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Our Starting Point

“The fact is our starting point.”

-Aristotle

 

I’m not a big Aristotle fan, but I like some of his simpler quotes. In Global Macro risk management (and in life), I like to boil things down as simply as I can, or I don’t feel like I understand them well enough.

 

The aforementioned quote is one that Ed Hess used to introduce Chapter 7 of Learn or Die, “Critical Thinking Tools.” In both the chapter and the book, Hess leans on Dr. Gary Klein’s RPD (Recognition-Primed Decision) Model.

 

Klein has developed three tools that can increase the probability that we’ll be able to “see” and process new or disconfirming data and mitigate our cognitive blindness and dissonance (pg 75).” Being a data driven #process guy, I’m all for trying that.

Our Starting Point - 10 yr yield cartoon 04.20.2015

 

Back to the Global Macro Grind

 

Our starting point is last price. I know that sounds simple. It should. Our best starting point for evaluating new, confirming, and/or disconfirming “data” is to get Mr. Macro Market’s cumulative opinion on whatever that data is perceived to be.

 

“Klein found that people in high-velocity environments, where speed of decision making is important, generally don’t take the time to generate alternatives and then weigh the pros and cons of each (or engage in a probability evaluation). Instead, they engage in fast pattern matching.” (pg 76)

 

Sound familiar? We’ve all done this at some point in our careers. Some people in this profession probably still do it in trying to process every macro headline, every day!

 

“So”, try not to do that.

 

Let’s start this morning with some fast pattern matching (and see if any of it matches):

 

  1. Both US Existing Home Sales and weekly US mortgage demand data surprise to the upside (again)
  2. SP500 reverses its early morning losses to close within 0.5% of her all-time highs
  3. Bond Bears claim Housing data is “too good”, so the Fed needs to raise rates (rates rise, bonds fall)

 

Throw a little extra headline sauce in there like “Bill Gross Says Short Of A Lifetime” (yesterday he was talking his book to all mainstream media outlets who would listen) on German Bunds, and you saw the worst down day for the G-10 Bonds, in a month.

 

But, if you’re not flash crashing your P&L with every tick of the New Tape (Twitter)… and you take a step back (breathe)… does that sequence of pattern matching with very immediate-term price action make sense?

 

Do people who shorted Bunds and Bonds on the lows yesterday actually think that:

 

A)     The Fed is going to change their statement on April 29th due to the Existing Home Sales print and/or

B)      Thwart one of the few things they can currently take political credit for (#HousingAccelerating) by raising rates?

 

I remain bullish on both Long-Duration Bonds (TLT, EDV, MUB, etc.) and Housing (ITB, DHI, MTG, etc.), so you can argue that I am dead wrong on this due to my own cognitive blindness. But that’s what makes a market.

 

Another thread of short-term pattern-matching that was bearish for sovereign bonds yesterday goes something like this:

 

  1. “The European economy is booming”
  2. German economic growth will force Draghi to back off QE
  3. European Bond Yields can only rise now, as a result

 

Oh, then there’s this stuff called the global (not local) economic data this morning:

 

  1. Chinese and Japanese PMIs for APR slow (again) to 49.2 and 49.7, respecitvely
  2. Germany’s PMI slowed (for the 1st time in months) to 51.9 APR vs. 52.8 last
  3. France’s PMI (which never accelerated to begin with) slowed, again, to 48.4 in APR vs. 48.8 last

 

In other words, the Italian (Draghi) needs to provide the French with moarrr cowbell!

 

In psychology, Cognitive Dissonance is the mental stress or discomfort experienced by an individual who holds two or more contradictory beliefs, ideas, or values, at the same time…” –Wikipedia

 

The fact is that Bond Bears need one very simple thing to be as right as we were on US #RatesRising in 2013 – and that’s real economic #GrowthAccelerating. Meanwhile (not to be confused with centrally planned stock market ramps), Global Growth continues to slow.

