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Stimuli and Effects

This note was originally published at 8am on April 08, 2015 for Hedgeye subscribers.

“Learning involves assessing relationships between stimuli and their effects.”

-Ed Hess

 

If that isn’t the truth about risk managing Global Macro markets, I don’t know what is. It’s Ed Hess’ opening volley in an excellent chapter from Learn or Die titled “Learning: How Our Mind Works.”

 

As our catalogs of stimuli and their effects grow, we develop stories that link them together so that we don’t have to remember them all individually… When we gain confidence with our stories, they become our reflexive, more automatic shorthand for interpreting the world. That is, they become our internal operating system…” (page 9)

 

Again, I think that is bang on. It’s all about the storytelling. And while we all know people who live, profitably, through plenty of lies, the fabrication of the truth eventually catches up to you in our profession. Long-term repeatable alpha is non-fiction.

 

Stimuli and Effects - 345

 

Back to the Global Macro Grind

 

The thing about the stimuli and their effects in markets is that they are constantly changing. For now, for example, you have to believe that A) Chinese growth and inflation are slowing in order to believe that B) the government is going to provide massive stimuli as a result. Then, by respecting market expectations, you are both bearish on Chinese growth/inflation and long its stock market!

 

I didn’t always think this way. I used to think that I was smarter than the market and that things like the aforementioned Chinese example couldn’t happen because the fundamental truth was that if growth was slowing, I could be short that market and eventually kill it (then I tried that more than a few times, shorted those types of markets … and got killed).

 

If you truly understand the fundamentals, the most important thing for you to solve for next is how that stimuli will be priced from a market expectations perspective. You don’t need a Ph.D. to master either expectations or your emotions. You need to check both your intellect and ego at the door, and risk manage the market you have, as opposed to the one you want.

 

Let’s apply some multi-duration, multi-factor stimuli and effect analysis to the oil market:

 

  1. Oil (WTI) is down over 47% year-over-year on #StrongDollar, Rising Supply, and Slowing Demand
  2. Oil was up +3.3% yesterday, taking it to +13% for the month-to-date on Saudi headlines  (with USD +1% on the day)

 

Ok. If my story about that isn’t 100% accurate, please email me and we’ll see if you have a better testament of what you believe is the truth (I’ll publish it on our site). I’m open to being edited! Internally, our commodities analyst, Ben Ryan, edits me all of the time.

 

Here’s the story Ryan told me about the head-fake stimuli (i.e. what the Saudi Oil Minister actually said vs. what mainstream media thought he said) yesterday:

 

  1. “I think this is very similar to what he's said all year”
  2. “He said it's not in their interest to cut production, but he'll work with other OPEC members”
  3. “They aren't in competition with shale producers and Oil prices will go up and down, adjusting for market forces”

 

One other thing Ryan noted is that the Saudi's are really the only OPEC member that has a significant amount of spare production capacity (more than half of all of OPEC). Their take is "we're already doing our part."

 

Again, to me that sounds as reasonable as any other story I read (from a credible independent research source) on the matter. So I rolled with that and sent out a SELL signal in Oil at 3:32PM EST in Real-Time Alerts. #timestamped

 

Then I got lucky as the lead supply story on Oil for the last 3-6 months (rising Oil production) hit the tape:

 

  1. The API reported domestic crude inventories increase another 12.2MM barrels week-over-week
  2. That was basically the biggest sequential increase we’ve seen through this whole downturn
  3. A DOE number in that area code (10:30AM EST today) would be the biggest sequential ramp since DEC 5th, 2014

 

But you make your own luck in this business by being able to:

 

A)     Contextualize a price/volume/volatility move within what we call our immediate-term TRADE risk range and

B)      Overlay that quantitative signal with an intermediate-term TREND research view

 

I went through this in our Q2 Global Macro Themes Call yesterday in what we’ve coined as Oil’s #DeflationDeck, which is effectively a bearish intermediate-term view of West Texas Crude Oil with an intermediate-term range of $36.11-57.54/barrel.

 

No, that’s not the “price deck” your Canadian Investment Banker is going to give you from his latest confab in Alberta. Neither is it the price your favorite “buy your own oil well” radio advertiser is going to tell your stories about from Midland, Texas.

