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ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk

Takeaway: Investors continued to build cash on the sidelines with a +$29 billion contribution to money funds over the past 2 weeks.

Investment Company Institute Mutual Fund Data and ETF Money Flow:

Investors continued to play defense in the 5-day period ending October 14th. Money funds gained another +$10 billion, bringing the 4Q15TD total inflow to +$29 billion following the +$54 billion build in money funds in 3Q15. We are entering the seasonally strongest period for money fund growth with a +3.7% average balance build at industry leader Federated Investors since 2007. Long term, active products were bifurcated last week with active equity funds seeing redemptions of -$1.4 billion versus passive stock ETFs which won +$4.4 billion in new business. Both sides of the bond aisle won new business with +$2.4 billion in active bond funds with passive fixed income ETFs winning +$2.0 billion.

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - chart 19

 

With investors continuing to seek safety, the current market environment supports our Long recommendation on money fund manager Federated Investors (see FII report) and our Short recommendations on active equity managers Janus Capital and T. Rowe Price (See JNS and TROW reports).


ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI1

 

In the most recent 5-day period ending October 14th, total equity mutual funds put up net outflows of -$1.5 billion, trailing the year-to-date weekly average outflow of -$404 million and the 2014 average inflow of +$620 million. The outflow was composed of international stock fund withdrawals of -$28 million and domestic stock fund withdrawals of -$1.4 billion. International equity funds have had positive flows in 46 of the last 52 weeks while domestic equity funds have had only 11 weeks of positive flows over the same time period.

 

Fixed income mutual funds put up net inflows of +$2.4 billion, outpacing the year-to-date weekly average inflow of +$40 million and the 2014 average inflow of +$926 million. The inflow was composed of tax-free or municipal bond funds contributions of +$617 million and taxable bond funds contributions of +$1.8 billion.

 

Equity ETFs had net subscriptions of +$4.4 billion, outpacing the year-to-date weekly average inflow of +$1.8 billion and the 2014 average inflow of +$3.2 billion. Fixed income ETFs had net inflows of +$2.0 billion, outpacing the year-to-date weekly average inflow of +$1.2 billion and the 2014 average inflow of +$1.0 billion.

 

Mutual fund flow data is collected weekly from the Investment Company Institute (ICI) and represents a survey of 95% of the investment management industry's mutual fund assets. Mutual fund data largely reflects the actions of retail investors. Exchange traded fund (ETF) information is extracted from Bloomberg and is matched to the same weekly reporting schedule as the ICI mutual fund data. According to industry leader Blackrock (BLK), U.S. ETF participation is 60% institutional investors and 40% retail investors.



Most Recent 12 Week Flow in Millions by Mutual Fund Product: Chart data is the most recent 12 weeks from the ICI mutual fund survey and includes the weekly average for 2014 and the weekly year-to-date average for 2015:

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI2

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI3

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI4

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI5

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI6



Cumulative Annual Flow in Millions by Mutual Fund Product: Chart data is the cumulative fund flow from the ICI mutual fund survey for each year starting with 2008.

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI12

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI13

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI14

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI15

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI16



Most Recent 12 Week Flow within Equity and Fixed Income Exchange Traded Funds: Chart data is the most recent 12 weeks from Bloomberg's ETF database (matched to the Wednesday to Wednesday reporting format of the ICI), the weekly average for 2014, and the weekly year-to-date average for 2015. In the third table are the results of the weekly flows into and out of the major market and sector SPDRs:

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI7

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI8



Sector and Asset Class Weekly ETF and Year-to-Date Results: In sector SPDR callouts, investors poured +$688 million or +11% into the industrials XLI ETF while drawing -$101 million or -5% from the materials XLB.

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI9



Cumulative Annual Flow in Millions within Equity and Fixed Income Exchange Traded Funds: Chart data is the cumulative fund flow from Bloomberg's ETF database for each year starting with 2013.

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI17

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI18



Net Results:

The net of total equity mutual fund and ETF flows against total bond mutual fund and ETF flows totaled a negative -$1.5 billion spread for the week (+$3.0 billion of total equity inflow net of the +$4.5 billion inflow to fixed income; positive numbers imply greater money flow to stocks; negative numbers imply greater money flow to bonds). The 52-week moving average is +$1.5 billion (more positive money flow to equities) with a 52-week high of +$27.9 billion (more positive money flow to equities) and a 52-week low of -$19.0 billion (negative numbers imply more positive money flow to bonds for the week.)

