Most of management’s commentary was a repeat of what we heard on the company’s fiscal 1Q10 earnings call about three weeks ago.  Management did say that it is still comfortable with its 2Q10 same-store sales guidance of -8% to -10% at Jack in the Box.  In response to a question about the competitive landscape, CEO Linda Lang stated that she thinks the industry will see some immediate relief on the discounting front when BKC removes the dollar double cheeseburger from its menu in mid-April.


Similar to the company’s earnings call, management spent at least the first five minutes of the presentation (and more time later) outlining all of the macro issues that are facing the company rather than talking about any company-specific issues.


Notes from the presentation:


One of the key aspects is unemployment

  • Especially at breakfast
  • Food prices dropping at grocers
  • 2009 was weakest year commercial food service industry has experienced in 30 years
  • Discounting has increased sharply

 Cost structure being improved

  • G&A initiatives

 Regional concentration is exacerbating effects of unemployment on JACK

  • Texas, California both terrible markets

 Demographics also unfavorable

  • Young males, Hispanics are struggling

 Customer base skews 1/3 more Hispanic than competitors




  • Texas has caused slowing of sales from Q4 to Q1
  • California has stabilized (rate of decline has stabilized)
  • Guidance unchanged

 Discounting among big players

  • Bar and Grill has begun to encroach on price point for premium QSR products and may be creating a trade up effect
  • Prices for food at home are experiencing deflation


  • Adjusted marketing plans to better respond to market conditions
  • Reallocation of media spend to reach multiple consumer markets…hmmm
  • New products and platforms


  • Rolling out new menu, “Craft two”
  • Mix and match menu and compelling price point
  • Also more for kids
  • Trends improved through quarter although down for the quarter as a whole

 Refranchising strategy

  • Number of restaurants being refranchised was 194 in 2009
  • Franchise ownership is at 46%, going to 70-80% for FYE 2013
  • Expecting to pass 50% mark in 2010
  • Proceeds were 116.5m and gains were 78.6m in 2009
  • Q1 gains so far were 408k per restaurant


  • 42% of system units in California
  • 28% of system units in Texas
  • 26% of company units in California
  • 30% of company units in Texas

 Capital expenditures

  • Refranchising strategy and completion of reimaging should bring capex down to 110m per year from 2013 onwards

 G&A excl advertising

  • G&A as % of system sales has been decreasing
  • 2006 to 2009 decline was 120 bps
  • In 2014, fully franchised, should be at 3.5% (5.2% in 2009).
  • Most of peer group are in 3-4% range

 Share repurchases

  • 750m returned to shareholders over last 5 years
  • 40m in Q12010

 Debt repayment schedule is expected to be light



  • Movement from company owned to franchise model
  • Continued expansion for Jack in the Box beyond 18 states
  • Growth of high ROI Qdoba
  • Growing FCF


Q: Are you seeing any change in consumer spending/behavior?

A:  We are seeing a lot of stabilization in California. Believe our sales have hit a bottom in California.  Rate of decline has stabilized…ambiguous…higher end retailers are seeing improvement, hopefully that trickles down. Our consumer base will be the last to go back to jobs and come back

Q: Market share in CA?

A: We don’t believe that we have lost share but it has been a shrinking pie.


Q: Macro environment implies that JACK’s customer is typical for QSR, over-indexed to Hispanics perhaps, but brand has been positioned up.  Is premium positioning working against you in the near term?

A: Promotional offerings are there.  We’ve had to run concurrent premium and value products whereas beforehand we did not need to do that. We’ve had to bring down price point of premium products through recipe-ing and portion sizing (making margin-friendly products at compelling prices)


Q: Capex degradation seems understated given the level of refranchising?

A: A good portion of the capex is related to planned new store openings and a resumption of spending on Qdoba.


Q: You’ve had a strategy of opening new markets with the intent to franchise them. How many markets are you “seeding”?

A: New contiguous markets are our target.  AUV’s in these markets outperform new stores in existing markets. Denver could be an example. In Corpus Christi we had an opportunity to show that AUV’s were attractive there and then sell the location to a franchisee.


We do have new markets that are franchise developed. Colorado Springs, Albuquerque…


More challenging to get financing so seeding strategy helps


Q: Health of franchisee system?

