The Great Enemy Of The Truth

"The great enemy of the truth is very often not the lie - deliberate, contrived and dishonest - but the myth - persistent, persuasive, and unrealistic."
-John F. Kennedy


Modern day Rome (Washington) has rendered itself a very sad place. When it comes to storytelling, that is…


JFK’s prescient point in 1962 may very well explain the fall of the modern day Keynesian Empire as much as it explains who our professional politicians see when they look in the mirror.  Collectively, the myths of their “pretended patriotism” can be “persistent, persuasive, and unrealistic.”


As I sat beside Bloomberg’s Deirdre Bolton yesterday, watching Timmy Geithner represent the US government’s latest storytelling to the Chinese, I couldn’t help but notice the shadows that became Mr. Geithner. Both the proverbial shadow of global doubt and the two Chinese flags enveloping Timmy’s conflicted representation of the American “truth” were ominous.


As Geithner prepares to reach the heights of hypocrisy this morning (speaking in London), here’s our version of the sad truth - America is 3-6 months away from becoming the global spotlight that is a European debtor and deficit disaster.


Remember, the math doesn’t lie; politicians do. Here the latest:

  1. Fed’s Balance Sheet: last week the Federal Reserve’s balance sheet expanded by another $14.8B on a week-over-week basis, after the Fiat Fools signed off on the Fed buying another $21B in Mortgage Backed Securities (on the week!). This puts the Fed’s balance sheet at a new sequential peak of $2.35 TRILLION dollars (Transparency/Accountability check: Bernanke said he was going to reduce the size of the Fed’s Balance Sheet)…
  2. America’s Balance Sheet: post yesterday’s $42B in 2-year Treasury issuance, the United States of America’s total debt balance has officially eclipsed the $13 TRILLION dollar mark, or 86% of projected 2010 GDP (as a reference point for sovereign debt/GDP ratios, our Managing Director of Macro, Daryl Jones, has Spain’s 2010 Debt/GDP at 69%).
  3. America’s Off Balance Sheet Liabilities: post another day in the life that has become the fictional equivalent of extend and pretend until another professional politician can hold the bag for our kids, this mother nut of debt does not cease to exist. I have recently finished reading David Walker’s “Comeback America”, so for the sake of time this morning, let’s use his estimate from 2008 of $42.9 TRILLION dollars and persuade ourselves that since Walker left working for Groupthink Inc. in Washington (he worked on these numbers for 4 presidential administrations), his estimate from almost 2 years ago is plenty conservative/low.

Now Walker calls this America’s “$56 TRILLION Financial Hole”, but the hole is actually getting deeper. That’s what happens when you keep digging in with more debt. This is the sad truth. From Hank The Market Tank Paulson to Tricky Dick Fuld, America has not learned the most important lesson of the 2008 crisis: borrowing short to fund long term liabilities heightens the probability of a balance sheet blowup. Instead of Lehman’s, now it’s America’s.


Back to Timmy being engulfed by the Star Spangled Banner’s shadow of doubt…


When Bloomberg’s Peter Cooke asked Geithner about America’s financial positioning, Timmy was quick to acknowledge that all of the aforementioned TRILLIONS of issues have the USA in a “very strong position”…


Too make things worse… the man, the myth, that would be Keynesian Legend in a Roman Empire past… went on to say that it’s the Europeans who face the “difficult challenge of trying to restore sustainability to an unsustainable system”…


All righty then…


With a calculation of the world’s most significant Debtor Nation in hand, your risk management choice this morning is clear. Believe the government or your gut. The myth that America’s deficit and balance sheet issues are not heading down the same path as Europe’s is both “persistent and persuasive”, indeed. It is also unrealistic.


I re-shorted the SP500 (SPY) into yesterday’s closing rally, and I will re-short it again on strength. My allocation to US Equities mirrors Bernanke’s Japanese style monetary policy at zero percent. After all, if you want to take their word for it – the risk free rate of return in America is actually zero. Risk free is where I want my family and firm’s hard earned incomes to be, for now…


My immediate term support and resistance lines for the SP500 are now 1047 and 1108, respectively. The SP500’s long term TAIL of support is now 1074. This powder keg of government-sponsored volatility remains.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


The Great Enemy Of The Truth - JFK


Last week I asked this question: “Home prices down, the market down, the European debacle, a massive natural disaster and the no confidence vote for incumbents is in the books.  Are you feeling any better about the world?”


