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Steiner: Market Risks Significantly Exceed Reward

Hedgeye Financials analyst Josh Steiner highlights the most significant economic threats right now and says that market risk is exceeding reward.

 

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EVENT | CERN Black Book Presentation

Thursday, September 15th at 11:00AM ET

 

Watch live below.

 

CLICK HERE to access the audio-only replay.

 

Please contact sales@hedgeye.com to access the associated slides.


P | Just the Bad (Business Update Call)

Takeaway: Today's announcement skewed slightly negative, but the key takeaway is that P's new cost structure favors the the sub model even more now.

KEY POINTS

  1. JUST THE BAD: In short, P was only able to offer us disappointing headline economics of its new deals without any real color on what it’s getting in return for offering these concessions.  That and it has only struck deals with 2 out of 3 major labels; there’s no timetable for when/if it will ink deals with Warner Music Group.  While we suspected P needed to give away a lot to get these deals done by year end, the headline economics were worse than we were expecting.  Most notably, P’s ad-supported content costs (Ad LPMs) are stepping up from a reported $30.65 in 1H16 to ~$33 moving forward.  In exchange, P will be receiving additional functionality on the ad-supported product that should also create more ad inventory.  Regarding the subscription model, P is expecting content costs in the range of 65% to 70% of revenue (consistent w/ Spotify), but that applies to the entire sub portfolio, which is also a step-up on its current offering that we estimate has content costs in the range of 50% to 55% of revenue.  Once again, P will be receiving additional sub functionality in return, but was unable to tell us what that will be.    
  2. SUB OR BUST? The ad-supported model is now even more expensive to run under these new terms, and while the additional functionality/ad inventory is a positive, monetizing that model has always proved difficult since it’s largely headcount (sales rep) dependent.  In short, the ad-supported model now just costs more without any guarantee of improved monetization.  That said, the economics of P’s model favors the subscription model even more now.  The question is how much mgmt will prioritize that model moving forward.  While the longer-term opportunity really depends on how aggressively P chooses to go to market with its expanded sub portfolio, a key tenet of our long thesis is that P really doesn't need that much conversion in the initial year post expansion to move the needle given how poorly the ad-supported model is monetized.  That said, we're comfortable staying long the initial year of the expansion, especially since we suspect take-out speculation/activist pressure to backstop any fundamental mishaps along the way.  

 

For more detail, see the note below and/or let us know if you would like a copy of our P Blackbook deck & replay.

 

Hesham Shaaban, CFA
Managing Director


@HedgeyeInternet  

 

 

P | New Best Idea (Long)
08/16/16 03:54 PM EDT
[click here]

 

 

 

 


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Hanesbrands: Best Idea Short Conference Call | $HBI

Editor's Note: Our Retail team is hosting a Best Idea short call on Hanesbrands with institutional investors today. Email sales@hedgeye.com for more info.

 

Hanesbrands: Best Idea Short Conference Call | $HBI - z hbi

SOME KEY DISCUSSION POINTS:

  • Hanes has top share in a slow growth category.
  • Feeling competitive pressure at high-end (Tommy John, Under Armour, Lululemon) and low-end (Gildan) = negative organic growth. The latter is particularly under-appreciated.
  • Capacity utilization at owned factories is at peak (90%+). People do not realize this as it is not readily disclosed.
  • Margins at peak 15.5% -- higher than Nike (not a direct competitor, but the comparison is telling). Trough margin  is 8-9%. It will see that level again.
  • As growth slows, doing deals at peak earnings and multiples to goose perceived/reported growth.
  • Latest deal is a non-scalable underwear company in Australia. They don't have our call that Australian economy faces a massive headwind as consumers run out of financial assets to draw upon to fuel consumption.
  • HBI takes more special charges than any company we've seen in retail. Strips out all investments to take up margins and get management paid.
  • Management selling/stepping down.
  • $5 upside, $15 downside.

