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TODAY’S S&P 500 SET-UP - October 8, 2010

As we look at today’s set up for the S&P 500, the range is 16 points or -0.87% downside to 1148 and 0.51% upside to 1164. Equity futures are trading mixed to fair value ahead of today's key jobs report and following yesterday's inconclusive session which saw major indexes close little changed. After the close, Alcoa and Micron Technology opened the Q3 earning season. AA reported Q3 EPS $0.09, ex-items, vs. Reuters $0.05, and raised its 2010 forecast for global aluminum demand to 13% from 12%. MU reported Q4 EPS $0.32 vs. $0.39 and said demand softened significantly toward the end of the quarter.

  • Alcoa (AA) reported 3Q adj. EPS $0.09 vs estimate $0.05, raised 2010 aluminum consumption forecast to 13% from 12%
  • AngioDynamics (ANGO) cut FY 2011 EPS forecast to $0.47-0.50 from $0.53-$0.56, vs estimate $0.49
  • Bruker (BRKR) completed acquisition of Atomic Force Microscopy and Optical Industrial Metrology; Reiterated guidance
  • DragonWave (DRWI) reported 2Q revenues $27.2m vs estimate $26.9m
  • Kulicke and Soffa Industries (KLIC) sees 1Q revenue “significantly” below 4Q
  • Micron Technology (MU) reported 4Q revenues: $2.49b vs estiamte $2.66b
  • Onyx Pharmaceuticals (ONXX) delayed NDA for carfilzomib
  • Scansource (SCSC) raised 1Q revenue forecast to $623m-$633m from $555m-$575m, vs estimate $554.8m


  • One day: Dow (0.17%), S&P (0.16%), Nasdaq +0.13%, Russell 2000 (0.16%)
  • Month/Quarter-to-date: Dow +1.49%, S&P +1.48%, Nasdaq +0.64%, Russell +1.20%
  • Year-to-date: Dow +4.99%, S&P +3.85%, Nasdaq +5.05%, Russell +9.41%


  • ADVANCE/DECLINE LINE: -240 (-53)
  • VOLUME: NYSE - 910.39 (-7.10%)  
  • SECTOR PERFORMANCE: Only three sectors rose yesterday - Materials (1.00%), Consumer Spls (0.35%), Financials (0.41%), Energy (0.50%), Industrials (0.22%), Healthcare +0.20%, Utilities +0.19%, Consumer Disc +0.47%, Tech flat - The lack of direction in the market was not too surprising ahead of tomorrow's release of September payrolls and the unofficial start of Q3 earnings season after the close.
  •  MARKET LEADING/LAGGING STOCKS YESTERDAY: Adobe +11.50%, JC Penney +9.10% and Abercrombie +8.91%/Marriott -5.78%, Owens Illinois -4.48% and Starwood -2.95%.
  • VIX: 21.56 +0.33% - YTD PERFORMANCE: (-0.55%)
  • SPX PUT/CALL RATIO: 1.38 from 1.43 -3.60%


  • TED SPREAD: 17.65 0.203 (1.164%)
  • 3-MONTH T-BILL YIELD: 0.13% unchanged
  • YIELD CURVE: 2.05 from 2.03


  • CRB: 287.30 -0.64%
  • Oil: 81.67 -1.87% biggest down day since August
  • COPPER: 367.95 -1.96%
  • GOLD: 1,334.57 -0.90%


  • EURO: 1.3886 -0.28%
  • DOLLAR: 77.387 flat




  • European Markets: FTSE 100: (0.59%); DAX: (0.29%); CAC 40: (0.55%)
  • European markets opened lower in cautious trading with a focus on the US jobless report.
  • Major indices have traded in a narrow range between unchanged and down around (0.5%) and currently trade near the day's lows after stronger than expected UK PPI data.
  • Alcoa (AA) trades up +1% in Germany after its Q3 results last night. The auto, retail and banking sectors lead the regions fallers whilst basic resources and technology sectors lead a minority of sector gainers. US futures trade little changed
  • UK Sep PPI Output +4.4% y/y vs consensus +4.3% and prior 4.7%
  • UK Sep PPI Input +9.5% y/y vs consensus 8.6% and prior revised 8.7%
  • Bank of France released its Sep survey of industrial and service industries activity. Industrial activity picked up vs the lull in Aug, whilst the service sector increased strongly. Following the survey Central bank leaves its estimate of Q3 GDP unchanged at +0.3%