Today we got our answer; according to the Conference Board Consumer Confidence Index, confidence among U.S. consumers increased in May to the highest level since March 2008.  The Conference Board's confidence index rose to 63.3 from a revised 57.7 in April, even exceeding the highest estimate in a Bloomberg News survey.  The consensus estimate was for a reading of 58.5.  According to the Conference Board pessimism is fading, as its measure of expectations surged to the highest level since August 2007. 


While the official U.S. unemployment rate rose nearer to the 10% mark in April, the Conference Board data suggest that most consumers are still holding out for better days as far as the job market is concerned. 


While consumer expectation may have improved in the month of April, it’s likely to be short lived; 


(1)    Europe's debt crisis punishing stock prices

(2)    Lower equity prices are bad for the balance sheet

(3)    Last week’s Initial jobless claims number suggests the unemployment rate is headed higher

(4)    GDP growth is slowing

(5)    Housing prices are declining (but mortgage rates are low) – Shiller says outlook “uncertain”

(6)    The gulf oil spill is depressing

(7)    “The bear market is upon us” - Keith McCullough on the Hedgeye AM call - 5/25/10

(8)    Rasmussen has Obama’s approval rating near an all time low at -20


I will be interested to see if consumer confidence can defy the gravitational pull of the factors outlined above.  The chart below shows the S&P vs consumer confidence.  Thus far, May Showers doesn’t seem to have impacted consumer confidence too much.  The Conference Board said today that May 18th was the cutoff date, meaning that the May 6th “Flash-Crash” was taken into account.  Consumer Confidence is being cited as a positive data point by the media today; while this is true, I don’t see it sustaining these levels. 


Howard Penney

Managing Director





Changing Perceptions of the Euro

Related positions: Long Germany via EWG; Short France via EWQ; Long Gold via GLD


While a common currency in Europe has been contemplated as far back as the League of Nations in the 1930s, it wasn’t until the Maastricht Treaty of 1992 that established a framework that led to the Euro’s official launch on January 1, 1999 and general circulation via notes and currency in 2002. Importantly, it’s worth emphasizing that the Euro is just over a decade old.


In that time period, the Euro has quickly become the world’s second largest reserve currency after the U.S. dollar.  In fact, the Euro has taken consistent reserve share from the U.S dollar over the past decade, going from roughly 18% of global currency reserves in 1999 to just over 28% in 2009.  Currently, roughly 330 million Europeans use the currency on a daily basis and almost 175 million additional people use currencies that are pegged to the Euro.


This strength and scale of the Euro led former Federal Reserve Chairman Alan Greenspan to opine in 2007 that it was “absolutely conceivable that the euro will replace the dollar as the reserve currency, or will be traded as an equally important reserve currency.”  Not surprisingly, Greenspan’s statement is, in hindsight, at best a contrary indicator.


The current sovereign debt crisis in Europe is creating some rightful questions about the future of the Euro and whether its structure is fundamentally flawed.  While the recently approved €750 billion plan to backstop European debt by the European Central Bank seems to signal that the Eurozone will protect its common currency at all costs, this action also highlights the key structural flaws associated with the Euro. 


As stipulated by the Stability and Growth Pact, which grew out of the Maastricht Treaty, certain monetary and budgetary requirements were mandated for Euro adoption, including that each nation has a budget deficit as a percentage of GDP below 3%, debt as a percentage of GDP of less than 60%, and inflation over the trailing twelve months of less than 3.2%. 


Interestingly, and as outlined in the table below, many of the most prominent nations in the Eurozone currently far exceed the stipulations outlined in the Stability and Growth Pack.  This obviously shines the light on the lack of fiscal discipline of the European Union as whole, and presents two main questions:  1.) What are appropriate targets for fiscal imbalance reduction?, and 2.) Should these parameters be adhered to at all? 


Changing Perceptions of the Euro - 1


In addition to the specific fiscal requirements for entrance into the European Union, the Maastricht Treaty also mandated that no country would ever be bailed out.  The intention of this was, it seems, to protect the broader fiscal order of the Eurozone and to ensure that there were consequences for bad fiscal policy.  Obviously, with the recent ECB sovereign debt bailout, this tenet of this Maastricht Treaty has been willfully ignored.


