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ISM: What's Next For This Chart?

In macro, particularly when it comes to probability weighing mean reversion, pictures are often more powerful than prose.

 

When I look at this 3-year picture of the most important part of the US economy (the non-manufacturing base of business), this is what I see:

 

1.       A reading of 56 or higher (the red line) = unlikely

2.       A sequential continuation of positive momentum in the V-shaped recovery from the lows (the green V) from here = unlikely

3.       A sequential slowdown from this month’s reading of 55.4 (the blue line) = likely

 

What never ceases to amaze me is how Wall Street analysts come to consider the unlikely, likely.

 

The sell-side consensus for the May ISM non-manufacturing reading was 55.6. That estimate implied a higher-high, not only for this stage of the cycle, but beyond the highs of one of America’s most levered up economic cycles (2007).

 

With all of Asia and Europe slowing, what’s next for this chart? Our bearish positioning and answer to this question are also both implied. US economic growth will slow within 3-6 months; that’s if it’s not slowing here already.

 

Cheers,

KM

 

Keith R. McCullough
Chief Executive Officer

 

ISM: What's Next For This Chart? - ISM Non Manufacturing


KSS: Validating Read on PSS

Datapoints continue to trickle out that validate our view that PSS operating momentum is misunderstood.

 

 

For anyone that cares on PSS (which you should) KSS was one of the more notable callouts this morning. KSS said that the Northeast and Southeast were the strongest geographies and that Footwear achieved the strongest comp.

 

Looking back to PSS comments on Tuesday night, the company noted weakness came from California and Southwest. We've since run the math on PSS store weightings by state, and it is definitely overindexed to the economies that were weaker during the month.

 

In addition, take a look at the KSS website at its footwear offering. What's new? Toning. Check out the images below. Several best sellers are web-exclusive. KSS also noted 50% growth in e-commerce.

 

Not a coincidence.

 

What do I like the most here? PSS will up its ante by 3x in 'Toning' in 2H. KSS is supporting price points as high as $115, and is commanding $40 for even simple thong sandals.  PSS has plenty of room to go with price point given that its company avg price point is in the teens.

 

KSS: Validating Read on PSS - p1

 

KSS: Validating Read on PSS - p2

 

KSS: Validating Read on PSS - p3

 

KSS: Validating Read on PSS - p4


JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE

Consistent with the trend year to date, claims remain in their ~450k range, too high for unemployment to improve meaningfully. This morning the reported number fell 10k to 453k, down from last week's revised print of 463k (revised up 3k), but roughly in line with consensus for 450k. Rolling claims climbed 1k to 459k week over week.  Remember, we need to see initial claims fall to a sustained level of 375-400k in order for unemployment to fall meaningfully and, by extension, lenders' net charge-offs to return to normalized levels.  We remain well above that level.  

 

As a reminder around the census, May was the expected peak employment month. Starting now, the census will become a headwind for job creation.  

 

JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE - rolling claims

 

JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE - raw claims

 

The following chart shows the census hiring timeline.  If the past two cycles are an appropriate model for this year's census, we should start to see Census employment draw down as we move further into June, creating a headwind for employment. 

 

JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE - census chart

 

Joshua Steiner, CFA

 

Allison Kaptur


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PNK MAKING THE ROUNDS

No impact from oil spill and impact may turn out to be a positive. This isn’t an original call today; but earnings visibility is good, management continues to do the right things, and the stock has gotten creamed.

 

 

PNK management is making sure people know that the impact from the Gulf oil spill is nonexistent and could actually turn out to be a a positive if the relief workers gamble as they have in the past.  This clears up the near-term earnings picture which we had thought was good, prior to the BP disaster.  Meanwhile, the stock is off 24% from its recent high only one month ago and now trades at 6.5x 2011 EBITDA.

 

Aside from chronic unemployment, the only negative to the story, at least relative to initial expectations, is the April performance of River City (RC).  RC generated only $13 million in gaming revenues in April after putting up a solid $15.9 million in March.  We expect RC to rebound somewhat in May and build from there.  However, we have taken our numbers down to reflect a slower ramp.

 

Despite lower projections for RC, we remain above the Street in company EBITDA.  For 2010 we are projecting $206 million in EBITDA versus the Street at $203 million.  Since we wrote our note “PNK: ANOTHER CALL FOR HIGHER ESTIMATES” in late April, the Street has come up from its $192 million. Margins remain the story on EBITDA.  The removal of Dan Lee expenses in corporate and the sustainable cost cutting and rationalization generated in Q1, especially in the marketing area, provide visibility and maybe upside to current estimates.


JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE

Consistent with the trend year to date, claims remain in their ~450k range, too high for unemployment to improve meaningfully. This morning the reported number fell 10k to 453k, down from last week's revised print of 463k (revised up 3k), but roughly in line with consensus for 450k. Rolling claims climbed 1k to 459k week over week.  Remember, we need to see initial claims fall to a sustained level of 375-400k in order for unemployment to fall meaningfully and, by extension, lenders' net charge-offs to return to normalized levels.  We remain well above that level.  

 

As a reminder around the census, May was the expected peak employment month. Starting now, the census will become a headwind for job creation.  

 

JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE - rolling claims

 

JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE - raw claims

 

 

The following chart shows the census hiring timeline.  If the past two cycles are an appropriate model for this year's census, we should start to see Census employment draw down as we move further into June, creating a headwind for employment. 

