CAT: Needed - Activist With A Time Machine



On September 24th, CAT lowered its outlook on the same day a firm named Axiom put out a bizarre negative report.*  The shares were crushed, hitting $64 and we suggested ‘covering some’.  Since then, CAT shares have moved a bit higher with new narratives emerging to explain that move.  To be clear, we are in the CAT bear camp but did not want to press after such a large decline.  So what are the new positive stories on CAT?  We have heard a few of late: 

  • Activism
  • Chinese Stimulus/Reflation
  • Hey, Look At That Dividend


* The report is a rehash of this earlier sensationalized bearish thesis




Without a time machine and control of the commanding heights of the economy, it is hard to see how an activist could bring value creating change to CAT.  We suspect that some C-suite management changes would generate a one-day pop in the share price, but structural change is unlikely to work.  Most of the businesses that CAT has belong at CAT.  They could sell Solar or Progress Rail, but it is not clear those units are undervalued in the current market appraisal of CAT shares.  They are probably not large enough to move the needle, either.  Attempting to unlock value by divesting non-core assets would likely create more problems than it would solve. 


What would we do as an activist at CAT?  Probably find another target.  CAT has an entrenched culture, a dealer network with its own agenda, and a strong market position/product portfolio. It does not need an activist. One could argue for a broadening of the Construction Industries portfolio into adjacent markets (e.g. cranes), but this is also likely to be too little too late.  Basically, an activist cannot make mines expand, drillers drill, or retroactively back out of the Bucyrus deal.



Chinese Stimulus


As a short, we certainly worry that a large Chinese stimulus proposal could fuel optimism for CAT, much as it did coming out of the financial crisis.  Given the supply dynamic in key mining categories, like iron ore, we would view a strong rally on the expectation of stimulus driven demand as a potential set-up for a short entry. 


Weakness in commodity demand is not limited to China, either, with US coal a key market that is also under pressure.  On the bulk side of ‘old China’, it looks like a demand rebound would take quite a bit more stimulus than was delivered to fight the financial crisis.


CAT:  Needed - Activist With A Time Machine - China Rail Freight



Hey, Look At That Dividend


CAT’s dividend has not helped stem the decline in the shares so far, and we do not expect it to matter much.  While we do not explicitly forecast a dividend cut, the combined repurchase plus dividend may become a bit of a struggle in 2016.  CAT is on pace for a dividend of a bit over $3 per share and about $1.75 in repurchases.  That $4.75 pace does not stack up well against a current 2016 consensus EPS estimate of $3.88.  Of course, CAT’s cash generation and funding options may facilitate dividend and repurchase activity beyond EPS, but it is not a great set-up for dividend dependence.  Also, we expect issues at CAT Financial, which could also end up consuming some cash if our views play out.



Upshot:  The latest round of CAT bottom callers are likely to be met with the same success as earlier ones.  We think CAT is mired in a multi-year downturn in resource-related capital spending.  While the company has already guided lower, 2H 2015 is not likely to generate much optimism.  In many key ways, 2016 looks worse.  We would look to press our bearish view if the shares rebound on faux bullish narratives.


Recession Setting Sail For Europe?


In this excerpt from The Macro Show this morning,  Hedgeye CEO Keith McCullough responds to a subscriber’s (flawed) question on “accelerating” European economic data. He cautions viewers about the “unequivocally red” data out of Germany and how recent developments may change the monetary calculus of ECB President Mario Draghi and roil global markets. 

Cartoon of the Day: Reflationary Reality Check

Cartoon of the Day: Reflationary Reality Check  - reflation cartoon 10.13.2015  2

"While I didn’t live during the depression, I did leave home when I was 16 years old," wrote Hedgeye CEO Keith McCullough in today's Early Look. "My teammates and I have a DNA that will not fade when we have conviction in something we see that others don’t. Both #Deflation and #GrowthSlowing risks remain. Tell the Establishment we said so."

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REPLAY | An Interactive Preview to Healthcare Analyst Tom Tobin's 'Top Themes' Call

a must-see live + interactive segment with tom tobin

Hedgeye Healthcare analysts Tom Tobin and Andrew Freedman will deliver a preview to their Healthcare Themes call being held this Friday at 1:00pm ET (ping for access).


Key topics include:

  • #ACATaper
  • Healthcare's relative performance ... will it continue?
  • Their position monitor which showcases all their best ideas







McCullough: I'm More Bullish Than Anyone

Takeaway: The “Reflation” Trade that consensus got sucked into chasing in June/July getting rocked (again) as Global Growth data slows.

