CHART OF THE DAY: Don't Break Out The Bubbly Just Yet

Editor's Note: Below is a brief excerpt and chart from today's Early Look written by Hedgeye U.S. Macro analyst Christian Drake. Click here to learn more.


"... As can be seen in the Chart of the Day below, Forward Capex Plans as measured by a composite of the Fed Regional Surveys remains on its one-way street to lower-lows, suggesting the negative trend in investment spending is unlikely to ebb in the coming quarter(s)."


CHART OF THE DAY: Don't Break Out The Bubbly Just Yet - Capex Plans CoD2

The Bubbly

“In monetary policy, “abrupt” and “disrupt” have more than merely resonance of sound in common. “

-John C. Williams, San Francisco Fed President, 8/15/16


Quick, without looking it up … what’s the difference between seltzer & club soda?


How about sparkling water – where does that fit in the convoluted mix of carbonated aqueous concoctions?


The technical answer is this (via huffpost):

  • Seltzer: water + artificial carbonation, that’s it.
  • Club Soda:  Water + artificial carbonation + added mineral-like ingredients.
  • Sparkling Mineral Water: comes from a natural spring and contains various minerals.  There is no added carbonation so any bubbles are naturally occurring.


The real answer is that there is no difference.


Back to the Global Macro Grind


If you’re not a fervent Fed follower, a notable development over the last few months has been the ostensible abandonment of orthodox policy assumptions and legacy forecasting models from various Fed governors. 


In June, St. Louis Fed President James Bullard ditched his former “narrative” (his word) for a new regime-based model for forecasting growth, inflation, unemployment and the associated policy implications.


Here are a few quotes from the Paper that I think capture the conceptual crux of the change:      


  • An older narrative that the Bank has been using since the financial crisis ended has now likely outlived its usefulness, and so it is being replaced by a new narrative.
  • The best that we can do today is to forecast that the current regime will persist.
  • We therefore think of the current values for real output growth, the unemployment rate, and inflation as being close to the mean outcome of the “current regime.”
  • If there is a switch to a new regime in the future, then that will likely affect all variables—including the policy rate—but such a switch is not forecastable.


Perhaps I’m wrong but, to me, the layman’s distillation of that techni-speak basically = Our old models don’t work, the new model is to straight-line what’s happened recently, and the new model will stop working at some point but we don’t know when and we’ll figure out a new, new model when that happens but on an extreme lag because we need sustained confirmation that the regime has, in fact, switched again.


Fast Forward 6 weeks ….


Last week, San Francisco Fed President John Williams stressed the necessity for policy innovation in a secularly depressed real natural interest rate environment where conventional policy has become increasingly ineffectual.   


  • Does this represent the final stage of broken-model grief (acceptance) and fledgling evolution? 
  • Is it an ivory tower equivalent of selling (their process) on the lows?
  • Is it a crafted public capitulation designed to catalyze fiscal policy action?


Technically, there is a difference between a broken orthodox model, a new model that basically just carries forward what has happened recently, and no model at all.


Practically, there is not really a difference. 


The Bubbly - Capital Goods CoD1


On to the Domestic Data Grind ….


Despite the elusiveness of an effective policy response, the primary fundamentals underpinning a depressed natural interest rate are identifiable: slack demand, negative demographics, soft productivity and an excess of savings over investment.


And we get the empirical on that reality with the monthly Durable and Capital Goods Orders data.


Headline Durable Goods rose +4.4% sequentially in July, marking the largest sequential gain in 9-months and reversing the prior month’s -4.2% retreat.


$$$ print, right?  It’s certainly better than printing the largest sequential decline in 9-months, but the headline gain was belied by decidedly more squishy internals:


  • Year-over-year growth was still negative for a second month at -3.3%.
  • Year-over-year growth in pretty much every subaggregate also remained negative.
  • Last month’s Headline retreat was largely driven by the -59% MoM/-60% YoY decline in private sector aircraft orders.  That reversed this month to +90% MoM while “improving” to -21.1% YoY.
  • Durables Ex-Defense & Aircraft (the closest proxy for household demand) rose +1.0% MoM, but held negative at -1.6% YoY, marking the 5th consecutive month of negative growth and 14th month of negative growth in the last 15 months.