A: Very, very good. Growing franchisees. Average franchisee now has 10 units vs. 4/5 units a few years ago. Focus on taking costs out of the business has helped franchisees.


We sold 194 restaurants last year when people didn’t think we could sell 150. The aim for this year is 150-170.


Q: What about franchisee in Texas?

A: We sold restaurants in Texas last year and continue to do so this year. It’s a 20 year deal, not just looking at this year.  These restaurants are projected to provide attractive cash flow over the next 20 years.


Weather has impacted sales in Texas, also lapping reconstruction-post-hurricane sales figures.  Operators in Texas remain positive.


Q: Where will operating income and cash flow go with refranchising?

A: Bringing down G&A cost. Much less maintenance capital going forward. EBIT margins will improve and we’ll give guidance on that in the not too distant future.


Q: If you were 100% franchised, you’d get 5% royalty less 3/4% of G&A, ex rent?

A: Yes but we’d have less G&A.


Q: Level of discounting seems to be moderated in FSR. Any indication of this following suit in QSR?

A: BKC going off dollar double cheeseburger will bring improvement in April


Q: What did you finance last year in terms of the 194 stores and has that changed in the last 7/8 months in conversations with franchisees?

A: 22 million worth of financing support last year.  A “good portion” of that is repaid. 1Q has seen $12m range of support for existing franchisees.  Less requests for assistance as we’ve moved through 2009 and into 2010


Q: Qdoba, how it fits in company.

A: we were looking for a concept with strong consumer appeal. Not geographically concentrated, strong management team.  Fast growing segment.  May look to divest at some point. 


Q: Capex..

A: When we get to 110 figure, we will continue to invest in new restaurants and expect a return on that cash. 


Q:  What will you do with excess FCF?

A: funding new restaurant growth of perhaps another Qdoba-esque acquisition at some point and of course returning cash to shareholders.



Management commentary on business performance and prospect


MCD has advantages in its scale, brand, and family fun elements.


In 2010, three areas to focus on

  • Menu
  • Service
  • Reimaging


  • Expanding demand in beverages and desserts
  • Value at all price tiers
  • Extended hours and better service
  • Service times are better since rolling out McCafe, aided by POS

Global up-to-date brand on the move

  • Updating interiors and exteriors of the restaurants
  • Of 2.4bn capex plan, 50% is reimaging (reimaging 2,000 restaurants in 2010)
  • New restaurants  - 1,000 in 2010



U.S. was 45% of consolidated sales in 2009

  • 2009 comp sales up 2.6%
  • Operating income increased 6%
  • QSR market share of 14.5%
  • In January launched McSnack wrap – snack version of Big Mac. Fits well into growing snack daypart.
  • Breakfast dollar menu, voted in by franchisees, gives MCD a national voice on breakfast

McCafe coffee has worked well

  • Coffee sales increased 25% in 2009
  • 3m cups per day
    • More than 5% of total U.S. restaurant sales
  • Rolling out frappes and fruit smoothies
  • Frappes rolling out nationwide this spring
  • Smoothies nationwide in the summer


  • Free WiFi makes MCD the largest venue for free WiFi in the country
  • POS cash registers
  • Drive thru displays

Reimaging is key

  • 50% of U.S. base have interior remodeled image
  • Even fewer have exteriors that are enhanced
  • 2010, more than 400-500 reimages in the U.S., 150 new sites
  • Sales increases for remodels in U.S. have been 6-7% higher than for those that were not remodeled



Europe was 38% of consolidated operating income in 2009

  • 5.2% comp store sales
  • 8% operating income
  • 4.3% in Jan, 5.4% in Feb
  • 2009 informal eating out category market share grew
    • 3 tier menu platform
    • Low price
    • Core
    • Premium
    • Value at every level
  • Enhancing fourth tier
  • Expanded “p’tit plaisirs” in France and fourth tier in UK
  • Snack Deluxe lineup in Germany
  • In Germany, expanded breakfast lineup and it is yielding solid results
  • Media support in UK helped highest breakfast sales ever
  • Espressos are very important in European markets
    • All 1,600 restaurants in Europe have premium coffee available
    • Either via counter or McCafe
    • McCafe has been expanded across Europe
    • 1300 McCafe’s in Europe by end 2010
  • 260 new restaurant openings in Europe in 2010

Reimaging program is critical

  • By end of 2011, more than 85% of European interiors will be reimaged
  • Major remodels increase sales 6%