In ignoring this key tenet of the Maastricht Treaty, the Eurozone is revealing one of the key risks to the Euro -- interconnectedness.   Most nations within Europe borrow from, and lend to, each other.  So, while in theory, the Eurozone should likely let Greece restructure based on the Maastricht Treaty, most major banks within the Eurozone hold Greek debt, and would feel the pain of a Greek debt restructuring.


And this interconnectedness goes well beyond Greece: one-third of Portugal’s debt is held by Spain; Italy owes France more than $500 billion; Spain owes Germany $238 billion and so forth.  Therefore a restructuring or writing down of the debt of any nation will impact the banks and economies of many other Eurozone nations.


The primary structural flaw that is being revealed with the Euro is that because of the disparate economies in Europe, a one-size-fits-all monetary policy is ineffective.  As an example, while Spain may require a monetary policy that attempts to combat its 20% unemployment, Germany may require monetary policy that ensures its economy doesn’t begin to heat up.  In essence, without a political union that can manage the disparate economic goals of each member nation, the monetary union is destined to be weak, which is what we are seeing evidenced by it not adhering to the Maastricht Treaty.


In summary, the issue is not really whether the Euro will fail or disband, because the European sovereign debt bailout package suggests the Euro will endure for the longer term.  The issue, rather, is that the ongoing illumination of these structural flaws will create a growing lack of confidence in the Euro and reverse any perception that one day the Euro would surpass the U.S. dollar as the world’s reserve currency.   And with this change in perception, it is likely that Euro is revalued and continues its slide towards its all-time lows versus the U.S. dollar and beyond.


Daryl G. Jones
Managing Director


Changing Perceptions of the Euro - USDEUR Reserve Currency


Gaming revenues still on track for 85% YoY growth in May.



According to our contacts on the ground in Macau, preliminary numbers through May 23rd have reached HK$11.9bn, and still look on track to hit HK$16bn for the month of May.  So far, there doesn't appear to be any gaming slowdown in sight for VIP volume even though Golden Week has ended.  Wynn Macau (HK:1128) and MPEL, our favorite Macau names, continue to retain their share gains from LVS. 


Below are the MTD market shares:



R3: DSW: Quick Take


    May 25, 2010





    Conclusion: At face value, this might seem like a positive report. $0.67 eps vs the Street at $0.51. Earned $0.16 last year. Comps accelerated, GM% gained momentum, and SG&A was up, but DSW still leveraged due to top line. But on the flip side, guidance was rough. I’m not one to get caught up in the ‘guidance game’ but consider the following… DSW earned $1.23 last year, and about $1.07 in final 3 quarters of the year.  Now they grow EPS by 300%+ in Q1 with a $0.67 eps number, while keeping $1.65-$1.75 for the year. What does that tell you about the back half? It says that they are guiding to a range of $0.98-$1.08 for the remaining 3 quarters. That’s flat to down vs. last year.  My sense is that they’re being conservative. But for a small cap, high beta retailer with an awful track record of consistency, you simply can’t play that game in this tape.



      Clean/Street/LY:: $0.67/$0.51/$0.16

      Guidance: Reaffirmed the raised guidance from preannouncement on 4/27/10 of $1.65 - $1.75. The reaffirmed preannouncement raised full year guidance by $0.30. Increased to $1.65 - $1.75 from $1.35 - $1.45.

    Street $1.74


    Sales growth: +16.5%. Sq footage +2%, Comp +16.2%. New store productivity 160% -- -improving on the margin. Revs on the higher side of guidance — 5 store openings in Q1. Comps had easy compare of -4.7% which was down due to -4.7% comps in women’s, 10.2% in men’s, and -4% in athletics.  Only bright side to last year was a +11.6% comp in handbags.


    GM %: 32.8%, up 557bps yy. 1 and 2 year sequential deceleration. Last year’s margins were actually up from decrease in markdowns from enhancements in clearance markdowns but hurt by increased store occupancy and distribution expenses from the fulfillment center.


    SG&A: +5.8%, SG&A margin -222 bps, 2 year SG&A dollar growth slowed for 2nd straight quarter.  Last year’s marketing and depreciation expenses grew SG&A. Marketing was up from media and broadcast production spending.  Depreciation was up from capital investments from the infrastructure. 


    Balance sheet: Inventories up 3% on 16.5% sales growth. Good spread, sequentially better.


