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VIX, Natural Gas and the Russell

Client Talking Points

VIX

Nothing crushes returns like bullish breakouts in volatility – OVX (Oil Volatility) has ramped from 38 to 51 since early NOV (38 is an epic level of volatility to begin with) and now front-month U.S. Equity VIX has an immediate-term risk range of 15-22; that’s why “up days” in DEC have been fleeting.

NATURAL GAS

Natural gas us crashing to new lows, -1.2% through $2.00 this morning – that’s a lower-low and while last year they blamed the “cold winter” for slowing Q1 GDP, now they can blame the warm one for slowing Q4 GDP – you just can’t have cold or warm weather.

RUSSELL 2000

The Russell 2000 continues to lag the Dow and S&P 500 and is mentioned the least by the mainstream as a result. It is down -5% for the year-to-date and down -11.3% from the all-time #Bubble high in July, the deterioration under “the market’s” surface is very obvious at this point.

 

*Tune into The Macro Show with Hedgeye CEO Keith McCullough in the studio at 9:00AM ET - CLICK HERE

Asset Allocation

CASH 75% US EQUITIES 0%
INTL EQUITIES 5% COMMODITIES 0%
FIXED INCOME 15% INTL CURRENCIES 5%

Top Long Ideas

Company Ticker Sector Duration
MCD

Restaurants Sector Head Howard Penney had no material update on McDonald's (MCD) this week. However, here is what Penney wrote around when we added MCD to Investing Ideas. It's worth reiterating our high conviction in the stock:

 

"We continue to get more bullish every time we talk to the company, franchisees and/or customers which we have polled via conducting surveys. We are going to be looking at a much different company 1-3 years from now." 

 

"Urgency has been instilled from the top down by new CEO Steve Easterbrook," according to Penney. "This ship is in gear and headed north. 2015 will be the last time this stock is below $100."

RH

This RH quarter is going to draw a Mason Dixon line between the Bulls and the Bears. The key factors that the Bulls (including us) need to see were profoundly present – giving us confidence that revenue will double, that we’ll see a 16% operating margin, and $11 in earnings power. In addition, RH beat the quarter, delivered 33% EPS growth in what should be the slowest growth quarter of the year, and it took up 4Q revenue guidance based on what it’s seeing so far this quarter (to 20%+).

TLT

On went the game of slowing last week with a little central planning un-secretive sauce. Despite the ECB’s move to cut the deposit rate to -0.30%, Draghi didn’t ring the cowbell loud enough. Meanwhile, Friday’s jobs report might have been just enough for Janet to hike rates into a late cycle slowdown. The consensus long USD crowd was crushed on the ECB news. The dollar lost over 2% on Thursday and rates were pushed higher.

 

If growth is going to continue to slow, with a rate hike on the horizon, a relative fixed income spread play (long TLT, short JNK) is exactly what you want on.

Three for the Road

TWEET OF THE DAY

Peak M&A Is A Classic Late Cycle Indicator | $DD $DOW https://app.hedgeye.com/insights/48015-peak-m-a-is-a-classic-late-cycle-indicator-dd-dow @MariaBartiromo

@KeithMcCullough

QUOTE OF THE DAY

If you don't know where you are going, you'll end up someplace else.

Yogi Berra

STAT OF THE DAY

It's estimated that 70-80 million dogs and 74-96 million cats are owned in the United States. Approximately 37-47% of all households in the United States have a dog, and 30-37% have a cat (APPA).


The Macro Show Replay | December 11, 2015

 


December 11, 2015

Hedgeye's Daily Trading Ranges are twenty immediate-term (TRADE) buy and sell levels, with our intermediate-term (TREND) view and the previous day's closing price for each name.  Click HERE for a video from Hedgeye CEO Keith McCullough on how to use these risk ranges.