Capex Orders, meanwhile, scored a similarly hollow victory as the +1.6% MoM increase equated to an acceleration to the downside on a year-over-year basis.  Year-over-year growth fell to -4.9% (-3.5% prior), marking the 9th consecutive month of negative year-over-year growth and  the 18th month of negative growth in the last 19 as the worst ever non-recessionary run of negative growth continues to extend (see chart above).


If we look across a broader selection of forward capex expectations, a congruous story of probable further underwhelming’ness emerges: 


Forward Capex Plans | Fed Regional Composite:  As can be seen in the Chart of the Day below, Forward Capex Plans as measured by a composite of the Fed Regional Surveys remains on its one-way street to lower-lows, suggesting the negative trend in investment spending is unlikely to ebb in the coming quarter(s).


Fed Senior Loan Officer Survey:  Banks tightened lending standards for C&I loans for a 4th consecutive quarter in 3Q16 and standards for Commercial real estate loans showed the highest level of tightening in the series’ 12 quarter history.  Concentrated tightening in the commercial sector suggests nonresidential fixed investment will remain underwhelming and a headwind to headline growth


Small Business Capex Plans:  Both Small Business Capital Expenditure Plans (NFIB Index) and Small Business Lending (Thomson Reuters) are flat-to-down in recent months and have retreated meaningfully off their 2H15 highs.  Neither series is signaling acute stress but they certainly aren’t signaling an imminent, positive inflection in business investment either.   


So, have you become fully desensitized to the recession in durable & capital goods spending after a year and a half of negative growth, or does the Industrial data have you depressed?


If the former, no worries, it’s natural. 


If the latter, no worries, surfing the services sector data is always good for a shot of sanguinity!   


The Markit Services PMI for August released yesterday dropped -0.5pts to an anti-sanguine reading of 50.8 - the lowest reading in 3 years outside of the peak deflationary angst print of 49.7 in February. 


The ISM Services reading is a bit better at 55.5 (July) but it really hasn’t done anything for the last 9 months. 


The simple net of all this (July & August ISM data and the July Durable Goods and Retail Sales data) is that 3Q is off to an underwhelming (yes, 3rd intentional use of that adjective) start. 


Janet’s speech at 10am this morning is titled:  "The Federal Reserve's Monetary Policy Toolkit”.


The theme of the Jackson Hole Symposium is: Designing Resilient Monetary Policy Frameworks for the Future”.


Implicit in “Designing” is the acknowledgment of the inadequacy of what is currently designed – something the domestic and global central banking collective is increasingly acceptant of.   


The Fed’s practice of rhetorical gradualism leading actual implementations is designed to avoid abrupt policy shocks and minimize market disruptions.   The recent verbal “carbonation” of stale conventional policy waters is not an accident. 


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 1.49-1.62%

SPX 2168-2193

VIX 11.15-14.31
USD 93.90-95.90
Oil (WTI) 43.95-49.51

Gold 1


Enjoy the show today, have a great weekend,


Christian B. Drake

U.S. Macro analyst


The Bubbly - Capex Plans CoD2

JT TAYLOR: Capital Brief


JT TAYLOR:  Capital Brief - JT   Potomac banner 2


“When you can't make them see the light, make them feel the heat.”

                                                     - Ronald Reagan


TRUMP’S TRICKY TRANSITION: Donald Trump and company are downplaying the apparent shift from his mainstay stance on immigration even after he gave yet another indication that his once-hardline position is undergoing significant changes. Understandably, nothing is concrete until we get a policy speech or see pen to paper, but to shift this late in the game is befuddling. He insists his plan will force undocumented immigrants to pay back-taxes, and does not include amnesty, but will “work with them.” Sounds a lot like the comprehensive immigration reform bill that was under consideration in the Senate in 2013. His camp continues to argue that Trump isn't abandoning any position, he’s just using different words - and that Trump’s shift is distinguishably different from the Senate bill, which Trump used to attack Senator Marco Rubio during the primaries. Watch for Trump to lay out his exact plan over the next week.


CALI GOLD RUSH: Trump may be hitting his base hard in southern states, but he’s certainly not making out like Hillary Clinton – she’s raised over $19 million during a three-day, nine fundraiser swing through CA this week. Her strategy is crafty as well - the fundraisers are designed to keep her from the public eye (progressives too) during a series of negative stories regarding the Clinton Foundation and emails she failed to turn over to the State Department. But ultimately, Trump’s July fundraising numbers served as a wakeup call for Clinton supporters, and roused her west coast enthusiasts. Proceeds will benefit the Hillary Victory Fund, a fundraising account that allows the whole Democratic ticket to raise money for her campaign - the DNC and Democratic state parties all at the same time. If Trump wants to remain competitive in the fundraising department, he needs to pool all resources available like she has…and fast.