    SIGMA: In clean up mode, mixed SIGMA move with better sales-inventory spread but sequentially worse margins. Now about to go up against another easy compare followed by tough compares from Q3 onward.


    R3: DSW: Quick Take - DSW SIGMA





  • Consolidation continues in sporting goods retail as Sport Supply Group acquires its third business so far this year targeting Kattus Pro Team Sports in the upper Midwest already matching last year’s activity. Tracking the rate of roll-up will become increasingly more difficult once the pending acquisition of RBI by Onex is completed, but our sense is the trend of struggling mom & pop stores will continue to offer growth potential for better capitalized retailers.

  • While health and beauty aids have traditionally been a tough category to sell profitably online, a new and large player has emerged with an interesting twist.  Procter & Gamble has launched a transactional e-commerce site, with prices that appear to be in some cases better than their retail partners.  The site offers reasonable $5 flat rate shipping as well as the ability to take advantage of click-to-use store coupons.

  • According to Comscore, e-commerce sales picked up in 1Q with total revenues up 10% to $33.98 billion.  This double digit growth marks the strongest year over year quarterly gain since 2Q08 when overall e-commerce sales rose 13%.  One of the biggest growth drivers in the quarter was strong spending from the $100K+ households, which increased by 14%.

  • In an effort to drive 2H sales, HIBB announced it will be growing its outdoor offering into more than 50% of its stores by the fall driven by The North Face as well as Columbia. While management did not disclose the penetration of outdoor this time last year, the company’s commitment suggests a 2x-3x increase in the category according to our estimates. While not likely to offset toning inflated 2H sales alone, to the extent TNF jackets continue to outperform in apparel HIBB will not be solely reliant on an improved product cycle in athletic footwear to comp.

  • Despite a cautious outlook for Q2, FL is seeing comps store sales exceed expectations so far through the first two and a half weeks. With the trend shift from casual/lifestyle to running footwear accelerating YTD according to management, we expect domestic athletic footwear to lead continued category improvement and ASP growth over the near-to-intermediate term.




    R3: DSW: Quick Take - Calendar





    Chinese Textile Company Buys 41% Stake in Japanese Apparel Manufacturer and Distributor - Japanese apparel manufacturer and distributor Renown Inc. said Monday it will issue about 4 billion yen, or $44.4 million, worth of new shares to Chinese textile manufacturing company Shandong Ruyi Science & Technology Group. Shandong Ruyi will become Renown’s largest shareholder with a stake of 41%. Shandong Ruyi’s current client base includes international brands and retailers such as Hugo Boss, Oxford Shop, J. Philipp and El Corte Inglés. Renown said it hopes to take advantage of the transaction to grow its presence in the Chinese market. The Japanese company said it plans to capitalize on Shandong’s sales network in China and its experience manufacturing high-quality, low-cost textiles and clothing products. Renown has been battling losses and has been attempting to restructure its operations over the past few years. <>


    India lifted a month-long ban on cotton exports on Friday, prompting cheers from Indian farmers and global garment manufacturers who are feeling the effects of a worldwide cotton shortage. India retained a tight control on its exports of raw cotton, however, by demanding that all exporters must now apply for a license. India’s ban on raw cotton exports was introduced on April 19 in a bid to cool down domestic cotton prices. Prior to the ban, Indian apparel manufacturers complained that unusually high exports had limited the availability of cotton within India, while pushing up the price. <>


    Zappos Suffers Loss of $1.6 mm from Pricing Mistake - created a lot of buzz this weekend, due to a pricing mistake on sister site From midnight to 6 a.m. Friday, the majority of items listed on the site — which typically sells products at discounts of up to 70 percent off — had a price cap of $49.95. The problem was eventually corrected, but the company still suffered a loss of more than $1.6 million in sales during that six-hour time frame, according to a blog posting by Aaron Magness, director of brand marketing and business development for Zappos. <>


    Patagonia Boasts its 2 Best Years Ever - Patagonia had its "two best years ever" during the downturn, according to an interview by Entrepreneur Magazine with founder and owner Yvon Chouinard. Sales are expected to reach near $340 million in its year ended April 2010, up from $315 million over the same period a year ago. <>


    Sport Supply Group Acquires Kattus Pro Team Sports - Sport Supply Group has acquired Kattus Pro Team Sports. Eric Kattus, owner of Kattus Pro Team Sports, will be joining the Sport Supply Group with his sales team.  <>