  

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI10

 


Exposures:
The weekly data herein is important for the public asset managers with trends in mutual funds and ETFs impacting the companies with the following estimated revenue impact:

 

ICI Fund Flow Survey | Investors Seeking Safety, Shunning Active Equity Risk - ICI11 



Jonathan Casteleyn, CFA, CMT 

 

 

 

Joshua Steiner, CFA







LULU | CEO IS ON THE BLOCK NEXT

Takeaway: LULU’s decision to eliminate the role of Chief Product Officer and its current occupant makes all the sense in the world to us.

LULU’s decision to eliminate the role of Chief Product Officer and its current occupant, Tara Poseley, makes all the sense in the world to us. Is it because the product in the store looks horrible right now? No. But the company’s lack of a coherent operating plan combined with her consistent inability to prevent competitors from closing the gap in LULU’s core business makes this decision a no-brainer to us.  

 

While Poseley might well deserve to be sacked, we think that this is really a precursor to CEO Laurent Potdevin getting ousted. Whether he’s making moves to deflect blame and buy some time, or he genuinely thinks these moves will reaccelerate growth – it all really ends the same way – with Potdevin being shown the exit in CY2016.

 

For starters, a company doesn’t fire its Chief Product Officer when business is just so darn good. Yes, she was hired during the tenure of a lame duck CEO, but it goes without saying that the Board (almost identical to the Board who ousted Chip with the exception of the two Advent members) had a big hand in bringing her in a month and half before hiring Laurent Potdevin to steer the ship.

 

Posely had been tasked with picking up the pieces after the company’s Luon fiasco in early 2013 that led to the ouster of then CEO, Christine Day, and Chief Product Officer, Sheree Waterson. Now that position has been eliminated (a nice way of saying Posely was fired) for the newly created position of Creative Director who will oversee both Men’s and Women’s product design. That position will be filled by Lee Holman who joined the company as SVP of Women’s Design in the fall of 2014. Holman was previously VP of Apparel Design at Nike, and when he joined LULU, the company did not even deem it worthy of a press release, just a mention in passing on a conference call. At the time he was considered a low-ish profile hire. Has that much changed in a year? Probably not.

 

The company was in the 7th inning of reworking its go to market calendar and product engine which was set to be completed and rolled out in 1Q16. Safe to say at this point that will at least be pushed out by a minimum of 12 months as Holman and newly created but yet to be filled Chief Supply Chain Officer look to put a stamp on the process improvements.

 

The company had been guiding to 300bps of merchandise margin recovery in 2016 due to improvements in the go-to-market calendar – specifically from lower air freight, improved raw material management, and better product costing. We think its safe to assume that that benefit will be pushed as well.

 

Bottom line, this stock was at $40 a year ago, and there’s no reason it can’t get there again. We think there’s a better chance of $12 downside from today’s $52 than $5 up. If the stock doesn’t trade down on this immediately, we’ll get louder on it as a short. There’s more bad news to come.

 

09/10/15 11:42 AM EDT

LULU | IN SEARCH OF TAIL

 

Takeaway: This qtr was a mess due to factors far beyond financials. LULU isn’t articulating a cogent plan – bc it probably doesn’t have one.

 

There’s one major reason why we think this LULU quarter was a huge let down -- and it’s not that inventories were up 23 days while Gross Margins missed by 200bps. Nor is it that LULU added $62mm in revenue year over year, but generated $1mm less in EBIT.  It’s the reality that this company does not know what it wants to be. Virtually every statement out of management on the call had to do with near-term tactical branding, marketing and product plans. All that is fine. It matters on some level – and definitely matters to small scale moves in the stock in the coming quarters. But that’s what we call TREND (in HedgeyeSpeak that translates to 2-3 quarters out – the near-term modeling horizon). This is where LULU lives, unfortunately.

 

But LULU needs a change of address. This is an extremely powerful brand in a solid, yet increasingly competitive, space. LULU needs to not only be a great brand, but a great company. Then and only then will it be a great stock. We think management is coasting on the power of the brand, by tweaking a legacy operating plan, blindly opening stores, and hoping that nothing else goes wrong. Hope, however, is not a profitable growth process.