DOL DELIVERS RETIREMENT RULE: Despite growing opposition from the financial services industry, the Labor Department released a final rule to make it easier for states to create retirement programs for private-sector workers whose employers don't offer one. The rule helps states develop payroll deduction IRA plans that don’t run afoul of the Employee Retirement Income Security Act. As of now, eight states have created their own plans, and some require some employers to automatically enroll workers if they don't offer their own plans. On top of that, the DOL is also proposing a rule that would allow some large cities to follow suit.


VIVA LA REVOLUCION: Bernie Sanders is back in the spotlight again after launching his highly anticipated post-primary movement, “Our Revolution.” His movement is based on values on which his presidential campaign thrived - move the center of American politics to the left. The movement further helps him establish a backing to support a slew of candidates and key initiatives around the nation and in down-ballot races. But at a time when Clinton is in need of party unity, Sanders is nowhere to be found - he failed to mention her name once in his address.


SENATE SUSPENSE: The word “volatile” doesn’t even begin to describe the fight for the Senate majority this year, as the current Republican lead of 54 seats to 46 seats may soon be diminished. Democrats need a net gain of four seats if they retain the White House (the incoming veep would break the tie in that event) and five seats if Republicans win the presidential race. The best outcome for Republicans would be a scant 51-49 majority, and the worst case would give Democrats an edge of 52 to 48. In short, the Senate may end up tied 50-50. Two hotly-contested seats to watch are held by Republican incumbents: Senators Kelly Ayotte (NH), and Pat Toomey (PA) who are both trailing by 1-3 points. IN will also be a nail-biter, where an open Republican seat is up for grabs, and former Democratic Senator Evan Bayh is leading in his comeback quest.


DÉJÀ VU ALL OVER AGAIN?: What happens if the Fed raises rates? Our view is they would be tightening monetary policy into an economic slowdown. What does that mean for markets? Well, yields at the short-end of the Treasury curve should go up. Meanwhile, because U.S. growth is slowing, yields at the long-end of the curve should go down. In other words, the 10yr/2yr Treasury yield spread compresses. That would hurt bank profitability. So expect bank stocks to take a hit. Another market bugaboo to watch: Tightening monetary policy would likely cause the U.S. dollar to go up, inducing commodity deflation (oil in particular) and debts priced in dollars. This is what happened in December when the Fed first hiked rates and stocks sold off significantly. Remain vigilant.


NOTE: We’re taking a publishing break next week, but will be available should you have any questions or just need therapy resulting from the long, hot political summer. Back the week of Labor Day.  


Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.46%
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The Big Joke: Animated Cartoon Nails Squirrely Fed

In this excerpt from The Macro Show, Hedgeye CEO Keith McCullough explains why Fed policy is a joke (with a little help from our incomparable cartoonist Bob Rich). 

TIF | Bad Cocktail

Takeaway: 2nd worst comp in retail. No strategic plan to win back the customer. We’d short on strength.

This quarter had all the makings of a bad cocktail. The garnish was pretty – demonstrated by the 17% headline EPS beat, 12% sequential improvement in the EPS growth rate, and maintained guidance for the year. But the event itself lacked any substance that would shake us from our bear case. Heck, the comp itself was just shy of toxic, and at -9% in constant currency is good for the second worst comp in all of retail behind only Stage Stores – consistent with what we saw in 1Q16 when TIF ranked 2nd on the list of worst performing retailers behind Lumber Liquidators. That’s not an enviable list.


We get that the stock is hated, but we still think there is a lot of hope embedded in this name at current levels. Here’s what’s currently assumed in Street expectations and our pushback…

  • Comps will inflect to positive in 4Q and beyond. Comps do get sequentially easier throughout the year, but if you’re looking for a way to play the ‘easy weather compares’ this isn’t the story. That is unless TIF has a Flagship in Arendelle that we're not aware of (Arendelle = the magical land of Frozen fame). Plus, the macro backdrop from a demand perspective continues to erode – that’s confirmed by every metric we track including US Luxury Spend, high-end watch exports, and foreign tourism flow.
  • Margins will stabilize. TIF has some positive benefits working in its favor on the gross margin side from input costs, and the company won’t compete on price keeping merch margins relatively stable. That’s the positive. On the negative side, the company pulled the SG&A parachute this quarter and continues to operate in the status quo. That means no tangible investment plan to invest in all the right places to make the ‘Little Blue Box’ cool again in the eyes of the core consumer. The lack of that investment, we think will translate to a sluggish top-line in the near and long-term and margin deleverage.

