2015.


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta6



Caterpillar Financial: Investors Have Yet To Scrutinize This


Is CAT paying more attention to collateral value and equipment sales than to the creditworthiness of its counterparties?  As a manufacturer, providing favorable customer financing to sell more equipment is a common pitfall.  In addition, we see a lack of diversification in CAT Financials credit exposure, since much of it appears mining-related.  If miners start to (or rather, continue to) go bust in coal, iron ore and the like, CAT may be left with mining equipment collateral that is challenging to remarket at assumed valuations.  

Note:  “Mining” as defined in Caterpillar Financial’s filings include only large miners, not all mining exposure.



Despite lending to some really interesting characters (see below) the allowance for loan losses seems low to us, both in absolute level and relative to historical norms.  While Caterpillar Financial is not a big part of CAT’s earnings, Industrials investors usually react poorly to unexpected losses at financial subsidiaries.  They often view it as having fluffed up prior equipment sales.  Remarketed used equipment can compete with new equipment sales at the same time that credit becomes less available for new equipment sales.


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta7



As we understand it, portions of the deals below typically remain on CAT’s balance sheet.  Financing is often provided in pre-production (project finance), increasing the risk, as we see it.  CAT should provide more disclosure, we think. Discovery Metals’ Boseto project, a Botswana copper mine with $2.86/lb cash costs, sounds like a tough credit to us.


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta8



CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta9



And, financing can be greater than CAT equipment value…


CAT: E&T As The New RI, And Retrieving Your Excavator From Botswana - cta10





2015 Expectations


We do not think that E&T will generate organic sales growth or a profit gain in 2015, given an anticipated decline in oil & gas capital investment and impact of Tier 4 Final.  We could, of course, be wrong, but we take the lead-off quote on the oil price as an indication of trouble ahead.  Mined commodity prices are meaningfully lower as we head into 2015, and we expect pricing pressure to intensify in mining equipment and MATS regulations to hurt coal mining.  Construction Industries should do well, but faces very tough margin comps in 1H 2015.  CAT Financial also looks challenged amid lower mined minerals prices.


If we were to pencil out a really favorable scenario for 2015, we would suggest E&T revenue flat at a margin comparable to 2014, and the same for Resource Industries.  We could grow Construction Industries at a mid-single digit rate and repeat the 2014 record margins.  We could grow Caterpillar Financial operating income by a low single digit percentage, too.  Even in that highly optimistic scenario, which is unlikely given the set-up outlined above, we would model a 2015 EPS (with buybacks) at around $6.70, below the $7.05 consensus.  In a more base-case outlook, we wouldn’t be surprised to see CAT at <$6.00 per share.





We don’t see Caterpillar escaping the downcycle in resources capital spending, with the long-awaited decline in energy capital spending now at hand.  The outlook for mining has deteriorated, with dealers inventories unlikely to make up the difference.  Increasingly, it seems investors are recognizing that the Caterpillar dealer network receives much of the service revenue.  We also expect price declines in various mined commodities to start to pressure Caterpillar Financial.  We suspect most investors have not scrutinized that subsidiary closely, yet.  


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