 

We believe that, with neither growth nor inflation accelerating (intermediate-term TREND), the Long Bond Bears will continue to lose money. Our starting point on that Macro Theme is what Mr. Macro Market has been discounting now, for 15 months.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 1.84-1.99%
SPX 2090-2117
RUT 1

EUR/USD 1.05-1.08
Oil (WTI) 50.04-57.78
Gold 1181-1208

 

Best of luck out there today – Go Rangers!

KM

 

Keith R. McCullough
Chief Executive Officer

 

Our Starting Point - 04.23.15 chart


Hijacking A Hockey Player

This note was originally published at 8am on April 09, 2015 for Hedgeye subscribers.

“Don’t let your emotions hijack your thinking.”

-Ray Dalio

 

While we’d all love to be as objective as we can be in this profession, being human often challenges us on that front. Especially if we’re not running a purely rules-based strategy (which has its risks), we’re always going to have a qualitative debate bouncing around in our heads.

 

In another solid chapter from Learn or Die titled “Emotions: The Myth of Rationality”, Ed Hess reminded me of this basic reality by asking a simple question:“If cognition and emotion are inherently integrated, is it possible to leave emotions out of the discussion?”

 

Probably not. But that doesn’t mean we can’t create a risk management process that subordinates our individual emotions during the debate. If you’re like me, and you choose to work on a research team, keeping everyone else’s emotions in check is a big challenge too.

 

Hijacking A Hockey Player - z9

 

Back to the Global Macro Grind

 

If you’ve seen me play hockey (or look up my penalty minutes), you get that I can’t play the game without emotion. I get that – but I didn’t get how much that would affect me as a “stock picker” when I first became a buy-side analyst. It didn’t affect me in a good way.

 

Especially on the short side when you have a boss and/or a large audience of peers watching your position, when something is going against you, it’s doesn’t feel cool.

 

As I grew into a PM I used to tell my analysts: ‘you either fight it, or close it’ (as in the short position) – and depending on who I was talking to (and what their emotional state was that day), I’d get a wide array of reactions to a pretty basic ultimatum.

 

Eventually, I just stopped letting my analysts trade and size their positions. That made our discussions more objective. The analyst either wanted me to have it on or not. Other than mapping calendar catalysts, all of the timing and trading of positions was up to me.

 

With responsibility comes a repeatable process, so I built my multi-duration “risk range” model as a result.

 

At a very basic level, here’s how my decision making process works:

 

  1. Analysts are constantly picking securities and generating new ways to express their ideas
  2. In parallel, I run multi-duration, multi-factor risk metrics on their ideas
  3. Then I pick the highest probability ideas defined by a math-based (objective) process

 

Trust me, I don’t have any emotional affiliation with any of their ideas. They are all just tickers to me. And once I pick from what they’ve picked, the risk range #process has the following decision making tree from a timing/sizing perspective:

 

  1. Immediate-term TRADE risk range gives me a high and low end of price probability… and
  2. I try my best to make sales at the high-end of the range and buys/covers at the low-end… as I’m
  3. Constantly trying to contextualize the TRADE within my intermediate (TREND) and long-term (TAIL) durations

 

That’s it. That’s what I do. And I can tell you that it took a long time to get that this is the best way to keep my competitive (emotional) risk factor at bay. To each their own, eh.

 

Today’s note is more of a process one (let me know if you want more or less of these – there are many processes within The #Process – and processes are always evolving) but if you go back to yesterday’s Early Look on Oil, it explains what we signaled and why quite well:

 

  1. Analyst (Ben Ryan) doesn’t like Oil right now  
  2. In parallel, my risk management process, which includes cross asset class correlation analysis with USD…
  3. Picks WTI (instead of Brent) as the best way to express that = SELL at the top-end of the risk range = $53.68

 

WTI Oil = down -5.6% on the day. So easy two hockey-heads (Ben was drafted by the Nashville Predators) can do it. And, fortunately, Ben is far less emotional than I can be – so we compliment one another as line-mates in decision making quite well.