APMEA was 14% of 2009 consolidated operating income

  • Comparable store sales up 3.4%
  • Operating income up 23%
  • Given economic climate, working to make sure menu and value initiatives are compelling
  • Australia seeing much success with Angus burger
    • Jan comp sales +4.3%, Feb 10.5% in Australia
  • MCD breakfast available in 19 countries in APMEA
    • 13% of sales in restaurants where breakfast is offered
    • Breakfast is 25% of restaurant sales in U.S.
  • Closing 430 lower performing restaurants in Japan
  • Australia has reimaged nearly all free standing restaurants



MCD continues to keep the brand compelling to customers.  Companies combined operating margin grew 900 bps since 2005. U.S. and Europe grew by 500 bps over the same period.

  • Goal is to continue to improve operating margin
  • Track record of comp sales growth (82 consecutive quarters)
  • G&A control, disciplined operations, supply chain efficiencies
  • Strong owner operator and franchisee base
    • Locally relevant brand
  • Last few years saw more than 1,000 refranchised
  • Worldwide system is 81% franchised

2009 consolidated Return on Invested Capital stood at 20.9%

  • U.S. 24.6%
  • Europe 20.7%
  • APMEA 21.3%

Predictable cash flow and strong balance sheet allow a strong return of cash to shareholders


16.6bn returned to shareholders from 2007-2009 through repurchases and dividends.

  • $2.20 per share annualized dividend is more than triple the 2005 amount
  • First priority is to reinvest in the business. Above that, MCD will continue to repurchase and pay dividends

Important Q&A points:


Q: Average Check?

A: Average check for 2010 YTD has been stable compared to prior year.  Dollar menu hit a little but then we expect that average check comes back


Q: Can you explain the discrepancy between operating margins in developed markets – U.S. vs Europe?

A: Operating costs in Europe are higher. Rent, occupancy, labor are the main differences


Q: U.S. Comps ex weather have picked up? change in consumer behavior in US?

A: not really, more breakfast activity but nothing significant in terms of rate of growth


Q: How much of beverage guidance is smoothies and frappes?

A: Haven’t broken down the guidance of 125 by product. Expect them both to be big drivers. Dollar menu breakfast was about regaining traction and bringing customers in (TC’s).


Q: How important is couponing?

A: In some markets customers are conditioned to use coupons but we find that every day predictable value is a more successful tactic but in markets where it is prevalent we will do it


Q: What % of total revenue is drive thru?

A: 66% of sales in US. Only 66% of restaurants in Europe have drive through, and of those that have it, 45% of those restaurants’ sales are drive-thru. There is an opportunity to expand drive through in Europe and APMEA.


Q: Where do you expect an upturn in consumer spending?

A: Hoping it’s everywhere. Asia is where we’re seeing consumer confidence at lower levels (China and Japan). In Europe, Germany is the most price sensitive consumer, confidence levels really affect traffic.


Q: Competitive environment, race to bottom, in 2010?

A: We put the dollar menu up back in 2003. Didn’t have to react to deteriorating economy because we had an every-day affordability strategy. Did evolve it to bring breakfast in. Virtually all of the restaurants had breakfast value strategies in place but we needed a unified voice at breakfast.

Don’t see dollar menu dramatically expanding or shrinking.


Q: Taking price in 2010?

A: commodity costs in 2010 are going to be pretty benign. Consumer prices are holding fairly well. Don’t see a tremendous opportunity to take price. Typical year of 2/3%, this year will be something less than that. In this cost environment that won’t hurt us. We’ll be ready to take price when the opportunity arises.



Howard Penney

Managing Director

R3: Cotton’s Ugly Head


March 10, 2010


In 2H US retail needs to bank on a stronger consumer – we all know that. But now the ‘Cotton Factor’ is rearing its ugly head. Prices over $0.80/lb today impact margins 9+ months out. Mind your modeling assumptions. Not all companies are created equal.





2H US retail needs to bank on a stronger consumer – we all know that. But now the ‘Cotton Factor’ is rearing its ugly head. Prices over $0.80/lb today impact margins 9+ months out. Mind your modeling assumptions. Not all companies are created equal. 