 

It’s our story (born out of our process) on why our call on Global #GrowthSlowing and #Deflation will perpetuate lower-Oil-for-longer and why all of the #DeflationDomino risks associated with that to both levered Energy debts and equities remain firmly intact.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 1.84-1.93%

SPX 2060-2089
RUT 1242-1269
DAX 11909-12164
VIX 14.06-15.93
USD 96.65-98.98
WTI Oil 46.48-53.39

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Stimuli and Effects - 04.08.15 chart


LEISURE LETTER (04/22/2015)

TICKERS: GENS.SI, RCL

COMPANY NEWS  

Bwin - The Board of bwin.party announced that the New Jersey Division of Gaming Enforcement ('DGE') has awarded each of the Group's wholly-owned subsidiaries, bwin.party entertainment (NJ) LLC and bwin.party (USA) Inc., a Casino Service Industry Enterprise Licence under section 92(a) of the New Jersey Control Act.  

 

Norbert Teufelberger, CEO of bwin.party commented "Receipt of our full licence in New Jersey marks an important milestone for our US business. We believe that the path to regulation across the United States is inevitable and expect that other states will soon follow."

 

Genting Singapore - has rewarded president and chief operating officer Tan Hee Teck (photo) with performance shares worth an eye-popping $29 million at current prices to keep him from being poached. The vesting of these shares is subject to pre-agreed service and performance conditions. Not all the shares may be awarded if targets are not met.

ARTICLE HERE

 

RCL - Royal Caribbean brand president Michael Bayley intimated the policy of 'no last-minute discounting' was likely to be introduced in the UK. “I’m unable to make any forward statements, I can only talk about what we have done…but it’s in the US at the moment, and we’re committed to it” he said.

 

Meanwhile, Bayley hinted the UK could play host to another Quantum-class ship - even if only for its naming. “I could see a Quantum-class ship being based in the UK - not in the near future I don’t think, as we’ll have Anthem in the US and Quantum and Ovation in China, but we may build more Quantum ships,” he admitted.

 

“We’re still discussing plans for Ovation of the Seas. We haven’t decided what the itinerary will be from the yard to China, and where we’ll name it - we could do it in the UK, or maybe China,” he said.

ARTICLE HERE

Takeaway: We're skeptical RCL will be able to completely eliminate last minute discounting and sail with more empty cabins, which will adversely impact onboard spend.

 

 

INDUSTRY NEWS

 

Graft - The Macau Commission Against Corruption is investigating two staff members from the city’s Civil Engineering Laboratory for allegedly accepting bribes regarding a road next to a casino project.

 

A statement from the commission didn’t specify the road, or which casino property was adjacent to it. The inquiry is also said to be investigating the role of two people connected to an engineering firm.  There was no indication in the graft buster’s statement of any wrongdoing by the nearby casino.

ARTICLE HERE

 

Gaming tables - DICJ revised Q1 2015 table count to 5,704 from 5,630 previously due to an error. Table count in Q4 2014 was 5,711.

 

China lottery March results

LEISURE LETTER (04/22/2015) - F

Takeaway: Scratch continuing to decline in China this year

 

 

MACRO

Hedgeye Macro Team remains negative Europe, their bottom-up, qualitative analysis (Growth/Inflation/Policy framework) indicates that the Eurozone is setting up to enter the ugly Quad4 in Q4 (equating to growth decelerates and inflation decelerates) = Europe Slowing.

Takeaway:  European pricing has been a tailwind for CCL and RCL but a negative pivot here looks increasingly likely in 2015.


CHART OF THE DAY: Global Gong Show! China vs. Greece

CHART OF THE DAY: Global Gong Show! China vs. Greece  - 04.22.15 chart

 

Editor's Note: Please enjoy the brief excerpt below and chart from today's Morning Newsletter written by Hedgeye CEO Keith McCullough. Click here to subscribe today.

* * * * * * *

Since I haven’t had one real Institutional Investor ping me on the latest trader to sport the orange jump-suit risk for flash crashing the party (for a day), I give you a few more fun facts about Chinese and Greek stocks, instead:

 

  1. CHINA: since growth and inflation really started slowing in OCT, the Chinese stock market is +92%
  2. GREECE: since mainstream media started trumpeting “Greece Fixed” in DEC, Greek stock market -32%

Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.

Painless Starts

“The marvelous thing is that it’s painless.”