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory

Takeaway: Risk appetite gauged by international equity trends is bordering levels seen in major drawdowns in '11 and '08

Editor's Note: Below is a complimentary research note originally published last week by our Financials team. For more info on our institutional research email sales@hedgeye.com.

 

*  *  *

Investment Company Institute Mutual Fund Data and ETF Money Flow:

In early March of this year, international equity mutual funds began to lose favor rapidly. Over that period, the category's 52-week moving average has collapsed from +$2.0 billion to -$112 million per week, including the most recent week's -$1.7 billion outflow. There are only two prior periods on record where the rolling 52 week moving average has gone negative in an indication of receding risk appetite, mid-2008 and early 2012. International equity funds have been a bedrock of diversification by financial advisors, as over the past 25 years, the best performing stock market annually has been outside of the U.S. We are extremely cautious on trends in the active management industry as International Equity is a high fee product and has been offsetting even weaker trends in domestic stock funds. 

 

In other categories, domestic equity funds lost another -$3.8 billion and total bond funds gained +$1.3 billion. In ETFs, equities gained +$320 million but were outpaced by fixed income's +$2.3 billion inflow. Finally, investors pulled -$11 billion from money market funds.

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - z chart baby


[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI1

 

In the most recent 5-day period ending August 31st, total equity mutual funds put up net outflows of -$5.5 billion, trailing the year-to-date weekly average outflow of -$4.1 billion and the 2015 average outflow of -$1.6 billion.

 

Fixed income mutual funds put up net inflows of +$1.3 billion, trailing the year-to-date weekly average inflow of +$3.0 billion but outpacing the 2015 average outflow of -$475 million.

 

Equity ETFs had net subscriptions of +$5.8 billion, outpacing the year-to-date weekly average inflow of +$339 million and the 2015 average inflow of +$2.8 billion. Fixed income ETFs had net inflows of +$1.0 billion, trailing the year-to-date weekly average inflow of +$1.8 billion and the 2015 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 2015 and the weekly year-to-date average for 2016:

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI2

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI3 2

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI4

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI5

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - 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.

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI12

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI13

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI14

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI15

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - 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 2015, and the weekly year-to-date average for 2016. In the third table are the results of the weekly flows into and out of the major market and sector SPDRs:

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI7

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI8



Sector and Asset Class Weekly ETF and Year-to-Date Results: In sector SPDR callouts, investors redeemed -4% or -$308 million from the long duration treasury TLT ETF.

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - 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.

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI17

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI18



Net Results:

The net of total equity mutual fund and ETF flows against total bond mutual fund and ETF flows totaled a negative -$2.0 billion spread for the week (+$320 million of total equity inflow net of the +$2.3 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 -$5.1 billion (negative numbers imply more positive money flow to bonds for the week) with a 52-week high of +$20.2 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.)

  

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - 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:

 

[UNLOCKED] Fund Flow Survey | Foreign Funds In Major Drawdown Territory - ICI11 



Jonathan Casteleyn, CFA, CMT 

203-562-6500 

 

Joshua Steiner, CFA

203-562-6500

 

Patrick Staudt, CFA

203-562-6500







NFIB = Not For Impartial Bulls

Takeaway: Small Business Confidence = Past Peak. Small Business Lending = ↓, Small Business Profitability Pressure = ↑

Small Businesses represent ~99% of total U.S. Employer firms, ~50% of total Private Sector Employment and ~60% of net private sector hiring on a monthly basis. 

 

While a fair amount of air time has been given to the post-crisis retreat in entrepreneurship and business creation, the trend in small business hiring, confidence and investment spending remains critical to aggregate trends in employment and economic activity.  In short, it still matters.     

 

That’s the contextual preface, here’s a quick update and some rumination on this morning’s August data:

 

 1Q15 = The Peak:  Small Business Optimism fell -0.2 pts sequentially August with Hiring Plans (-3pts), Outlook for Business Conditions (-7 pts) and Sales Expectations (-2pts) leading the retreat. 