 

For those of you who are new to evaluating our #process, every day (in our Daily Trading Ranges product) I give you A) the immediate-term TRADE risk range with B) our intermediate-term TREND research view in brackets. Here are all 12 of those big macros for today:

 

UST 10yr Yield 1.84-1.93% (bearish)
SPX 2070-2093 (bullish)
RUT 1243-1273 (bullish)
DAX 11805-12181 (bullish)
VIX 13.03-15.95 (bullish)
USD 96.95-98.99 (bullish)
EUR/USD 1.07-1.09 (bearish)
YEN 118.99-120.68 (bearish)
Oil (WTI) 46.53-53.68 (bearish)
Natural Gas 2.56-2.81 (bearish)
Gold 1180-1218 (bearish)
Copper 2.65-2.79 (bearish)

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Hijacking A Hockey Player - 04.09.15 Chart


LVS Q1 2015 TAKEAWAYS

Takeaway: Base mass is the story, and it’s an ugly one

QUICK TAKEAWAYS AHEAD OF OUR 11:30 FLASH CALL

 

Wow, what a ugly quarter! I’ve felt like I was pushing on a string trying to get people to focus on the single most problematic issue facing the Macau stocks:  Macau base mass business is declining.  We didn’t have hard revenue data to support our thesis, until now.  As it turned out, not only was base mass down, it was down horrifically.  The Street may have been anticipating flattish base mass while Hedgeye was expecting down mid-single digits.  We weren’t bearish enough as base mass plummeted 21% YoY at the Sands China properties in 1Q 2015.  Severe degradation of base mass revenues have huge ramifications for margins as evidenced by Macau property margins that were 400bps below the Street.

 

The only bright spot was only bright on a relative basis. Marina Bay Sands in Singapore beat expectations but on a hold adjusted basis, EBITDA was slightly below the Street and slightly above Hedgeye’s.  The property played lucky but volumes were down.  USA EBITDA also missed projections.

 

Our negative Macau thesis was predicated on significantly lower EBITDA estimates owing to negative implicit base mass projections. Remember that base mass carries the highest margins of any gaming segment. Since LVS was most exposed to base mass, the variance between Hedgeye and the Street was most pronounced in this name.  Apparently, the variance was not big enough.

 

LVS Q1 2015 TAKEAWAYS - base

 

ADDITIONAL PROPERTY TIDBITS FOR 1Q 2015

  • No shares repurchased during the quarter following an aggressive buyback in previous quarters. This is telling - they need to protect the dividend.
  • Macau properties:  given the high fixed cost nature, the decline in base mass was a big blow to margins – operating expenses rose to a record high as a % of net revenues
  • Premium mass table reclass
    • Venetian Macau:  we estimate approximately 50% of the previously reclassed premium mass tables to direct VIP have been reversed.
    • Four Seasons:  also reclassed back some tables in 1Q
    • Sands Cotai Central:  we estimate SCC reclassed ~20% of its premium mass tables in 1Q
  • Disappointing non-gaming revenues as well
    • Each Macau property missed our non-gaming revenue targets. It was broad-based with significant weakness particularly in room revenue and retail.
    • At MBS, every category missed slightly on the non-gaming side
    • Vegas non-gaming (ex rooms) fell for the 1st time since Q4 2012. Room revenue also dropped YoY.
  • MBS under the hood
    • Despite high VIP hold, GGR fell 11% YoY in 1Q 2015 – consistent with the trends seen in the government tax receipts
    • Receivable Reserve % was lowest since 1Q 2014. Quarterly bad debt was lowest since 2012.
  • Vegas
    • Slot business remain hot for LVS with its 4th consecutive quarterly growth
    • Venetian played unlucky on both slots and tables

 

HEDGEYE CONFERENCE CALL

We will be hosting a flash call at 11:30am today (Thursday) to discuss the quarter and our outlook in more detail.  The focus will be on the base mass segment given the magnitude of the disappointment there, the significant margin implications of lower base mass expectations and the resulting impact on investor sentiment.  Long-term investors own Macau stocks primarily because of the view that base mass is the growth driver.  Will they now capitulate?