 

LULU needs to live in the TAIL (which we define as 1-3 years). What we need for real wealth creation with this stock is for a clear, concise strategy that insiders rally around and are paid handsomely to implement. People need to look to $4.00 in earnings power, and believe in it. It’s that same strategy that would result in its CEO standing up and saying things that will make Nike, UnderArmour and Athleta quake in their boots (which used to be the case) – not that they are using ‘Sports Psychology on the Pant wall’.  Unfortunately, we truly think that LULU does not have a proactive process to grow its business.

 

Does The Company Have A Long Term Plan?

Somebody, please, ask virtually anyone in the company if they know their market share in stores and online within an hour’s drive of each store. [Note: our math shows it ranges from 2.5% (Long Island) to 26.7% (Burlington Vt) -- ping us if you want the data]. We don’t think they’ll tell you – because they probably don’t know.

 

How can a CEO stand up and give credible growth and profitability targets without knowing these basic building blocks?  How can they articulate why they don’t have a wholesale model – something that could be a home run for LULU (i.e. sell where the consumer shops)?  Even the CFO, who we have/had high hopes for, hasn’t created his own identity with the Street – as he’s following the same script of his predecessor who was pushed out.

 

All we get from the company as it relates to strategic initiatives are 1) Brand, 2) Community, 3) Innovation, and 4) Guest Experience.  The only quantified metric is that LULU will return to a 55% gross margin – something that we don’t think is realistic without meaningful backing by the balance sheet (i.e. more capex to boost profitability). But more importantly, the market is highly unlikely to pay for a passive goal to return to peak profitability when LULU is in a different stage of its growth cycle.

 

This is a great Brand, for the time being. We really want to get behind this story due to the potential that can be unlocked. But without the backing of a great company – we think this stock is going anywhere but up. We’re glad we pulled the plug in March.

 

 


REPLAY | SELL SPAIN CONFERENCE CALL

Earlier today we held a conference call with special contributor Daniel Lacalle to discuss Spain’s economy, stock market, and political outlook.

 

AUDIO REPLAY: CLICK HERE

MATERIALS: CLICK HERE

 

Key take-ways from the call include:

  • Hedgeye’s quantitative outlook on Spain shows its equity index, the IBEX 35, broken across our intermediate term TREND and long term TAIL levels, a bearish signal in our model.
  • Hedgeye’s Growth, Inflation, and Policy (GIP) model shows the Spanish economy in Quad 3 for the remainder of the year – an indication of growth slowing as inflation accelerates, another bearish signal in our factoring process.
  • Spain’s fiscal imbalances remain, with the sovereign debt load near 100% of GDP and a deficit above the 3% target. Politically the government looks poised to tack on spending and issue limited market reforms.
  • Key indicators like Manufacturing Production, IP, PMIs (Manufacturing and Services), Consumer and Economic Confidence, Retail Sales, and Housing indices are all turning over/declining over recent months.
  • A key tell on the health of the Spanish economy is its largest trading partner, France, which is seeing growth go in the wrong direction.
  • Do not confuse ECB President Mario Draghi’s agenda to expand QE with growth, as it will have little impact on the real Spanish economy.
  • There’s high probability that Spanish elections this year (December 20th) result in a narrow win by the PM Rajoy’s ruling Conservative (PP) party, but with a coalition build that includes the Socialists. Expect Spain to revert to its 2008 “ways” when labor market reforms were halted. This is very negative! 
  • As growth slows as debt expands with high unemployment and a rigid labor market, and no prospect for a QE-led recovery, a dangerous cocktail is brewing that could drive economic fundamentals much lower.

REPLAY | SELL SPAIN CONFERENCE CALL - Spain pain


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Cartoon of the Day: Monkey Business

Cartoon of the Day: Monkey Business - Long financials cartoon 10.21.2015

 

"But, if you “back out IBM” … and Industrials and Financials … and you don’t back out that Energy Stocks are the best performing S&P Sector Style to be long for Q4 (OCT) to-date at +11.2%, you should be making a ton of sense to your clients," jokes Hedgeye CEO Keith McCullough in today's Early Look.