  • Asian Markets: Nikkei (0.99%); Hang Seng +0.16%; Shanghai Composite +3.13%
  • Ahead of today's US jobs report, Asian markets traded mixed with Shanghai up over 3% after being closed for a week, and the Nikkei down as the yen continues to flirt with record levels vs the US dollar.
  • After being closed a week for the Golden Week holiday, Shanghai stocks are sharply higher as they play catch-up with the rest of the world
  • Moody's said it is considering raising its A1 rating of China's sovereign debt. Moody's says it intends to conclude its review within a three-month period.
  • As the yen continues to strengthen versus a weakening dollar, Japan approved a ¥5.05T stimulus budget, larger than the ¥4.8T originally planned.
  • The yen is trading at 82.32 vs the US dollar 

Howard Penney


Managing Director


THE DAILY OUTLOOK - levels and trends















Since we're always asked about the M&A market during earnings season, we've highlighted a few trends below.




  • Average Key Per Price for luxury/UUP transactions in 3Q rose to $350k, which was higher than the YTD average of $300k.  
  • Global transaction volume of $9.9BN topped last year’s level of $9.0BN.  
  • US transaction volume is closing in on $5BN, up 106% YoY.  The bulk of transactions continue to be single-asset and Luxury/UUP.
  • REITS (existing and newly formed) have dominated the M&A market so far.
  • Access to capital continues to be limited.
  • According to Fitch - CMBS hotel loans defaulted at a higher rate (20%) in August than July (18.6%)


  • Average Key Per Price
    • US $359,795 since 6/30/2010 (13 transactions)
    • $301,886 YTD (33 transactions)
  • International
    • $279,784 since 6/30/2010 (11 transactions)
    • $427,097 YTD (24 transactions)
  • Cap rates/Valuation
    • 5-6% range, in line with 2006 cap rates
    • 9-11x EBITDA; however, two luxury hotels recently sold at 17-18x EBITDA

Q3 Transactions (Summary)











American Bliss

This note was originally published October 07, 2010 at 08:12am ET 


“There are two ways of being happy: We must either diminish our wants or augment our means - either may do - the result is the same and it is for each man to decide for himself and to do that which happens to be easier.

-Benjamin Franklin


American Bliss - Ben Franklin




It is nearly impossible to get away from talking about QE – believe me, I tried.  But the quote below from Ben Bernanke is the first story that caught my eye today. 



American Bliss - Bernanke 2



"Raising the inflation objective would likely entail much greater costs than benefits.  Inflation would be more volatile, bring more uncertainty and possibly create destabilizing moves in commodity and currency markets that would likely overwhelm any benefits arising from this strategy."


Am I missing something or is this just another case of watch what I do, not what I say?


Mr. QE is doing nothing but destabilizing commodities and currency markets.  Our contention has been for some time that quantitative easing leads to reflation, which can lead to inflation.  Gold continues to signal high inflation expectations among investors.   The Hedgeye math says: QE =Reflation = Inflation


Pick your duration of one day, one week, one month, or three months; as quantitative easing expectations have ramped higher, so has the outperformance of commodity-driven equities and the global recovery-leveraged Materials and Industrials sectors.  Yesterday was no exception.  With the S&P trading flat on light volume, the best performing sectors were Energy (XLE), Materials (XLB) and Industrials (XLI).  The worst performing sector yesterday was Consumer Discretionary (XLY).  Yes, inflation is bad for consumer spending!