I think I’m more bullish than anyone, on bonds – long-term Treasury Bonds, that is.


McCullough: I'm More Bullish Than Anyone - Slow growth snails cartoon 07.14.2015


It’s simple.


#SuperLateCycle is what it is and this morning’s economic data from German ZEW (OCT) slowing to 1.9 from 12.1 to only the second #Deflation (year-over-year negative) print for CPI in the UK since 1960.


Check out the chart below.


McCullough: I'm More Bullish Than Anyone - z 55 7


Or (God forbid), we remember the recent (awful) U.S. jobs report.  It all adds up to a 2.05% 10-year U.S. Treasury and falling.


McCullough: I'm More Bullish Than Anyone - z km tweet


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Editor's Note: If you're interested in getting a step or two ahead of the consensus herd, we encourage you to take a closer look at our suite of contrarian investment products.

Global Growth Data Slows

Client Talking Points


We are probably more bullish than anyone, on bonds – long-term Treasury Bonds, that is – and it’s simple; #SuperLateCycle is what it is and this morning’s economic data from the German ZEW Index (OCT) slowing to 1.9 from 12.1 to only the 2nd #Deflation (year-over-year negative) print for CPI in the UK since 1960…and let’s not forget the recent U.S. jobs report. The UST 10YR is now at 2.05% and falling.


Down Dollar, Down Rates is the bull case for Gold – and with the Bond Market closed, we’re getting that and more “reflation” priced in with Oil and Gold +0.6% and +0.8%, respectively this morning. We turned bullish on Gold in August and added it to our Top Macro Ideas in our most recent Q4 Macro Themes presentation.


The German DAX bounced and failed @Hedgeye resistance, putting the crash right back in play (> 20% decline from April) with the DAX -1.2% this morning after terrible economic data (CPI dead flat at 0.0% and ZEW #slowing). We don’t think ECB President Mario Draghi will allow the EUR/USD to go higher for much longer – so realize what that means on the Down Dollar “reflation” trade.



**Watch a replay of The Macro Show with Healthcare Sector Head Tom Tobin and analyst Andrew Freedman at 9:00AM ET - CLICK HERE


Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

We think that the catalyst calendar is just starting to pick up, and should be the best that Restoration Hardware has seen – perhaps ever. There are two new and significant merchandising initiatives, which are solid on their own. But to pair them with the square footage growth acceleration seems almost like a fantastic coincidence. But it’s not. This has been in the plan all along. There’ll be many more new concepts and classifications – though we’d argue that the company can go deep and add $2bn in revenue with what it has.


To be clear, there’s much more to this story than just square footage growth – like the ability to consistently merchandise product people want in quantities they need.  Without the ability to deliver on that requirement, a retailer could have the greatest store in the hottest location with the best demographics, and it will still be nothing but a liability (regardless of how low the rent might be). That’s why square footage growth is grinding to a halt for other U.S. retailers. That’s also why the growth profile at RH is so powerful, and unmatchable by anyone we see in Retail today.


As we predicted, a rise in September regional revenues would serve as a catalyst for regional gaming stocks, and in particular, Penn National Gaming. For the record, PENN is up +12% since we added it to Investing Ideas back in May, outperforming the S&P 500 which has fallen -5% since then.


We believe shares of PENN have a lot more room to run, given its strong performance in key markets like Ohio and its successful opening in Massachusetts.  A handful of states still need to report their September revenue figures, but numbers have been in line with our expectations thus far.


PENN will be reporting Q3 earnings on October 22nd.


Bottom Line: We remain 50% below Bloomberg Consensus on GDP growth. Wall Street, the IMF, World Bank and OECD are all still forecasting global growth of around 3% for 2015.  We reiterate our call for growth to come in at or below half that rate.


While most #LateCycle growth expectations in macro markets peaked in April, the US stock market peaked in July as bond yields hit the market with their last head-fake of a “breakout.” That makes this bear market in growth expectations relatively young. With that considered, sit back and relax with your TLT and EDV.


Three for the Road


Special Excerpt from Hedgeye’s Q4 Macro Themes Call: #GameOfSlowing… via @hedgeye



Chaos isn’t a pit. Chaos is a ladder.

Petyr Baelish


Athletic footwear spend per capita is highest in the 14-24 and 35-45 year-old demographic annually spending $60 and $71, respectively. 

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