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McCullough: I Am Unnerved

 

On The Macro Show this morning, Hedgeye CEO Keith McCullough articulated his frustration at consensus’ lack of risk management after the recent market correction. He also shares some sage investing advice from an institutional subscriber following a meeting last week with this leading global investor.

 

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RTA Live: August 31, 2015

 

 


Monday Mashup

Monday Mashup - CHART 1

 

Two quick changes to our LONG bench we wanted to make you aware of, we removed MJN and added HSY. We will be releasing a note on these changes later today.

 

RECENT NOTES

8/31/15 HAIN | LOW QUALITY & INCREASED BUSINESS RISK

8/28/15 GIS | Time to Close this Deal

8/21/15 WWAV | DON’T PANIC, BUY MORE…HAIN | PANIC, SHORT MORE

8/21/15 UNFI | GOING AGAINST THE GRAIN

8/20/15 LNCE | Black Book Presentation Replay

 

RECENT NEWS FLOW

Monday, August 31

BETR | Initiated neutral at Goldman Sachs (underwriter of the IPO), price target $18. Current price is $13.31, we see downside from here and continue to have it on our SHORT bench.

 

Friday, August 28

GIS | Rumors continue to swirl around the divestiture of the Green Giant assets (click here for Hedgeye article)

 

Wednesday, August 26

THS | Upgraded to overweight from equal-weight at Stephens, target increased to $85 from $75. Treehouse seems to be the leader in the deal for the Ralcorp assets.

 

Tuesday, August 25

KHC | Recalled turkey bacon products (click here for article)

 

Monday, August 24

POST | Reinstated outperform at BMO Capital Markets, target is $72

 

SECTOR PERFORMANCE

Food and organic stocks that we follow outperformed the XLP last week. The XLP was down -0.1% last week, the top performer from our list was Amira Natural Foods (ANFI) posting an increase of +29.1%. Worst performing company on our list was ConAgra (CAG), which was down -2.8%.

Monday Mashup - CHART 2

 

QUANTITATIVE SETUP

From a quantitative perspective, the XLP is bearish on a TRADE and TREND duration.

Monday Mashup - CHART 3

 

Food and Organic Companies

Monday Mashup - CHART 4

Monday Mashup - CHART 5

 

Consolidated Consumer Staples Valuation

After the volatile market last week, valuations remain near two standard deviations above the five year average EV/EBITDA multiple.

Monday Mashup - CHART 6

 

Keith’s Three Morning Bullets

  1. FEDERAL RESERVE – Fischer opted for dovish comments on Friday, making his Saturday comments more hawkish – I guess they look at the S&P Futures now before saying anything of consequence (today he’d be dovish); Fed Fund futures have ramped back up to 38% on a SEP hike probability – reminder: the Fed has never hiked into a slowdown
  2. COMMODITIES – dovish = commodity reflation; hawkish = commodity #Deflation – so the deflation TREND is right back on this morning w/ Oil, Copper, and Russia down -2-3%; WTI’s risk range blew out to $36.99-45.32 on Friday, all but ensuring that massive volatility remains in this asset class
  3. SP500 – still has the widest risk range my model has generated since 2008 at 1 with the more probable level being the downside one (-7.7% from Friday’s close), given that the Fed could be tightening into a 0.1% GDP environment here in Q3 (our low-end scenario with the high end being at 1.5% and the Atlanta Fed tracking 1.2%)

 

Please call or e-mail with any questions.

 

Howard Penney

Managing Director

 

Shayne Laidlaw

Analyst

 


investing ideas

Risk Managed Long Term Investing for Pros

Hedgeye CEO Keith McCullough handpicks the “best of the best” long and short ideas delivered to him by our team of over 30 research analysts across myriad sectors.

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS

Takeaway: Dovish comments from the Fed and a favorable US GDP reading led short-term risk perception to cool, but intermediate term risk remains high.

Key Takeaway:

The VIX has "cooled off" to ~26 following an intraday surge above 50 last week - the highest reading since early 2009. Global markets bounced on Wednesday following comments from Federal Reserve President William Dudley that a September rate hike now seems less compelling and a favorable revision to US GDP (+3.7% vs +2.3%) restored a degree of confidence. Risk warnings in our heatmap below eased off for the week with slightly more green than red in the short term. However, looking at the intermediate term, risk perception remains one-sided in favor of the negative; eight out of twelve measures are red. From our standpoint, nothing has changed fundamentally. The key risk metrics we watch in China remain on the same negative trend. 