BREAKING: Bill Ackman Wishes He Could Hop In Doc Brown's DeLorean And Go Back In Time

In case you didn’t know, today is Back to the Future Day. That of course would be October 21, 2015, the fateful date to which Marty McFly and Doc Brown time-travel in 1989’s Back to the Future Part II to save Marty’s children.

 

 

On a related note, our hunch here at Hedgeye is combative hedge fund manager Bill Ackman wishes he could hop in Doc Brown's DeLorean and travel back in time to a date well before his hedge fund, Pershing Square Capital disclosed its mammoth 5.7% stake in Valeant Pharmaceuticals (VRX) which incidentally constitutes a whopping 19% of Pershing Square’s portfolio.

 

(Continue reading below for our Healthcare analyst Tom Tobin’s detailed report on VRX.)

 

The stock is getting absolutely hammered today — it’s down as much as 40% — after Citron Research released a note comparing the drug maker to Enron. Ackman has lost billions on his Valeant bet.

 

Whoops.

 

Now, we’re just speculating here... but we wager Ackman would also like to take back some words he let slip back in May at the Sohn Investment Conference . That’s where he called Valeant “a very early-stage Berkshire [Hathaway].”

 

BREAKING: Bill Ackman Wishes He Could Hop In Doc Brown's DeLorean And Go Back In Time - 10 21 2015 ackman

 

How dare he insult Mr. Buffett’s legacy!

 

We’ve long been skeptical about the stock and had considered reshorting earlier in the year, but clearly missed that opportunity when the stock was trading closer to $300.  We issued our Valeant Black Book on July 22, 2014 laying out the short case and calling out what we considered to be an unsustainable business model.

 

That said, we’re proud our Healthcare analysts alerted subscribers to the many “underappreciated risks” we saw in the stock.

 

From the report:

 

“Valeant is operating what we believe is an unsustainable business model of serial acquisitions and underinvestment, fueled by debt, that will continue to lead to deterioration in the ongoing business.”

 

BREAKING: Bill Ackman Wishes He Could Hop In Doc Brown's DeLorean And Go Back In Time - 10 21 2015 tobin 

 

Here's a brief update on our thinking from Hedgeye Healthcare analyst Andrew Freedman:

 

“It was only a matter of time before Valeant’s debt-fueled acquisition binge would come to an end.  If you look at what the underlying assets are worth and subtract the debt, you get an equity value that is closer to $20. 

 

We spent the better part of six months researching Valeant, and there were no shortage of red flags. To name a few: Alternative pharmacy channels, inventory accounting on the Aesthetics assets, FDA investigations, price increases and questionable organic growth rates…

 

Trying to reconstruct the financials of Valeant’s business was near impossible given the acquisitions/divestitures and number of reclassifications… a huge part of the long thesis was a “Trust Me” story with management and that didn’t cut it with us.” 

 

BREAKING: Bill Ackman Wishes He Could Hop In Doc Brown's DeLorean And Go Back In Time - 10 21 2015 ron

 

CLICK HERE to access Tobin's institutional research report on Valeant.

 

(If you’d like to learn more about our institutional research offerings please ping sales@hedgeye.com.)


Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums

Takeaway: LAZ should put up decent earnings tomorrow and will be generally upbeat on its CC. A diagnostic of the market however is not as bullish.

Lazard (LAZ) is set to report earnings tomorrow in what we expect will be a solid print. With the large $67 billion AT&T/Direct TV transaction having closed in the period and limited proxy disclosure about the associated fee, revenues have upside within the result. Consistent with the rest of the industry, there will also be "constructive" language on the conference call regarding the state of the industry, however we have always ascribed to this guidance only being valuable in the very short run for a couple of quarters.

 

When zooming out for a broader perspective, the M&A market has chugged along in 2015 but we think expectations of further gains into 2016 are hopeful at best. Looking at merger premiums across cycle, takeout multiples on global transactions are setting new all-time record premiums at 11.9x EBITDA (in 1Q15) and 1.8x sales in the most recent quarter. Historically, the M&A market has been most profitable to investors in the space with low take-out multiples and investing ahead of a jump in merger activity. Simply put, whether M&A participants are strategic or financial, investors are chasing returns with expanding premiums increasing the risk of putting in a high water mark in activity. The prior highs in consideration values were in second half of 2007 with EBITDA premiums of 11.1x in 3Q07 with revenue multiples at 1.7x in 4Q07.