 

  • Bullish Trend
  • Bearish Trend
  • Neutral

INDEX BUY TRADE SELL TRADE PREV. CLOSE
UST10Y
10-Year U.S. Treasury Yield
2.32 2.13 2.24
SPX
S&P 500
2,033 2,072 2,052
RUT
Russell 2000
1,131 1,172 1,149
COMPQ
NASDAQ Composite
4,987 5,092 5,045
NIKK
Nikkei 225 Index
19,010 19,447 19,046
DAX
German DAX Composite
10,308 10,856 10,598
VIX
Volatility Index
16.85 20.47 19.34
DXY
U.S. Dollar Index
96.70 98.73 97.93
EURUSD
Euro
1.05 1.10 1.10
USDJPY
Japanese Yen
121.24 122.69 121.61
WTIC
Light Crude Oil Spot Price
35.41 39.25 36.58
NATGAS
Natural Gas Spot Price
1.95 2.13 2.00
GOLD
Gold Spot Price
1,049 1,084 1,071
COPPER
Copper Spot Price
2.01 2.12 2.06
AAPL
Apple Inc.
113 119 116
AMZN
Amazon.com Inc.
653 682 662
GOOGL
Alphabet Inc.
754 772 760
NFLX
Netflix, Inc.
120 127 124
KMI
Kinder Morgan Inc.
13.23 18.64 16.81
RH
Restorwation Hardware
85 93 87

 

 


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RH | Lost in Translation

Takeaway: What should be a victory lap is now an oppty to buy RH on sale. Ultimately, the outsized earnings trajectory will make Longs lots of coin.

Conclusion: This RH quarter is going to draw a Mason Dixon line between the Bulls and the Bears. On one hand, the key factors that the Bulls (including us) need to see were profoundly present – giving us confidence that revenue will double, that we’ll see a 16% operating margin, and $11 in earnings power. In addition, RH beat the quarter, delivered 33% EPS growth in what should be the slowest growth quarter of the year, and it took up 4Q revenue guidance based on what it’s seeing so far this quarter (to 20%+). On the flip side, the Bears got a nice little gift in the form of weaker Gross Margins due to promotional activity, and renewed concerns about management. The reality is that this is a transformational growth story that will change on the margin more often than it doesn’t. Even though the 30% short interest already captures a whole lot of bad news, this print won’t make people cover – and probably validates the pressure the stock came under earlier this week. We’ll respect it for what it is, but based on our confidence in the earnings power at play here, we’d use any weakness as an opportunity to buy. The market combined with noise around the evolution of this story gives you a shot at buying it on the cheap every six months or so. We’re thinking that this is one of those times.

 

DETAILS

This is a pretty good timeline of how we viewed the RH 3Q print.

4:05pm – Press Release: Solid print. Beats the consensus by $0.02 (4%), and takes UP 4Q revenue by $10mm. It’s pretty tough to find anyone who takes up revenue expectations, most companies would simply keep estimates in-line, and upside in their back pocket.  Overall, total revenue guidance and implied EPS of 20-23%, and 40%, respectively. That comes on the heels of an impressive 33% earnings growth in what is widely viewed to be the lightest revenue quarter of the year.

 

Stock up 5% after hours as the EPS beat and top line guide trump the fear that people had headed into the print earlier this week.

 

4:30pm – RH Video: Now we’re feeling really good about this event. The video was targeted, on point, and Gary Friedman appeared to be more focused and grounded than in any other earnings video presentation.  Furthermore, there are basically two things you need to believe to own this story long term. 1) That the large format stores are both working and are scalable, and 2) that RH can successfully scale the brand into new categories and brand-relevant concepts.

 

Well, both of those were answered, with Atlanta continuing to accelerate from the Nov 2014 launch, and 2) RH Modern blowing the doors off expectations just one month after launch. Consider this, the Beverly RH Modern store is already doing $1,800/foot after just one month. This is unheard of. The store was previously a traditional RH Gallery, and over the course of two years it climbed from about $1,000 to $2,300/foot, making it one of the most productive stores in the entire chain until it moved to Melrose (larger format) a year ago. And yet Modern got all the way up to a $1,800 per sq. ft. run rate in 30 days? That’s surreal.

 

The bottom line…we were looking to check two major boxes that the long-term story is on track, and both got a major stamp of approval.

 

 

5:30pm -- Q&A With Management: Recall the comment above about how focused and grounded Friedman was on the video? Yeah…about that…

This was definitely not Gary’s best Q&A. In fact – let’s keep it real -- it was probably his worst from the perspective of the average investor. Unfortunately, it’s that average investor who is probably driving the incremental demand for the stock.

 

What happened? Knowing that the market clipped $300mm in equity value out of RH over the past three days due to an otherwise unplanned Friends & Family sale, we think that IR probably went on offense and asked Gary to make a 3-5 minute statement mitigating concern about promotional activity, and keeping people focused on long-term value drivers. Unfortunately he answered the first question in a 14 minute 20 second monologue which included some statements that prompted a $9 reversal in the stock, flat-out scared the market, and even concerned us (until we got clarity on what’s really going on).