 

Current Ideas:

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM19 

 

 

Financial Risk Monitor Summary

• Short-term(WoW): Positive / 4 of 12 improved / 3 out of 12 worsened / 5 of 12 unchanged
• Intermediate-term(WoW): Negative / 2 of 12 improved / 8 out of 12 worsened / 2 of 12 unchanged
• Long-term(WoW): Positive / 3 of 12 improved / 2 out of 12 worsened / 7 of 12 unchanged

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM15

 

1. U.S. Financial CDS – Swaps tightened for 14 out of 27 domestic financial institutions on positive GDP data and dovish comments from Fed President William Dudley. U.S. GDP came in at 3.7% in the second quarter, and Mr. Dudley commented that the case for a September rate increase is now less compelling.

Tightened the most WoW: ALL, CB, ACE
Widened the most WoW: BAC, C, MS
Tightened the most WoW: CB, ACE, AXP
Widened the most MoM: GNW, MET, GS

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM1

 

2. European Financial CDS – Swaps mostly tightened in Europe last week as a global market recovery began on Wednesday.

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM2

 

3. Asian Financial CDS – Swaps were a mixed bag across Asian Financials last week. Chinese banks were mostly tighter, while Japanese banks widened. 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM17

 

4. Sovereign CDS – Sovereign Swaps were little changed over last week. Spanish swaps widened the most, by +3 bps to 101.

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM18

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM3

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM4

 

5. Emerging Market Sovereign CDS – Emerging market swaps mostly tightened last week. Russian swaps saw the largest move, tightening by -45 bps to 375.

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM16

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM20

 

 

6. High Yield (YTM) Monitor – High Yield rates fell 3 bps last week, ending the week at 7.37% versus 7.40% the prior week.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM5

 

 

7. Leveraged Loan Index Monitor – The Leveraged Loan Index fell 4.0 points last week, ending at 1862.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM6

 

 

8. TED Spread Monitor – The TED spread fell 4 basis points last week, ending the week at 27 bps this week versus last week’s print of 31 bps.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM7

 

 

9. CRB Commodity Price Index – The CRB index rose 1.7%, ending the week at 197 versus 194 the prior week. As compared with the prior month, commodity prices have decreased -2.7%. We generally regard changes in commodity prices on the margin as having meaningful consumption implications.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM8

 

 

10. Euribor-OIS Spread – The Euribor-OIS spread (the difference between the euro interbank lending rate and overnight indexed swaps) measures bank counterparty risk in the Eurozone. The OIS is analogous to the effective Fed Funds rate in the United States.  Banks lending at the OIS do not swap principal, so counterparty risk in the OIS is minimal.  By contrast, the Euribor rate is the rate offered for unsecured interbank lending.  Thus, the spread between the two isolates counterparty risk. The Euribor-OIS spread was unchanged at 10 bps.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM9

 

 

11. Chinese Interbank Rate (Shifon Index) –  The Shifon Index fell 7 basis points last week, ending the week at 1.77% versus last week’s print of 1.85%. The Shifon Index measures banks’ overnight lending rates to one another, a gauge of systemic stress in the Chinese banking system.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM10

 

 

12. Chinese Steel – Steel prices in China fell 2.5% last week, or 58 yuan/ton, to 2273 yuan/ton. We use Chinese steel rebar prices to gauge Chinese construction activity and, by extension, the health of the Chinese economy.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM12

 

 

13. 2-10 Spread – Last week the 2-10 spread widened to 146 bps, 4 bps wider than a week ago. We track the 2-10 spread as an indicator of bank margin pressure.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM13

 

 

14. XLF Macro Quantitative Setup – Our Macro team’s quantitative setup in the XLF shows 4.0% upside to TRADE resistance and 7.4% downside to TRADE support.

 

 

MONDAY MORNING RISK MONITOR | VOLATILITY ABOUNDS - RM14

 

Joshua Steiner, CFA

 

Jonathan Casteleyn, CFA, CMT

 

 

 

 



HAIN | LOW QUALITY & INCREASED BUSINESS RISK

HAIN remains on the Consumer Staples Best Idea list as a SHORT.