-Ernest Hemingway

 

In one of my favorite Hemingway short stories on mortality (The Snows of Kilimanjaro), that’s how a dying man explained the beginning of the end to his wife.

 

“That’s how you know when it starts”, he said. “It’s painless.”

 

To be clear, I don’t mean to bug you out this morning. I just wanted to remind you that while it’s been painless to be long of Chinese, Japanese, European (and now, on the margin, American) “easing” (in bond/stock market terms), this won’t end well.

Painless Starts - bubble cartoon 09.09.2014

 

Back to the Global Macro Grind

 

‘How could you write such a thing? Et tu, brute? How can you be bullish for the last leg of this ramp and, at the same time, remind me how it all ends? I knew it Mucker… you are a perma bear! You bastard.’

 

Enough of my literary attempts to entertain you, eh. Let’s just stick with the data (and some hilarious headlines for this stage of what’s been nothing short of an epic inflation of global stock and bond market prices):

 

  1. Chinese “investors” open a record number of stock brokerage accounts week-over-week (Sina.com)
  2. Mystery Traders armed with algorithms rewrites Flash Crash story (Bloomberg.com)
  3. Greek Contagion risks may be higher than you think (cnbc.com)

 

Ok. Maybe it’s not hilarious. I was just looking for some alliteration. But it is extremely amusing (which is the definition of hilarious).

 

As you know, mainstream media (especially Financial media), chases its own tail in its perpetual quest to prove to its advertisers that yesterday’s news matters today. #RatingsAtAllTimeLows

 

The way that these headlines work is that they are pro-cyclical to price action (i.e. they chase stories/price):

 

  1. Chinese stocks (Shanghai Composite) ramped another +2.4% overnight to +36.1% YTD
  2. Storytellers have been trying to become famous writing about the Flash Crash for years
  3. Oh, and if you didn’t think Greek stock market risks were real, you’re losing money long that

 

Since I haven’t had one real Institutional Investor ping me on the latest trader to sport the orange jump-suit risk for flash crashing the party (for a day), I give you a few more fun facts about Chinese and Greek stocks, instead:

 

  1. CHINA: since growth and inflation really started slowing in OCT, the Chinese stock market is +92%
  2. GREECE: since mainstream media started trumpeting “Greece Fixed” in DEC, Greek stock market -32%

 

In Hedgeye-speak, that makes China a bullish intermediate-term TREND and Greece a bearish one. If intermediate-term (3 months or more = TREND duration) is too short-term for you, look at both of these country stock markets year-over-year:

 

  1. CHINA: Shanghai Composite Index = up +112%
  2. GREECE: Athens General Share Index = down -44%

 

“So”, what I’d really need to get bullish on Greek stocks is:

 

  1. The Greeks telling the world the half truth (like China did) about slowing growth and #Deflation
  2. The Germans confirming that they get the truth, but have no intention of letting Greece “exit”
  3. And the mother of all Greek bailouts right when CNBC/Bloomberg are as bearish as they were on China last year

 

The death of the lies is where the painless progression starts, no?

 

It worked in Ireland and Iceland (sort of). And while I completely disagree with the policy to bailout losers, my political view on that front would have rendered my research opinions useless for the last 5-6 years too.

 

Can you imagine being the “smartest” man on earth right now (per yourself) and short Chinese stocks from last year’s lows? There is nothing painless about hubris. And I’ll define that in market terms for you too – not respecting Mr. Macro Market’s message.

 

I’ve lived and learned through this entire central planning circus alongside you, writing and ranting about it, almost every day for 7 long years…

 

I’ve always thought this won’t end well. But “ends” are processes, not points. And I’ve tried to time the beginning of the end as painlessly as possible. Because realizing perpetual P&L pain is no way to live.

 

Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:

 

UST 10yr Yield 1.85-1.95% (bearish)
SPX 2082-2112 (bullish)
RUT 1 (bullish)
DAX 115 (bullish)

VIX 12.37-15.27 (bullish)
USD 97.04-98.76 (bullish)
EUR/USD 1.05-1.08 (bearish)
YEN 118.99-121.14 (bearish)

Oil (WTI) 49.35-57.69 (bearish)
Natural Gas 2.44-2.65 (bearish)
Gold 1182-1209 (neutral)

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Painless Starts - 04.22.15 chart


CMG: Rinse & Repeat

Takeaway

CMG is indicated down premarket despite delivering another rockstar quarter.