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LVS: FLASH CALL TODAY AT 11:30AM ET REGARDING 1Q 2015 TAKEAWAYS

LVS: FLASH CALL TODAY AT 11:30AM ET REGARDING 1Q 2015 TAKEAWAYS - 1

 

Please join us for a quick conference call to discuss the significant ramifications of the poor LVS Q1 earnings release. The call will be held today, April 23rd at 11:30AM ET.    

 

The focus will be on the base mass segment given the magnitude of the disappointment there, the significant margin implications of lower base mass expectations, and the resulting impact on investor sentiment. Long-term investors own Macau stocks primarily because of the view that base mass is the growth driver. Will they now capitulate?

 

CALL DETAILS

Attendance on this call is limited. Please note if you are not a current subscriber to our Gaming, Lodging, and Leisure research there will be a fee associated with this research call. Ping for more information.


LVS 1Q 2015 CONFERENCE CALL NOTES

Takeaway: Grind mass the story, down 21% YoY with significantly bad margin implications in Q1 and going forward

LVS 1Q 2015 CONFERENCE CALL NOTES - lvs

 

CONF CALL

  • Very hard to say whether Macau will get better in Q2
  • As confident as they have ever been in long-term outlook
  • At least 10% in regular dividend growth for next 3 years
  • LVS: leading company for integrated resorts projects
  • LVS: 97% Non-gaming space, 3% gaming space
  • MICE in Macau: 640k people in 2008, 1.8m people in 2014
  • LVS hotels account for 80% of lodging cash flow on Cotai
  • Stay fully invested in Macau in long-term
  • Today company is stronger than it has ever been
  • S'pore: LVS is the profit leader in both mass and VIP markets
  • Decline in VIP and premium mass segments contributed to EBITDA decline
    • What about the 21% decline in base (grind) mass revs?
  • Non-rolling win per day declined 6% QoQ. Base win per day declined 4% QoQ
  • Property visitation and non-gaming both declined 4% YoY in 1Q 2015
  • Hotel guests declined 10% in Feb 2015 vs Feb 2014. Occupancy declined 11% YoY.
  • Mix btw cash and comped customers have changed somewhat due to changes in hotel inventory.
    • Majority of cash-paying hotel customers do some gaming spend
  • MBS:  'surprisingly strong quarter'; hold-adjusted EBITDA was $371m. on a constant-currency basis, hold-adjusted EBITDA was up 3%
    • Highest 1Q mass win per day ever $4.7m ($5.0-5.5m on constant currency)
    • Prudent credit policy
  • Interested in Korea, Japan and Vietnam
  • No repurchase in stock in past quarter. Have $1.76bn available for stock repurchase.

Q & A

  • Why such low Macau margins?  Have incurred more non-gaming costs than competitors. Nothing unusual this quarter. 
  • No phone betting hurt LVS in junket business
  • Rather not go out and borrow money now 
  • Being more judicious with reinvestment to customers and advertising costs
  • Venetian base mass business busiest they have ever seen
  • Chance of Macau visitation cap: no chance whatsoever
  • HK-Macau bridge: one of their contacts thinks it could open in 2016/2017, not 2020
  • Re-examining all capex guidance for Parisian and other projects for cost cutting opportunities. Parisian need a labor boost, right now looking at late summer/Thanksgiving 2016 but could be as early as spring 2016 if they get the necessary labor
  • Falling hotel occupancy:  a lot more operators are now selling rooms rather than comping aggressively
  • S'pore occu fell:  currency issue. High-end suites (renting for $10k/day) had difficulty being filled. Still command the highest ADR in the market
  • Why not buyback any stock in 1Q?  Will be opportunistic in future. Wanted to protect dividends. 
  • Have a good vibe that one of the emerging markets will open up soon. Want to have enough cash for that opportunity.
  • Can't do special dividend growth, regular dividend growth and stock buyback all at same time

YUM: It's A Win-Win

China is in turnaround mode as Taco Bell and KFC continue to fire on all cylinders.  YUM remains on the Hedgeye Best Ideas list as a long.