Many retailers and manufacturers are expecting sourcing costs to rise over the second half of the year due to a confluence of factors.  While tougher comparisons against last year’s substantial cost declines is one reason, below the surface there are additional factors looming.  On the obvious side of things, fuel and subsequent freight costs are up.  On the less obvious side of things are material cost inflation.  Take a look at the recent spike in cotton since the new year:


Global production remains stressed and at historically low levels with the U.S. cotton crop estimated at 12.0mm bales (3% below 2008 levels) and India’s output under pressure because of drought conditions.  Furthermore, the big move last week came after China stated its 2009 crop fell by 14.6% last year. With U.S. stockpiles low and China (world’s largest consumer) continuing to run a substantial deficit, prices continue to head higher as exports increase.  A recent statement from India’s textile ministry highlighted that exporters have sought permits to ship 3x more cotton in February compared to the same time last year.  Additionally, concerns over supply shortages beyond April are also contributing to further tightening in the global market.


As cotton prices test the prior highs of early 2008, current factors suggest that we are likely to see demand continue to outstrip supply in the near-term and prices may still be moving higher from here.


This is when you need to give credit to those companies that have defendable positioning in the supply chain (NKE, RL, UA, WMT, etc…), and questioning 9-12 month modeling assumptions for those who lack any semblance of pricing power (JNY, GIL, HBI, VFC, GIII, etc…).


R3: Cotton’s Ugly Head - Cotton Futures Chart




  • Dick’s Sporting Goods management noted that it expects to see product costs increase over the second half of 2010, but that it hasn’t been able to fully quantify the impact at this point. On its private label and direct sourced product, management expects to pass on higher costs leaving gross margins unaffected. 
  • Kroger management believes the promotional environment remains very aggressive, but it is no longer getting more aggressive. As a result, management believes the environment is now a little more predictable. 
  • Despite a recent pick up in same store sales at Neiman Marcus, management is not planning any meaningful store growth in the near to intermediate term. With the exception of one new store opening in Spring 2012, the pipeline is essentially empty at this time. 
  • Collective Brands management noted that the J. Crew/Sperry relationship has been a win-win for both parties. As a result, management believes the opportunity for its Keds/Gap partnership this Spring and Summer is also promising. If successful, this could be the beginning of a long awaited turnaround for the Keds brand. 
  • American Eagle is clearly bullish on denim. Management attributes the 8% increase in inventory at cost per foot to the increased penetration of denim in its product mix. It is also noted the “strong demand” for AE denim is the main reason for the inventory investment. This represents one of the more noticeable inventory investments across the specialty landscape. 




Foot Locker to Increase Apparel Emphasis, Expand Globally - Apparel — both private label and branded — will be a primary focus for Foot Locker Inc. over the next five years as it strives to significantly increase sales and profitability. Calling it his “coming-out party,” chief executive officer Ken Hicks, who joined the company from J.C. Penney Co. Inc. in August, laid out Foot Locker’s plan to become “the leading global retailer of athletically inspired shoes and apparel” at an analysts’ meeting at the firm’s headquarters on 34th Street in New York on Tuesday morning. The goal, executives said, is to increase sales to $6 billion from $4.9 billion in 2009; raise sales per square foot on average to $400 from $333; increase the earnings before interest and taxes profit rate to 8 percent of sales from 2.6 percent; elevate the net income margin to 5 percent of sales from 1.8 percent, and boost inventory turnover to 3 times from 2.2 times last year. Gross margins are projected to increase to between 30 percent and 31 percent of sales from 27.7 percent, while sales, general and administrative expenses are expected to fall to 20 percent to 21 percent of sales from 22.6 percent. The main drivers of these improvements are creating differentiation among the company’s divisions, which include 3,500 stores under the Foot Locker, Lady Foot Locker, Kids Foot Locker, Footaction, Champs Sports and Eastbay names; enhancing the apparel and footwear assortments, and aggressively pursuing growth opportunities both domestically and overseas.  <>