 

Suffice to say, we've seen this story before.  Near-term concerns are legitimate, particularly given its lofty multiple, but "comping" mid-single digits while lapping +17-20% same-store sales growth is not a big deal to us.  Considering the long-term story is fully intact, we’d view notable dips moving forward as buying opportunities. 

 

This concept and company have never been stronger.

 

Earnings Recap

Revenues and same-store sales fell slightly short of estimates, but EPS came in well-above consensus at $3.88 vs $3.65 led by lower than expected cost of sales (benefit from dairy and avocados) and G&A expenses.  Same-store sales growth of 10.4% comprised of 6.1% price, traffic, and a minimal bump from average check.  Importantly, with pricing rolling off midway through the year, management plans to increase the price of its steak and barbacoa by the end of 3Q.  During the quarter, management repurchased $23 million worth of its common stock and has $170 million remaining on its share buyback program.  In addition, CMG continues to have no debt on its balance sheet.

 

CMG: Rinse & Repeat - 1

 

There’s More To The Story

In our view, there’s more to the story here than a temporarily decelerating top line.  This isn’t new news, in our view, and should be fully digested by the market.  A cursory look at the two-year average of +11.9% tells us things are just fine, and comes despite an estimated 100-200 bps negative impact from a harsh winter and backlash from the carnitas shortage.  Even with the disappointing comp, CMG realized significant operating leverage as cost of sales declined 59 bps y/y, restaurant level margins expanded 157 bps y/y, and operating margin expanded 316 bps y/y.  CMG boasts a best-in-class operating model that continues to show notable upside while continuing to grow units at a double digit clip.

 

Fundamentals Are Best In Class

Chipotle currently operates at all-time high restaurant level margins and AUVs.

 

With throughput constantly improving (+21 transactions per day in the quarter), catering ramping, more aggressive marketing, and mobile payment in the works, the opportunity for further growth is readily apparent.  To be clear, we think there is upside to the low-to-mid single digit comp guide, although our bullish bias partially discounts this.

 

Given the high returns it continues to see from new units, the company will continue to grow Chipotle at a double digit rate for a very long time and is currently molding two futures growth vehicles -- ShopHouse and Pizzeria Locale.  Valuation may be tough for some to swallow, but the stock trades at a discount to its five-year average of 40.7x P/E at a time when the fundamentals have been stronger than ever before.  Decelerating top line trends will be short lived and, while it gives the bears something to talk about, there’s a lot more positives that we can think of.  Even at 1,800+ restaurants, it will be difficult for investors to find a stronger growth story in the restaurant space.

 

Cash Is King

While this often goes overlooked, it is notable nonetheless.  Given Chipotle’s bullet proof balance sheet and over $1 billion cash and cash equivalents on hand, management has a number of levers it can pull—if necessary—to support shares over the intermediate-term.

 

CMG: Rinse & Repeat - 2


MACAU: MASS BETS HEADED SOUTH IN MARCH

Takeaway: Latest data on bet levels in March corroborate our assertion that Street is underestimating the degradation in Macau’s grind mass segment.

  • Observed premium and grind mass posted minimum bet levels were lowered on average again in March.  Our new dataset, observed average bet levels, also continued its trend lower in March. 
  • We believe both metrics are indicative of demand.  Minimum bet levels are a measure of pricing set by the casino.  Observed average bet amounts are not as reliable but in the aggregate should directionally track true average bet.  Average mass bet size multiplied by the number of bettors should equal mass volumes.
  • The premium mass trend shouldn’t be a surprise. However, we’re most concerned with the trends in minimum bets and average betting levels for grind mass given the higher margins associated with this segment and the perception among analysts that it is still growing.  The data suggests otherwise.
  • Street estimates need to come down to reflect lower grind mass revenue assumptions for 2015/2016 and the associated negative margin impact.
  • While Hedgeye remains below the Street in our 2015 EBITDA projection for all Macau operators, the largest disparity (10%) remains with LVS - the most exposed operator to the grind mass segment.

MACAU: MASS BETS HEADED SOUTH IN MARCH - 1

MACAU: MASS BETS HEADED SOUTH IN MARCH - 2


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 80.30%
  • SHORT SIGNALS 78.51%
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