American Bliss - Federal Reserve


Rhetoric from Federal Reserve officials on the need for quantitative easing may affect the markets but consumer behavior, and confidence, remain impervious to Washington, DC Groupthink.  Downturns such as the one we are living through today (41m Americans on food stamps) deeply affect consumer confidence and attitudes towards debt accumulation in the name of consumption. 


As I said on our 4Q10 themes call, the Consumption Cannonball implies that consumers will continue to save more and are “reconsidering” their living standards; the policies of the FED and the Obama administration are perpetuating this trend.  While creating windfall returns for paper assets and financial institutions, quantitative easing has not met the expectations touted by many of its initial proponents.  By failing to improve the unemployment picture (as was promised), the administration’s policy of quantitative easing is a failure as far as Main Street is concerned.   The effect on the dollar (and commodities) of this policy is further hampering a consumer recovery.


The lack of traction in the labor market was reinforced yesterday after ADP reported that private payrolls fell 39,000 last month following a 10,000 gain in August, while consensus expectations were for a 20K increase. 



American Bliss - Chicago Federal Reserve



Charles Evans, President of the Federal Reserve Bank of Chicago said because unemployment is not coming down nearly as quickly as it should, his conclusion is that “we need more monetary accommodation than we’ve put in place!”  Yet there is no connection between QE and the ability to reduce unemployment!  As Albert Einstein said, “The definition of insanity is doing the same thing over and over again and expecting different results.”   


Despite the S&P 500 being up 8.7% in September, the consumer macro factors were mixed as confidence, employment and housing data all added further to our conviction that recent governmental policies are failing to produce a real consumer recovery.  


For all the valuation junkies that will tell you that the market is cheap on a P/E basis, that metric will be fighting the gravitational pull of slowing growth.  Despite all of the QE talk, 3Q10 will likely represent the last double digit EPS growth quarter for the S&P 500 for the next one, maybe two years.  Which begs the question, have you factored in enough of a slowdown in earnings growth? 


American Bliss - 1


Looking out over the next 6 quarters, consensus is projecting S&P 500 earnings growth of 20% in 3Q10, dropping to 11.8% in 4Q10 and sub 10% for the balance of 2011.  In a slowing growth environment, how do you manage risk around the fact that these estimates might be too aggressive?  This is the question every portfolio manager/analyst needs to be thinking about as we head into the current earnings season. 


As it relates to our 4Q10 Consumption Cannonball theme and the implied year-over-year deceleration in discretionary spending, Brian McGough asked the question: are management teams being conservative enough?  How do you manage risk around 2011 guidance that companies might throw out to the Street before they know; (1) what will happen to the consumer, and more importantly, (2) how will they behave when desperate competitors react in a weak consumer environment?  


How will you manage risk around this?


We are likely to get a small preview of these trends with today’s retails sales data.  Most retailers are expected to meet estimates that are not viewed as overly aggressive; although difficult comparisons will also play a role as September 2009 was the first month of positive comps in some time for many retailers.


For the time being many American will be forced to diminish their wants in order to be happy. 


Howard Penney

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Conclusion: U.S. dollar weakness, long term demand, and softer yields than expected keep us bullish on corn.


Positions: Long Corn via the etf CORN


Earlier today we sold our agriculture position via the etf DBA for a small profit, but we remain long corn, via the etf CORN.  In the attached chart we highlighted one key reason to be long corn, which is U.S. dollar weakness.  The threat, risk, and overhang of loose monetary policy and continued monetary easing will serve to continue to weaken the U.S. dollar and inflate commodities that are priced in dollars, such as corn.


While the recent corn stocks report from the USDA came in about 300 million bushels higher than expected, the view many of our commodity contacts is that this report is likely not accurate.  Even though we find it difficult to believe that government data may not be accurate (this is sarcasm), those closest to the date seem to believe the stock number is not aligned with the reality of the stock situation.  In fact, there is a view that the vast majority of this “surprise” 300 million bushels is actually old crop corn that is often traded at a 80% discount to the market.