Madonna, Iconix Form Fashion Joint Venture MG Icon LLC - Madonna and Iconix Brand Group Inc. are ready to cause a commotion and dress you up at retail. The pop icon and the brand management firm will today reveal the formation of a joint venture called MG Icon LLC, which will bring multiple fashion-related projects to retail racks across America and around the world. The first initiatives under the agreement are a juniors’ line called Material Girl, which will launch exclusively at Macy’s in August. MG Icon is also close to announcing a collaboration with a designer label for a co-branded eyewear collection. “Joining forces with Iconix to bring my fashion ideas to consumers is very exciting for me,” said Madonna. WWD first reported on Feb. 16 that Madonna was in talks to launch the Material Girl collection with Iconix and Macy’s. MG Icon will be 50 percent owned by Iconix and 50 percent by Madonna and Guy Oseary, her longtime manager and the “G” in the joint venture’s name. MG Icon will develop a range of fashion-related business projects, including the creation of new brands, the acquisition of existing labels and the exploration of opportunities within the portfolio of 21 brands that Iconix and its other joint ventures already own, said Neil Cole, chairman and chief executive officer of Iconix. <>


Target Gets Set for Liberty - The Target + Liberty of London collection will be in full bloom Sunday in most Target stores. But first, the 300-item line with Liberty’s microflorals and explosive blossom prints splashed over apparel for women, men, girls and infants, as well as home products, bedding, garden tools, stationery, candles and bicycles, will be unveiled at a 5,285-square-foot pop-up shop here. The Target + Liberty of London Experience at 1095 Sixth Avenue near Bryant Park, features an indoor garden with 12,500 live flowers, green foliage covering the cash wrap and digital projections of 12 Liberty prints onto larger than life size products such as a giant tea cup and enormous umbrella, create a sensory experience. The pop-up shop is open today from 11 a.m. to 8 p.m., and Thursday through Saturday, 9 a.m. to 8 p.m.  <>


L.L. Bean will launch its new line and web site next week - Outdoor apparel and gear retailer L.L. Bean on Monday will launch L.L. Bean Signature, a contemporary apparel and accessories line along with a dedicated e-commerce site and catalog. L.L. Bean already has launched a dedicated Facebook fan page for the brand. The page, which offers fans a preview of the line’s spring collection, had 883 fans as of 1 p.m. EST. The retailer began making limited quantities of seven items from the line available on the L.L. Bean Signature web site on Jan. 19. All the items sold out within three days. <>


Container Imports to Grow 17% in First Half - Import cargo volume at the nation’s major retail container ports is expected to rise 13% this month compared with the same month a year ago, and double-digit increases are expected to continue through the summer as the U.S. economy begins in improve, according to the monthly Global Port Tracker report released today by the National Retail Federation and Hackett Associates. “These numbers show that retailers continue to anticipate improvements in the U.S. economy,” NRF VP for supply chain and customs policy Jonathan Gold said. “This is very different from the past two years when merchants were continually cutting their imports in an effort to manage inventory.” U.S. ports handled 1.08 million Twenty-foot Equivalent Units (TEU) in January, the latest month for which actual numbers are available. That was down just under 1% from December as imports wound down after the holiday season, but up 2% from January 2009. It was also the second month in a row to show a year-over-year improvement after December broke a 28-month streak of year-over-year monthly declines. One TEU is one 20-foot cargo container or its equivalent. <

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 80.45%
  • SHORT SIGNALS 78.38%


“A rising tide lifts all boats…”


SONC was the best performing stock on big volume yesterday only because the “group” was rallying (SONC has significantly underperformed the QSR group over the last 6 months).  Or maybe someone knew an analyst upgrade was coming this morning.    


Today, we learned that SONC guides Q2 system-wide same-store sales to a decline of 12-14%.  SONC attributed the decline to “unusually cold winter weather conditions combined with a decline in consumer spending in Sonic's core markets.”  Same-store sales at partner drive-ins declined approximately 15% for the same period.  There is no mention that management tried to gauge the consumer with aggressive pricing a few years ago and trends have never fully recovered since, particularly at partner drive-ins.  Time for a management change?


BKC missed by a wide margin yesterday and it moved higher too.  


Yesterday, YUM got a “vision” upgrade and a better multiple applied, in part to its US business.  The issues that BKC and SONC are seeing are not limited to those concepts.  YUM’s US business is one of the worst positioned of the large cap restaurant companies.  Taco Bell is ok, but KFC and Pizza Hut are in secular decline. 


On the full-service side, RT moved higher on better sales trends despite the weather.  Although a nearly 10% move seems extreme, short covering was likely a significant factor.  At 7.3x NTM EV/EBITDA, there does not appear to be much upside from these levels for RT. 