 

Private equity (PE) participation levels continue to pick up and since we flagged new cyclical highs in PE participation rates last quarter (new highs since the Financial Crisis but not new all-time highs), several blockbuster deals involving financial buyers have been announced. Yesterday, BlackStone purchased Stuy Town/Peter Cooper village from Tishman Speyer for $5.3 billion (in a near mirror valuation of the original '07 sale by Metlife for $5.4 billion) and Dell/Silver Lake is looking to pull in EMC for $67 billion in the biggest technology deal ever. We haven't re-run our PE participation rates for 4Q15 until we get more representative data further into the quarter, but odds at this point call for an even higher percentage of financial buyers of overall activity. 

 

While the top of the market will only truly be available in hindsight, we can comfortably say that expectations for Lazard already reflect a continuation of current trends and that the story is already modeled for growth on growth. Street estimates assume an +8% top line assumption for 2016, which is very healthy considering apparent late stage markers including PE percentages and an all-time high in merger premiums. EPS estimates also sit at an optimistic $3.69 for next year (but have come down from near $4 since the start of the year and our flagging of the asymmetry in the story). Importantly, with the firm's running NOL's from its IPO having now been marked to its balance sheet as of 2Q15, the company's tax regime is moving from 20% to the "high 20's" which imply that the firm will have to increase revenues by +3-9% alone to offset this operating item. Our estimates continue at near ~$3 flat which imply nearly 20% downside to fair value of $36-$39 per share at 12x our estimate. Importantly LAZ shares continue to screen as one of the highest rated in the Financial sector with extremely low short interest and high sell-side ratings/estimates as outlined within our Sentiment Monitor (see Monitor HERE). Thus despite some rationalization of recent out year numbers, shares are still poised for downside in our view.

 

 

 Deal multiples on EBITDA and Revenue have expanded to new all-time highs including the last cycle peak of 2007. This implies that acquirers are reaching for transactions, a less healthy sign versus moderate, mid cycle valuations:

 

Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums - chart 1 valuations

 

 

While a top will only be recognizable in hindsight, 2015 activity has now surpassed 2007 with the recent mega deals in the beverage (Anheuser Busch/SAB Miller) and tech sectors (Dell/EMC):

 

Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums - Deal Making Pace

 

Cyclical private equity (PE) activity is also being pulled into the market, with PE activity hitting the highest levels since 2007. Over 23% of global M&A announcements involved a PE fund in 3Q15, the highest level since the 30% in 1Q07:

 

Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums - final first chart 

 

Most recently some of the biggest transactions have been financially driven with private equity participants in the recent Stuy Town/Peter Cooper transaction and also the recent Dell/Silver Lake deal:

 

Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums - PE details final

 

Lazard's merger pipeline (all deals "pending" from our data venders) continues to be robust from a dollar value standpoint (however having put in a peak in 2Q14). Currently, we only show 5 absolute deals in Lazard's backlog however the over $100 billion Anhesuer Busch/SAB Miller looms large with $70-$100 million in fees for Lazard and another advisor:

 

Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums - Pending Dollar Volume and Count

 

While Street estimates continue to compress we are still close to the $3 per share range flat for 2016 versus Consensus nearly +20% higher. Our fair value at 12x our estimate is $36-39 per share. 

 

Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums - Earnings Comp

 

LAZ shares continue to screen as some of the highest rated in the financial sector with our Sentiment Monitor applying values to short interest and sell side ratings. The higher the Sentiment number, the lower the short interest and the higher the sell side rating:

 

Lazard (LAZ) | Chasing Returns...We are Heeding PE Activity and Expanding Merger Premiums - Sentiment Monitor

 

Private Equity Historically Marks the Peak

LAZ - As Good As It Gets...Modeled For Perfection

Moelis (MC) Pre-IPO Black Book

GHL - Removing Greenhill From Best Ideas list

GHL - The Best Way to Capitalize on an Improvement in M&A

Hedgeye Black Book - M&A Market to Positively Inflect in 2014

 

 

Jonathan Casteleyn, CFA, CMT 

 

 

 

Joshua Steiner, CFA


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