    M&S Profit Tops Estimates on New Fashions and Market Share - Marks & Spencer Group Plc , the U.K.’s largest clothing retailer, reported earnings that beat analysts’ estimates on improved sales of fashions and ready meals and said it had a “satisfactory start” to the first quarter. M&S Increased its clothing market share by value across all categories by 30 bps to 11%. <>


    Nautica Signs Footwear Licensing Deal for Men's and Kids' - Nautica Apparel Inc. has entered into an agreement with New York-based E.S. Originals Inc. to manufacture and distribute men’s and children’s footwear starting in spring 2011. Both collections will be available at department stores and specialty retailers. <>


    Nike Kicks Off World Cup Campaign on Facebook - Nike today kicked off its FIFA World Cup campaign with a 10-minute film on Facebook, featuring Cristiano Ronaldo, Didier Drogba, Wayne Rooney and other top soccer stars. The video, viewable only when a visitor clicks the "Like" button, includes a 3-minute advertisement, called "Write the Future," with some of those top stars. It intersperses on-field action with reaction from viewers all over the world. Roger Federer, Kobe Bryant and Homer Simpson also make cameos. That spot will eventually roll out on TV programming in 32 countries. In June, Nike also plans to roll out an Elf Yourself-type online experience that lets consumers generate ripple videos and visuals from their own photos.  <>


    UK's Asda Starts Price War with England World Cup Shirts - Asda is gearing up for a price war after the supermarket started retailing England World Cup shirts for half the recommended retail price. <>


    E-retail Sales Rose 10% in Q1 - Online retail sales grew 10% to $33.98 bn in the first quarter, marking the first time growth rates reached double digits since the second quarter of 2008, according to web measurement firm comScore Inc. <>


    Walmart Launched a New One-Stop Web Destination for Exclusive Video Game Savings and Sneak Peeks - At, consumers can find special savings on a number of video games, as well as view previews and first-look exclusives of the latest titles. In celebration of the launch, Walmart is offering a $50 e-gift card to shoppers who pre-order a total of three or more of this year's popular titles, including Medal of Honor, Assassin's Creed: Brotherhood and Fallout: New Vegas. Also, all video games ordered on will be shipped for 97 cents each.  <>


    Gen-Yers Are Forcing the Industry to Push the Digital Envelope - Fashion companies catering to tweens and Gen-Y consumers — an age range spanning 7 to 30 — are in the vanguard of exploring technology’s multiplatform boundaries. These firms are trying to build their brands by enticing consumers who may be the most savvy and demanding about the Internet, the latest apps, video and social media.  Among the latest initiatives:

    • After launching at Kmart in July, Dream Out Loud by Selena Gomez will unveil ads and store displays featuring so-called snap tags, or special dove-shaped logos that users can photograph and then send to an e-mail address for prizes and coupons.

    • The Wet Seal Inc., based in Foothill Ranch, Calif., tapped into young women’s fascination with styling clothes through an iPhone app that lets them search and buy outfits in its stores.

    • Wholesaler NewBreed Girl, whose fashion tops and accessories retail from $20 to $40 to stores such as Topshop, is bypassing Facebook and revamping its Web site, where users can upload photos and videos to what it dubs “a chat room of images.”

    • London’s Scarlett & Crimson, in tandem with the launch of a 90-piece cosmetics line in the U.S. next spring, is developing an app for the iPad that would show tweens how to apply makeup.

    • Pittsburgh-based, which sells vintage items and clothes by indie designers, lets users vote for designs “American Idol”-style in its “Be the Buyer” program, adding the pieces receiving the most votes to its collection. <>


    Prada Q1 Profit Jumps Almost Sixfold Driven by Sales in Far East - Prada SpA, owner of the eponymous Italian fashion label as well as the Miu Miu, Car Shoe and Church’s brands, said first-quarter operating profit rose almost sixfold, driven by increased sales in emerging markets.  EBITDA climbed to 64 mm euros from 11 mm. Revenue increased 26%.  A 36% jump in retail sales was led by a 62% increase in the Far East, where Prada has focused on opening new stores. Store sales rose 33% in the U.S. and 18% in Europe. <>


    TSA Launches Review of Creative Media Account - The Sports Authority has launched a review of its $35 million to $40 million creative and media account, according to Advertising Age. <>




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