Next Friday, the USDA will release more data on corn situation, specifically the yield estimate.  Interestingly, the USDA estimated national yield in August at a record.  As one subscriber wrote us:


“In the 2010 August crop report the USDA estimated the national yield at a record. Given the extraordinary weather we have had this summer, I found that quite amazing. We had an unprecedented amount of rainfall in key growing areas in June, July and August. Some areas in Iowa received over 50 inches in these months. Nighttime temperatures were at an all time record for several weeks after pollination. Top agronomists have written many papers on the negative effects of high nighttime temperatures on kernel fill, or ear weight, and yet in their September report the USDA used a near record ear weight.”


Needless to say, the yield data seems set up to disappoint and is likely to decline sequentially.


Just as a broader frame of reference, corn is more than just a speculative commodity the lads at Hedgeye like to trade.  In fact, corn is the most widely produced feed grain in the United States, accounting for more than 90% of total value and production of feed grains.  Almost 80 million acres of corn are planted in the United States and corn is the main ingredient in livestock feed, so will impact the margin and prices on cattle and pigs as well.  Corn is also a major export product as more than 20% of corn grown in the U.S. is exported.  Corn is almost an important input in ethanol, whose demand is only expected to grow in coming years based on the Energy Independence and Security Act of 2007 which mandates increased use of biofuels.


Given the importance of corn to the U.S. economy, it makes us wonder why the USDA’s data is so corny.


Daryl G. Jones
Managing Director



September Sales Tales

A solid month for those keeping score, but the headlines don’t always tell the whole story.  The trend for September was clearly positive, with 17 companies reporting results that exceeded expectations, 5 that missed, and 2 that were inline.  Beneath the surface, there were a handful of underlying trends that are worth highlighting.

  • Almost every retailer with back-to-school exposure cited strength.  Shopping “closer to need” was the common catch-phrase used to describe why September ultimately ended up being the beneficiary of the annual return to class.  At some point, maybe the Street and the companies themselves will realize that “close to need” is analogous to shopping when it “makes sense”.  Your kid goes back to school in shorts because it’s still warm out.  The weather gets cooler. Mom goes to the store to replenish the fall wardrobe.  None of this is rocket science, but for some reason we keep talking about how the consumer is buying closer to need.  Now’s the chance to pre-empt holiday speculation by recognizing that the final 10 days before Christmas are the most important days.  Not Black Friday and not early December.
  • Promotional activity remained heightened during the month, especially in the teen apparel space.  JC Penney also cited promotional activity as the reason why it re-affirmed guidance (not raised) despite posting a better than expected topline. 
  • Gap noted that it expects October to be promotional for its brands given its “challenging” results in September.  They’re clearing out goods and moving on. 
  • The men’s business stood out for the month across a variety of retailers including JCP, JWN and ANF.  Perhaps this is a bit of pent-up demand as the male consumer looks to replenish his wardrobe after taking an extended break from the mall.  This is something to watch, especially since the focus for several months has been primarily on dresses, footwear, and the home.
  • Without question, momentum slowed in the final week of the month.  Almost every retailer highlighted week 5 as the weakest due to unfavorable weather (hot and rainy) as well as difficult comparisons with last year’s perfect cold weather set up.  Recall that an early cold spell came at the perfect time last year, allowing retailers to maximize full priced sell-throughs on early fall merchandise sets.
  • Coincident with weather patterns, the northeast region was most commonly called out as having the weakest regional results.
  • The south and southeast were among the better performing regions for the month.
  • Footwear remains a consistent standout, producing above trend results at: DDS, KSS, JCP, SKS, and JWN
  • American Eagle seems to have taken its foot off of the promotional gas, citing less promotional activity as the reason for raising guidance.  Recall that AEO has lowered guidance a handful of times since the Spring.  They appear to have lowered the bar too far.
  • Our overall index of same store sales remains relatively stable, despite what appears to have been a very good month for retailers.  On a one-year basis, the index remains in a narrow range, hovering between a 3.5% to 4% increase since May.  On a two year basis, the trend improved for the second month a row.  This is the first time we’ve recorded two months of sequential positive trends since the Feb/March time frame.