 

JOBLESS CLAIMS SLIGHTLY BETTER BUT REMAIN IN THE 450K RANGE - census chart

 

Joshua Steiner, CFA

 

Allison Kaptur


Triple-A USA

"If the federal government will step in to help them, they are triple-A. If the federal government won’t step in to help them, who knows what they are.”

-Warren Buffett

 

Yesterday was neither a good day for the Thunder Bay Bears nor the once revered definition of “American Capitalism.” As I am sure US economic historian and author of “Buffett: The Making of An American Capitalist”, Roger Lowenstein, would agree, altogether it was a historical day for finance in this country. Never before has the US portfolio patriarch, Warren Buffett, been forced to answer questions about his market positioning against his own will.

 

If any of us Buffett fans thought the man was going to be forthright and transparent about what it is that the ratings agencies actually do, we should think again. I felt like I was listening to a professional politician when Buffett excused Moody’s by suggesting that they simply “made a mistake that 300 million other Americans made.”

 

We get what Buffett gets – politicians created and perpetuated a ratings system that could be gamed. What Buffett is really doing is playing the game that’s in front of him. Current conflicts, compromises, and constrains aside, his mandate is to make money – not to make you believe how he is making money is “right.”

 

To contextualize Buffett’s aforementioned quote about whether or not the states of America should be rated AAA, let’s take a quick step back and understand where this designated ratings system of Perceived Wisdom comes from.

 

In 1909 a gentleman by the name of John Moody (who is currently rolling in his grave) started selling independent research like Hedgeye’s (he was paid by subscription, not by the issuers of bonds he was rating). Over the course of time, independent research became a profitable business and it, predictably, found competition with firms like Poor’s Publishing.

 

By the time the 1970s rolled around and the USA was newly minted with its endowment of the world’s reserve currency (1971), the SEC “decided to penalize brokers for holding bonds that were less than investment grade. The SEC then faced the question of investment grade according to whom? The agency decided to create a new category of officially designated ratings agencies and grandfathered the big three – S&P, Moody’s, and Fitch.” (Roger Lowenstein, The End of Wall Street, page 39).

 

This, of course, created the kind of business that I, the Saudis, and Warren Buffett love – cartels who have a lock on supply and pricing via government mandate. All you needed to make this the “bubble that none of us saw coming” (Buffett) was more and more government intervention and price supports. Enter Greenspan and some moneys from the heavens and you can all of a sudden see how, from 2002 to 2006, that a conflicted firm like Moody’s saw profits triple and MCO stock go to $74/share.

 

“Given the agencies profits were soaring it paid for them to stay on good terms with Wall Street. Moreover, when Lehman took a mortgage pool to Moody’s, it paid the fee only if it was pleased with the rating.” (Lowenstein, The End of Wall Street, page 41).

 

Sure, even though some of us actually did see this coming… Mr. Buffett, with all due respect, maybe it was because we weren’t being paid to be willfully blind to the problems, in principle, that are obvious here…

 

So, after another great low-volume rally to lower-highs in the US stock market yesterday - fully trusting in the good faith of the USA’s Triple-A rating, we should chase stocks higher here on the open, right? C’mon. Let’s get serious here folks. This time there will be no finger pointing at 300 million Americans. No one will be allowed to say they didn’t see this US Sovereign Debt crisis coming with a straight face.

 

For a preview of what is coming down the pike in terms of US deficit spending and debt obligations, don’t ask Moody’s or Blackrock’s Larry Fink for their forecasts. Just this morning, Fink, who runs a massive asset management business in America’s politically infested waters said that it’s time to “rock n’ roll”…

 

Maybe we should dial up Chucky Prince and have a ourselves a little dance with the Thunder Bay Bear

 

The Fiat Fools in Europe are already providing a play-by-play preview for all Americans who still aren’t being paid to be willfully blind to see. As a reminder, we think the US deficit/debt problems come home to roost within 3-6 months, so it’s critical to analyze the sequence of events that Western European stock markets and populations alike are currently enduring.

 

The road from austerity to the forced selling of sovereign assets leads through the Rubicon of civil unrest…

 

Greece’s deficit-to-GDP ratio isn’t much different than Triple-A USA’s, but their scheduled debt maturities were closer/larger in duration (and they didn’t have in-house Fiat Fools running the world’s reserve currency with moneys dropping from helicopters), so they are going through the ringer first. Here’s a recap of the forced selling side of the game Buffett would recognize as Monopoly in Europe this morning:

  1. Greece – selling 3B Euros ($3.7B) worth of sovereign held stakes in railroads, water utilities, and postal services...
  2. Spain – Cajas Murcia is leading another 4 problem banks to merge approximately 75B Euros ($89B) in assets before the June 30th “rescue” date…
  3. Portugal – parliament approved austerity measures last night (ie. raising taxes and the like)…

“Rock n’ Roll” maybe for professional politicians or someone who recognizes that the art of the money management business is having money to manage… but for the citizenry of socialized nations… this looks more like a sneak preview of the “Road to Perdition” to me.

 

My immediate term support and resistance lines for the SP500 are now 1077 and 1106, respectively. We’d be a seller of all US and European equity strength today, ahead of another ominous reminder that big government employment reports are not too big to fail.

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Triple-A USA - Buffett


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