 

Yesterday after the close, YUM reported adjusted 1Q EPS of $0.80, coming in ahead of consensus at $0.71.  In the release, management reiterated its full-year 2015 EPS growth goal of “at least 10%,” with the street currently projecting 12% growth for the year.

 

We continue to see fair value for YUM between $95-100 per share.

 

YUM is one of the most conservatively managed restaurant companies in the space today which leads us to believe that our long thesis presents a win-win scenario for investors. 

 

One way to win is if the recovery in China sputters and the company is pushed to pull a lever or two to enhance shareholder value.  In our view, there are currently three significant levers at management’s disposal, including:

  1. Monetizing assets in China
  2. Leveraging the balance sheet
  3. Spinning off Pizza Hut

The other way to win is if the recovery in China persists and begins building toward normalized same-store sales and margins in China.  We began to see evidence of this in 1Q15 results.

 

With that being said, the recent sales disappointment from the Pizza Hut business suggests that it would make strategic sense to consider a sale or spin of that business.  We believe this will become more evident when DPZ and PZZA report comparable sales on April 23rd and May 5th, respectively, that we suspect will significantly outpace Pizza Hut’s results.

 

In the meantime, we remain encouraged with turnaround efforts in China and the strength of the Taco Bell and KFC businesses.

 

Below, we provide brief updates on each operating Division.

 

China Division same-store sales fell -12%, better than the consensus estimate of -14.4%.  Restaurant margins of 18.9% surpassed consensus estimates of 16.03%.  KFC and Pizza Hut same-store sales declined -14% and -6%, respectively.  Not only do same-store sales and customer metrics continue to improve, but are doing so while costs are being effectively managed.  Management continues to pursue growth in lower tier 3-6 cities, which remain underpenetrated and deliver superior returns given the low costs and high AUVs.  KFC recently launched its first menu revamp of the year, during which it will introduce eight new products over the course of the next three months.  A second menu revamp is planned for later this year.  The premium coffee rollout, which is in its infancy, has added an incremental weekly sales layer of around $300 per store.  Premium coffee should be in 2,500 stores by year-end.  Pizza Hut Casual Dining continues to rollout breakfast and expand its late night offerings while Home Service is approaching 300 units total.

 

Taco Bell same-store sales increased +6%, above the consensus estimate of +5.4%.  Restaurant margins of 19.6% surpassed the 16.8% consensus estimate.  Breakfast continues to do well at 6% of sales and restaurant margins approached 20%.  Management reiterated its goal of 8,000 domestic units and also cited strong performance in Latin America and Canada.  International continues to be a significant opportunity for further growth.

 

KFC same-store sales increased +5%, above the consensus estimate of +3.1%.  Restaurant margins of 15.3% surpassed the 13.6% consensus estimate.  The brand continues to be a global powerhouse with significant growth opportunities ahead.  80% of the 72 new international restaurants in the quarter were opened in emerging markets.

 

Pizza Hut same-store sales were flat, below the consensus estimate of +1.1%.  Restaurant margins of 11.6% were in-line with the consensus estimate.  The business clearly continues to struggle, particularly domestically where its new pizza platform/campaign has failed to drive the results they expected.  Management has decided to bring Collider Lab (consumer insight driven marketing company that helped rejuvenate Taco Bell) in-house in order to help revamp the domestic Pizza Hut business.  Internationally, Pizza Hut continues to expand rapidly, with plans to develop units at a record pace this year.  Management noted it is making the necessary investments in digital for the entire brand.

 

YUM: It's A Win-Win - 1

 

YUM: It's A Win-Win - 444


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