September Sales Tales - Sept SSS


Eric Levine


UA/NKE: Tom Brady -- Free Agent

Tom Brady is a free agent -- at least as it relates to retail. Under Armour struck first in the game of chess. Don't jump to conclusions before seeing who captures the king.



Anybody watch the Patriots/Dolphins game on Monday night? See Brady’s shoes? For the first time in his career as a Patriot, he was not wearing Nike.  Certain folks in the press have picked up on this, and are running with it in their own special, albeit inconsequential, way. No single deal can make a brand – and I don’t care what brand it is. If anything, we’d argue that a deal (and fincial terms therein) can break a company a lot easier than it can make or break the brand. But the key here is that you need to put the Brady endorsement into context. It’s important to watch, but not for reasons others might think. Consider the following…


UA/NKE: Tom Brady -- Free Agent - tbua


1)      Cross-Over Appeal: Brady is one of those cross-over athletes. Like Maria Sharapova, Lance Armstrong, or (at least the former) Tiger, Brady could be on the cover of Sports Illustrated and GQ at the same time. Add on the fact that he’s married to one of the most sought-after supermodels on the planet (Gisele Bunchen), and you can tack on People magazine as well due to the ‘Brangelina’ factor.


2)      But is Brady An Exception to The Rule?: Despite having all this going for him, Brady has  arguably been a low-return investment for Nike, who has been paying a minimum of $12mm in each of the past four years. Think about it in the context of a required return of 10% (below any of the major brands’ IRR). Let’s keep the math simply. $48mm over 4-years should result in about $53mm of EBIT. Using a 50% incremental margin, we’re talking $105-$110mm in revenue required to justify Brady. That sounds kinda big, especially given that he’s not exactly ‘Mr. Personality’ around game time. (Author’s note: what a sad note about public perception – as he so focused on winning that he generally could care less about the press, and sometimes gets dinged for it). But it does impact commercial value relative to athletes like Drew Brees and Troy Polamalu, who are also leaders in their own right, but are less expensive and are more marketable around game time.


3)      This Might Be a Game of Chess: Why?

  1. This is far from a done deal. Keep in mind that Reebok (adidas) currently holds the license for the entire NFL as it relates to ‘official on-field’ apparel. This is a 10-year deal that ends in 2012. Seems far off, but whoever designs the product for 2012 needs 18 months lead time at a minimum. So that’s up for bid now. Before we get a decision, they’ll be plenty of iterations of agents, brands, and even the NFL itself playing the pricing/positioning game through the press.
  2. In May, the Supreme Court ruled 9-0 against the NFL that it can no longer treat this contract as a single business, but rather a group of businesses. This is a win for the players association, as well as brands that don’t want to be obligated to pay for unprofitable parts of the license that they want no part in (mouthguards, gloves, whatever…).
  3. What’s the point? After seeing Brady win his 100th game on Monday wearing Under Armour cleats, you can be pretty darn sure that Nike’s head US Football dreaded going to work on Tuesday morning. Nike probably would admit that Brady is not worth as much coin as he’s been pulling down. But a bigger question might be the cost if they were to allow him to fall into the hands of its top competitor in football. In other words, has Nike gotten so big that people don’t give them credit for the endorsement, but will only penalize them for not having it?
  4. Does Under Armour know (or think that they know) that Nike won’t lose Brady, so they’re putting on the pressure on the comp level to pull resources away from pieces of the unbundled NFL license that UA will find more attractive?


This is the kind of media noise and speculation (including our own) that we won’t bake into our model just yet. We need to wait to get the facts. It’s a good news/bad news/good news scenario. The fact that UA is on such offense right now speaks to the health and trajectory of its business. On the downside, these deals are ALWAYS dilutive before they regurgitate any cash – no exceptions. But in the end, this is all consistent with a) what UA should do, and b) what management said it would do over the past several years.



UA/NKE: Tom Brady -- Free Agent - tb1


UA/NKE: Tom Brady -- Free Agent - tb2


UA/NKE: Tom Brady -- Free Agent - tb3

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