That gets us to a -2% EPS CAGR over the next three years vs. the street at 10%. Even if we’re wrong, and the Street’s numbers prove out, we think you’re looking at a best case 20x multiple on $4 bucks next year, good for 10% upside. If this call plays out the way that way think it will, we’re looking at 40% downside or stock in the mid-40s (mid-teens multiple on $3.20 in EPS). We’d short on strength.


TIF | Bad Cocktail - 8 25 2016 tif earn table



Additional Callouts From The Quarter


Comps Weak, US Slowing

Comps missed for the 4th straight quarter coming in about 100bps below the street.  As expected, soft demand and macro headwinds continue to pressure the US as the Americas C$ comp slowed on a 2 year basis, now running at a negative MSD rate.  We expect comps to continue to be soft as the issues of tourist traffic and luxury demand, which we highlighted in our previous note (below), show no signs of abating.

TIF | Bad Cocktail - 8 25 2016 TIF Am Comp


Gross Margins Beat as Expected

About 1/3 of the EPS beat came from gross margin outperformance, though they were actually in line with our expectations.  TIF continues to benefit from lower product costs as commodity price drops flow to the P&L from inventory, and TIF is seeing a bump from international price increases last year which were implemented in order to offset Fx presssure.  Product costs should continue to be a tailwind with cheaper diamond prices hitting the income statement in 2017, however in the back half TIF will lap last year’s price increases meaning gross margin expansion should be much more muted than 1H.


Pulling SG&A

2/3 of the 17% headline EPS came from lower SG&A spend in the quarter, as TTM SG&A per store hit the lowest levels we have seen in over 5 years. Lower investment today = lower demand in the future.   If TIF wants to meaningfully accelerate the top line it needs a significant capital spending plan to reinvigorate the brand, which would ultimately mean a reset to margins and lower returns on capital. 

Look to the near-term, FX is inflecting to an SG&A headwind in the back half while also working against tough compares, so even if TIF continues to underspend, we expect SG&A growth to meaningfully accelerate into year end.

TIF | Bad Cocktail - 8 25 2016 TIF SG A


Below is our prior note from 8/24/16


We’re comfortable with the TIF short headed into earnings on Thursday. To be clear, we wouldn’t press it, as the name has a lot of the style factors that we tend not to like into a newsy event. Namely peaky short interest at 13% of the float, hittable expectations with the street looking for a -8% comp deleveraging into -16% earnings growth, and management’s penchant for beating low-bar guidance. Despite 2016 EPS expectations coming down by $1.50 to $3.59 the company has a 67% batting average when it comes to manufacturing beats.


Over a slightly longer duration, we think expectations for the current year still need to come down by at least another 5%, as all the work we’ve done suggests that the tourism/luxury headwind and simply weak demand for TIF products hasn’t improved – at all, really – which is an absolute must if the company wants to hit the positive comp bogey currently embedded in street models for 4Q. Then we fast forward to 2017, and we’re looking at $3 in earnings power vs. the street close to $4.


If we’re right on the model, we think that $3 in earnings power will translate to a mid-teens earnings multiple which gets us to a stock in the low $40s good for 35%-40% downside from current levels. If we’re wrong and TIF recognizes the benefit from 2yrs of easy compares, a better luxury demand equation than we currently see shaping up, and finds some way to become ‘cool’ again with a younger demographic, then we think we are looking at best-case a 20x P/E on $4 in EPS = $80 stock. That’s $11 upside, and $27 down. We like the risk reward on a tail duration, with the macro back-drop not doing TIF any favors.


Additional Considerations:


Luxury Bucket Just Went Negative

Real luxury spending, as we measure it (Pleasure Vehicles and Watches & Jewelry PCE), went negative in May for the first time in 5 years and the June number continued the downward slide. Historically, comp sales for TIF have generally followed this luxury bucket directionally. But we’ve seen a meaningful bifurcation in the trend starting 18 months ago. We think that speaks to the company’s competitive positioning and general lack of demand for the product offering. With luxury demand headed into negative town, we think it adds an additional kicker to the TIF demand equation.