Howard Penney

Managing Director





I struggle with the timing on this one. WMS is probably best positioned to capitalize on the tremendous long-term potential of this sector but there is a wall of worry surrounding the near term.



From a fundamental perspective, the long-term outlook for the slot guys is bordering on incredible.  We think we are at the bottom of a multi-year (five?) cycle.  Not only should replacements trough this year in the mid 40k range – down from the peak of around 120k in 2004 - but new markets will start to contribute meaningfully in 2011 and beyond.  Normalizing replacement demand would alone boost WMS’s EPS by around 50%.  The news on new markets should continue to flow.  The states have never been in worse fiscal shape and precedent says they aren’t cutting spending.  They need revenues.


However, what's on investor's minds currently is the near-term earnings picture.  Maybe it’s in the stocks.  As of late, this group has badly underperformed.  We actually think WMS will make the quarter, although it may not be of the highest quality.  At this point, that could be good enough.  The stock trades at 17x our forward twelve month estimate, despite potential 25% EPS growth over a 3-5 year period.  The current valuation is attractive on a historical basis as well as can be seen below.


WMS: NOW OR LATER? - wms forward pe


So what could go wrong?  It’s all about timing.  For this reason I brought in the quantitative/charting specialist, Keith McCullough.  Keith says “WMS is building a base and finally climbing above its TRADE line = 38.37”.  Sounds good.  As long as the wall of worry doesn’t go any higher we should be fine.


So why WMS over the other guys:

  • WMS is capturing an increasing percentage of replacement demand which is poised to accelerate – normalizing replacements results in a 50% increase to EPS
  • WMS is the most forward looking supplier – "Transmissive Reels", Episodic gaming, portal applications, player recognition, etc.
  • We think WMS is just scratching the surface on market share gains in the Gaming Ops segment which is potentially a bigger and more profitable opportunity than ship share gains
  • WMS is entering Class II which is already material for IGT and BYI
  • There are more new markets for WMS:  Mexico and Australia to name the two biggest
  • Chicks dig WMS slots - Content is King

Motivated Illusions

“A man must learn to understand the motives of human beings, their illusions, and their sufferings.”

-Albert Einstein


One basic risk management premise that we operate with here at Hedgeye is that people lie. I know that sounds a little harsh, but it is what it is. The truth about lying is that people do it.


Some people don’t know they aren’t telling the truth. Some people don’t know what they don’t know. Some people wake up every morning and get paid to be willfully blind. The power of combining groupthink with compensation has unlimited potential, and the risk embedded therein works both ways.


Rather than create a list of liars this morning, I’ll take my queue from the college campus my office sits on and make this basic risk management lesson sound more academic. I’ll label these global macro risks Motivated Illusions:


1. Greece


Motivate Illusion: One of the top headlines on Bloomberg this morning is “Greek Financial Crisis Is Over, Rest of Euro Region Is Safe, Prodi Says.” Now this comment from the former head of the European Commission, combined with Greece’s Prime Minister telling Washington groupthinkers yesterday that Greece has been the victim of “unprincipled speculators and malicious rumors” is what it is – over the top.


Reality: After their one-week global storytelling road-show that spammed us from Germany, to France, to the USA ends, Greece will be selling another 10 BILLION Euros in debt to the marketplace. Piling debt, upon debt, upon debt is what a country who has lived through generations of serial default does. Watch what they do, not what they say...


2. China


Motivated Illusion: China isn’t going to continue to tighten monetary policy, raise the value of its currency, or raise interest rates any further.


Reality: That’s a Western view held by debtor countries that cannot afford to lose their flailing hopes that levered up Chinese demand is going to save their deficit spending. Overnight, China reported a +46% year-over-year export growth number for the month of February. That’s up huge versus an already big January export growth rate of +21%. While the entire political leadership of the Western world tries to remind you that this is still the great depression and we have no global inflation, you can read tomorrow’s pending Chinese inflation report for what it will be to the Chinese – inflationary.