 

We continue to believe that HAIN is a collection of brands and businesses that are not deserving of the premium valuation.  The company is only one of a few that participate in the “better-for-you” space, but not all companies are created equal.  HAIN’s business model is a risky roll-up story whose better days are in the past. 

 

The most recently reported 4Q15 only confirms this belief and the issues the company faces today are very relevant to the future of the company. 

  1. Business trends and a sum of the part analysis suggest that the UK business is overvalued
  2. The drive to cut costs increases business risk
  3. The quality of earnings is the lowest in the Consumer Staples sector

 

SUM OF THE PARTS

The performance of the UK business last quarter was anything but organic.  The company reported a -7.8% decline in revenues and a 210bps decline in operating margins, before currency adjustments.  Management alluded to the UK segment net sales being up in “constant currency,” but the retailer environment remains very competitive. Consistent with past quarters management did not comment on real organic growth, but went on to say “we saw good growth from our soup, grocery, desserts, rice and plant-based beverages.”  With private label at 40% of sales in the UK segment and seeing declining volumes, the organic growth on the business is limited.  Taken together; the 4Q15 performance, limited visibility to organic growth in FY16, and significant exposure to private label should lead the UK business to be valued at a substantially lower multiple than the U.S. business.  

 

As we have demonstrated in our past Black Books, HAIN is less than forthcoming with detailed information on how the core business is preforming and clearly overstates the positive business trends.  This past quarter is just another example of the company hiding what the true organic growth is of the UK business.

 

HAIN | LOW QUALITY & INCREASED BUSINESS RISK - CHART 1 

 

CUTTING INTO THE MUSCLE

One of our biggest issues with the company is the secular decline in gross margins.  As the environment for “better-for-you” products in the U.S. gets more competitive, HAIN will not be able to defend brands or market position.  The only weapon the company has to defend itself on declining gross margins is to take massive cuts in G&A.  Cutting G&A is never a long term winning proposition, and cutting too deep can put the business model at risk.  This quarter looks as if they are cutting into the muscle of the company.  With the current G&A cuts the company is now taking a big risk with their most important distribution channel.  

 

In 4Q15, HAIN announced that they were moving their natural channel merchandising team to Advantage Sales & Marketing to “drive SG&A productivity.” Advantage is a third party national sales and marketing company that works with many companies within the consumer packaged goods space.

 

This is just the latest move by HAIN to reduce costs, saving them roughly 20-25% per year. Advantage is used by some of the big players to supplement their sales and marketing in the natural & organic channel, specifically on slower moving sku’s. The problem with HAIN’s use of this company is its sole dependence on it, as they said they moved their entire natural channel merchandising team to Advantage.

 

Transferring the entire operation out of HIAN is strategically a very risky idea and could lead to a loss of brand expertise at the company.  HAIN will effectively go from managing their brands first hand to having a third party manage them, depending on how their contract is structured (dedicated resources or not) will be a pivotal factor.  The biggest advantage of an internal sales force is, share of mind, you want your employees pitching your products. How do you know the third party will be representing your brands in the best light?

 

Advantage is a middle market provider from a cost perspective, definitely cheaper than others, such as Crossmark.

 

LINE ITEM ADJUSTMENTS LOWER THE QUALITY OF EARNINGS

The company’s ability to make the numbers is growing increasingly challenged and management is being forced to adjust more lines to meet expectations.   

 

HAIN | LOW QUALITY & INCREASED BUSINESS RISK - CHART 2

 

 


CHART OF THE DAY: Head Fake Or New Bull Market?

Editor's Note: This is a chart and brief excerpt from today's Early Look written by Hedgeye CEO Keith McCullough. Click here if you'd like to join us in staying a step or two ahead of consensus. 

 

...So, as Ray Dalio would ask, what is the truth – head fake or the new bull market?

 

It’s definitely a bull market in long-term US Treasury Bonds. In today’s Chart of The Day we show you how well the Long Bond has done versus something that we have not liked (the Russell 2000) going back to 2014.

 

CHART OF THE DAY: Head Fake Or New Bull Market? - z bird 08.31.15 chart


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