TIF | Bad Cocktail - 8 24 2016 TIF chart2B


Swiss Watch Trends Signaling Weakness

The Swiss Watch Exports numbers are the best indicator that we can find to gauge the global demand for luxury items – particularly jewelry. Of course, watches have their very own demand constraints and TIF is underexposed to the category – but we'd argue that the iWatch, FitBit, and other connected fitness wrist wear don't compete with items priced above $3,000. That price range posted a -17% growth rate in 2Q, good for a 550bps deceleration on a 2yr basis.

Looking at the trend in TIF comp sales vs. the global Swiss Watch exports numbers paints a pretty tight correlation between the two metrics. Watch exports slowed significantly in 2Q, while the current comp expectation for Tiffany is looking for a slight inflection.

TIF | Bad Cocktail - 8 24 2016 TIF chart3


Tourism Has Not Hit Bottom

When things started to turn south for Tiffany, management quickly pointed to the weak international consumer demand that was inflicting a great deal of hurt to companies with high US tourism exposure. The general sentiment seems to be that the tourism headwind is starting to roll off. However, if we look at the actual trends in international visitation and commentary by companies during this earnings season, we can see that international tourism visitation to the US is hitting new lows at 1.3%. That’s off from 5.2% last year. The punchline is that the tourism headwind isn’t going away anytime soon – during the last notable deflationary period (08/09) visitation slowed from +13% to -7%.

TIF | Bad Cocktail - 8 24 2016 TIF chart4


In addition, beyond the slowing US visitation trend is the total spending impact that visits and FX fluctuations have on the spending power of international tourists. The chart below shows the YY change in spending power on a TTM basis. For this analysis, we assumed a value of spending per visit that varied based on where the visitor was traveling from, and adjusted this value based on YY changes in FX rates with the dollar. Spending power remains negative at -2.7%, with the 2 year average hitting new lows. Keep in mind that any discretionary portion of spending is being compressed significantly more. By that we mean, assuming a visitor uses a constant trip budget year over year, the change in currency conversion flows predominantly to the discretionary spend, since the fixed pieces (hotel, ground transport, food, etc) will not get cheaper in USD. Retailers annualized the start of the 2015 FX tourist issues about 6 months ago, but tourist spending power shows no signs of rebounding both in our math nor in retailer commentary. For TIF – who has global exposure, the "easy" tourism compares in the US don’t mean the same thing that it does for a company like M, as we think TIF has benefited from shifting travel patterns in some of its international markets.

TIF | Bad Cocktail - 8 24 2016 TIF chart5


FX Inflecting to Topline Tailwind

FX should be an ever so slight drag on revenue in 2Q. However, on the positive side, after 7 quarters of FX hurting the revenue line, this quarter marked the inflection point where currency could start to aid growth in USD (assuming constant FX rates from now). This is mostly due to the 12% rally in the Japanese Yen over the last 6 months, while the Pound and Yuan continue to be a drag. Yet with C$ comps currently running in the negative high single digit range, a couple point bump from currency will likely not be enough to put reported comps into the black.

TIF | Bad Cocktail - 8 24 2016 TIF chart6B



TIF had one of the worst SIGMA moves in retail in 1Q, and a bearish set-up for 2Q. For the average retailer, this is very negative for margins, but due to the nature of luxury jewelry production and sales, TIF historically has had no problem holding extra working capital with inventory days at 612 – the highest in all of retail. As a luxury brand Tiffany also does not compete on price to boost the top-line nor will it compete away margin benefits resulting from lower product costs.  As cheaper metals continue to flow through to the P&L, we expect gross margins to surprise to the upside. And 2017 margins will continue to see product cost benefits as diamond price decreases start to flow through as well.

Marketing spend was high in 2Q of last year with capital deployed backing Tiffany's "Will You" campaign. Tiffany now gets to lap that so we are expecting SG&A growth to be muted in 2Q.  Lastly, since FX is no longer a revenue headwind, so goes the SG&A tailwind that was once as much as a 5% offset to reported SG&A in mid 2015.

TIF | Bad Cocktail - 8 24 2016 TIF chart7

Cartoon of the Day: Fed-Induced Hyperventilation

Cartoon of the Day: Fed-Induced Hyperventilation - Jackson Hole cartoon 08.25.2016


The epidemic that's sweeping over Wall Street has been officially dubbed by physicians, "Fed-Induced Hyperventilation."


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