 

These Are Some Soundbytes That Came From The Q&A:  1) “When we look at the data internally, it is the most promotional environment we've seen, meaningfully so.” 2) “You can't ignore someone like Wayfair today. They're doing big volume.” 3) “The last thing you want to do is you want to let yourself get Amazoned by somebody.” 4) “It makes me think, hey, you know, should we be calling Yellen and saying ‘let us tell you what we're seeing’, because, you know, those things, from my point of view — and I don't mean to make anybody panic, but it's important how we look at those.” 5) “RH, you know, ran a big promotion. Got it. We weren't trying to be shy about that, by the way.” 6) “At holiday time, if you've got stores in retail districts or retail malls and there's thousands of people in those malls and you're not doing something to maximize share, then you're a spectator.” 7) “Taking share is important. There's a reason why Amazon launched Black Friday before everybody else in the world, right? There's a reason why we launched the promotion we did last weekend. You know, it was to take share.“

 

We’re Pretty Darn Sure That The Intended Message Sounded Like This: “We’re exceptionally pumped about the success of our key initiatives, such as the new large-format Design Galleries, RH Teen, and especially RH Modern – all of which set us up for a breakout 2016 (after a breakout 2015). While we’re winning with our core initiatives, it pisses us off quite frankly, to see fringe competitors go so aggressively after market share. Wayfair put up a 130% comp around Black Friday, and though we don’t compete with them directly, I see the promotional activity in the rest of retail, and don’t want to be the loser when the holiday season ends. Our brand and our business is so strong such that I made the call to pull forward a sale from January to be sure that if anyone is gaining share out there, it is RH. The plan is, that the plan will change. That’s who we are, it’s makes us great, and we’re not going to apologize for it. We’ve never felt better about where we are, and where we’re headed.”  

 

What’s done is done, and the people out there that don’t like Gary now have 14 minutes of ammo. But they’d better hope that will make the stock go down…because the sheer earnings growth story here should make this one of the top performing stocks in Consumer in 2016.


Cartoon of the Day: Over The Cliff?

Cartoon of the Day: Over The Cliff? - rate hike cartoon 12.10.2015

 

The Fed is fighting economic gravity with Janet Yellen hell-bent on raising rates into a slowdown.


Peak M&A Is A Classic Late Cycle Indicator | $DD $DOW

Takeaway: We've been highlighting the late cycle nature of M&A for a while now.

Peak M&A Is A Classic Late Cycle Indicator | $DD $DOW - late cycle

Need more evidence that the U.S. is in a late cycle slowdown?

 

Look no further than the proposed merger of Dow Chemical (DOW) and DuPont (DD). If the deal goes through, it would create a massive $130 billion behemoth. Management would ultimately divvy it up into three separate businesses.

 

Why does that matter? Here's our analysis from a note sent to subscribers this morning: 

 

"... A multi-quarter acceleration into peak capital markets activity has historically been a harbinger of an economic downturn. Yesterday, multiple reports claimed DD and DOW are in advanced talks to merge, with the combination to then split into three separate companies; both stocks finished ~12% higher on the day.

 

The WSJ recently noted that worldwide M&A, excluding buyouts, has totaled $3.7T this year, beating the previous record set in 2007. This is exactly the kind of frothy, head-scratching headline you’d expect to see to confirm the forward outlook that global economic growth is as bad as we think it is. 

 

M&A usually peaks when company insiders agree to sell and that’s exactly what you’re seeing in insider transaction reports. At $7.6B, November 2015 was the fourth-highest month of insider selling on record.

 

This comes amid record share buyback activity, which has averaged $3.9B/day since the beginning of earnings season in October. Data firm Trim Tabs observes that this is the highest pace since the bull market began in March 2009.

 

Companies are doing everything they can to arrest the gravity weighing on peak margins. It has become increasingly difficult to protect earnings amid #GlobalDeflation which has perpetuated the ongoing global industrial recession – including right here in the U.S. All told, there is a ton of risk to forward estimates for GDP and EPS growth if we’re right on the economic cycle."

 

We've been talking about the late cycle nature of M&A for a while now. This is a slide from our 73-page Q4 Macro Themes presentation released in October:

 

Peak M&A Is A Classic Late Cycle Indicator | $DD $DOW - macro themes manda 

 

Say it with us now, the U.S. economy is "Super Late Cycle."

 


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