3. US Federal Funds Rate


Motivated Illusion: Ben Bernanke is going to keep rates of return on his citizenry’s hard earned savings accounts (or fixed incomes) at ZERO percent in perpetuity. There is no inflation because the narrow calculation that the government has changed 9 times since 1996 doesn’t say there is any…


Reality: If we haven’t recognized that massive credit issuance and sovereign debt and currency crises, globally, haven’t led to 8 centuries of predictable inflation, please go back and re-read Reinhart & Rogoff’s “This Time is Different.” Apparently some of the boys at the Fed have been doing the required reading. Charles Evans (Fed head of Chicago) gave a speech last night and didn’t use the phrase “exceptional and extended” when talking about prospective monetary policy. Instead he said the Fed would keep rates low “for some time” and when asked after the speech what “exceptional and extended” means, he said “3 to 4 FOMC meetings.”


Call Goldman Sachs esteemed Fed forecasters this morning and ask them if that was the duration and definition they thought Bernanke’s Fed was using in defining “extended and exceptional” when Goldman laid out their forecast that the Fed was on hold until they get their 2011 bonuses. Depending on their answer, I’ll tell you who is storytelling. By the way, the FOMC meetings are 8 times a year, and by Q2 the clock on “3-4 meetings” runs out.


Markets don’t lie; people do. The score on all 3 of these Motivated Illusions is right up there this morning for all participants in this game to see:

  1. Despite rallying +2% early this morning on people hoping Prodi isn’t lying, Greek stocks have lost over -27% of their value since October 14, 2009.
  2. Despite having some of the best GDP and export growth stats in the world so far in 2010, China closed down another -0.66% overnight (down -7% YTD), because local investors realize that growth like this will be met with higher interest rates and/or an appreciated Chinese Yuan.
  3. Despite interest rate doves hoping government bonds higher, global interest rates continue to make a series of higher-lows and higher-highs.

At a point, reality gets recognized by the investors who win or lose every season by discerning who is motivated to elude them. As reality sets into Mr. Macro Market’s prices, consensus becomes the direction of those prices… and the game of trying to figure out who doesn’t know what they don’t know goes on.


My immediate term support and resistance lines for the SP500 are now 1122 and 1149, respectively. On yesterday’s rally in both US Tech and Volatility, I sold out of both my XLK and VXX positions, and I bought US Healthcare (XLV) on the pullback.


Best of luck out there today,





XLV – SPDR Healthcare — Healthcare was down again on 3/9/10 in the face of “Obamacare” inspired fear. While we fear we may be early here, it’s better than fearing fear itself.


UUP – PowerShares US Dollar Index Fund — We bought the USD Fund on 1/4/10 as an explicit way to represent our Q1 2010 Macro Theme that we have labeled Buck Breakout (we were bearish on the USD in ’09).

CYB - WisdomTree Dreyfus Chinese Yuan — The Yuan is a managed floating currency that trades inside a 0.5% band around the official PBOC mark versus a FX basket. Not quite pegged, not truly floating; the speculative interest in the Yuan/USD forward market has increased dramatically in recent years. We trade the ETN CYB to take exposure to this managed currency in a managed economy hoping to manage our risk as the stimulus led recovery in China dominates global trade.

TIP - iShares TIPS — The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield. We believe that future inflation expectations are mispriced and that TIPS are a efficient way to own yield on an inflation protected basis.



SPY – SPDR S&P500We moved to neutral (from bearish) on the S&P500 on the week of February 22. At 1139, for the immediate term TRADE, we’ll go back to bearish. This market is finally overbought. We shorted SPY on 3/5/10.  


EWP – iShares SpainThe etf bounced on 3/3/10 in part from a strong day from Banco Santander, the fund’s largest holding in the Financials-heavy (43.8%) etf. We shorted Spain for a TRADE again on 3/5 as every sovereign debt risk has a time and price to be short of. We have a bearish bias on the country; massive unemployment, public and private debt leverage, and a failed housing market remain fundamental concerns. 


IWM – iShares Russell 2000With the Russell 2000 finally overbought from an immediate term TRADE perspective on 3/1/10 and added to it on 3/2; we got the entry price that the risk manager makes a sale on strength. 


GLD – SPDR Gold We re-shorted Gold on this dead cat bounce on 2/11/10. We remain bullish on a Buck Breakout and bearish on Gold for Q1 of 2010, as a result. 


XLP – SPDR Consumer Staples Another capitulation squeeze is in full motion for the short sellers of everything "consumer". Shorting green as inflation starts to creep into the system again.


IEF – iShares 7-10 Year TreasuryOne of our Macro Themes for Q1 of 2010 is "Rate Run-up". Our bearish view on US Treasuries is implied.

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