 

While the YTD trend has been muted and largely uneventful – oscillating in a 2-pt range between 92.5-94.5 – the larger Trend has been one of conspicuous slowdown.  As the first 3 charts below illustrate, Business and Consumer Confidence both peaked concurrently in 1Q15 and have subsequently failed to breach to new highs.

 

As we’ve highlighted, when viewed in the context of the temporal procession of macro fundamentals, the peaks in consumer and business confidence come as little surprise: 

 

2H14: Income Growth, Corporate Profits and SPX Margins Peak --> 1H15: Employment Growth, Consumption Growth, Net Domestic Investment, Forward Multiples, Business Confidence and Consumer Confidence Peak  -->  2Q/3Q15: Global Equities Peak

 

NFIB = Not For Impartial Bulls - NFIB LT

 

NFIB = Not For Impartial Bulls - U of Mich Confidence LT

 

NFIB = Not For Impartial Bulls - Conference Board Confidence

 

NFIB = Not For Impartial Bulls - Confidence Table

 

 

Small Business Lending ↓:  Small Business lending volumes dropped -12.7% MoM in July according to the latest Thomson Reuters/Paynet Small Business Lending Index.  At an index reading of 121.5, this represents the slowest pace of small business lending activity in almost two years outside of the peak growth/deflationary angst print in January. 

 

Functionally, the slowdown in lending activity can come from tighter lending and lower credit availability, decreased demand or some combination of the two. 

 

The Trend decline in Small Business Optimism and the continued deceleration in small business hiring support a demand side explanation.  But with Small Business Deliquency rates demonstrating a fledgling negative inflection and loan standards for C&I and CRE loans across large and medium size firms showing a multi-quarter tightening according to the Fed Senior Loan Officer Survey (See: Tightening Trifecta | 3Q16 Senior Loan Officer Survey), some emergent constraint on the supply side is also not unreasonable. 

 

Regardless of the supply/demand delineation, the growth implications are the same as ↓ lending = ↓ Spending/Investment = negative drag on growth …. And, at some point, feeds back negatively on hiring decisions.

 

NFIB = Not For Impartial Bulls - Small Business Lending

 

NFIB = Not For Impartial Bulls - Small Business Delinquency Index 

 

Jobs Hard to Fill = Cycle High:  The NFIB Jobs Hard to fill Index made a new cycle high of 30 in August.   The challenge of finding qualified applicants has been a defining characteristic of the current expansion and one that has continued to build alongside declining labor supply and a growing spread between Job Openings and actual Hires.     

 

There a couple of interesting potentialities that follow from this imbalance. 

  1. If employers do find qualified applicants, it’s likely that they will have to pay up for them. 
  2. If employers fill those positions with applicants who don’t possess the requisite skills, its likely they will still see some modest labor cost pressure give diminished labor market slack. 

Given that the ability to find qualified applicants is apparently getting worse while the aggregate supply of available workers continues to decline, it’s unlikely the imbalance resolves (at least fully) via scenario A.

 

An obvious implication of Scenario B is that hiring people who don’t know how to do the work will not be particularly supportive of productivity – which is currently in its worst streak in 4-decades - or profitability, which remains in one of the worst non-recessionary runs of contracting earnings ever.

 

Whether that supply-demand-price dynamic does, in fact, characterize the future state of the labor market is an open question but some version of it is not an overly improbable scenario and the profit dystopia associated with it is evident. 

 

Recall, aggregate nominal earnings growth has been running at a premium to nominal output growth.  And if your largest input cost is growing faster than your revenue, the earnings outlook can only be so rosy.  At currently prevailing demand and productivity levels, ongoing labor market strength will continued to be paid for via declining corporate profitability.

 

NFIB = Not For Impartial Bulls - NFIB Jobs Hard to Fill

 

NFIB = Not For Impartial Bulls - NFIB Hiring Plans

 

NFIB = Not For Impartial Bulls - Emplyment by Firm Size

 

 

 

Christian B. Drake

@HedgeyeUSA

  


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