Scorching The Snake

“We have scorched the snake, no killed it.”

-Shakespeare (Macbeth)


The proverbial snake in the common man’s wallet is inflation. In this day and age of globally interconnected prices, governments can scorch it, but they can’t kill it - not when Western Fiat Fools wake up every morning trying to debauch their currencies for short-term stock market pops.


China scorched the serpent on Tuesday when it raised interest rates. The way that this works is very simple. Use monetary policy as a blow-torch on the way up (rate hikes) like Greenspan and Bernanke have used it as a blunt instrument on the way down (rate cuts). Glenn Stevens at the Reserve Bank of Australia is a modern day king cobra killer in this regard. He doesn’t get paid to be willfully blind. That’s why his citizenry trusts him.


Sadly, one day of snake scorching this week doesn’t a TRADE or TREND make. As soon as bad US economic data rolled through the leg hump machine yesterday, US stock market cheerleaders were right back at it begging Bernanke for more Quantitative Guessing. The Burning Buck went straight back down and commodity and stock prices went straight back up.


For all of you “deflation” fans out there, here’s a New Hedgeye Economics equation to jot down in your notebooks:


QG = i


That’s it. It’s that simple. Quantitative Guessing = global inflation.


Score this like you would scrabble points and mark-your-score-to-market at the end of every day by measuring what asset prices do on an inverse basis to the Burning Buck.

  1. Tuesday: US Dollar UP +1.7% = CRB Commodities Index DOWN -2.0%
  2. Wednesday: US Dollar DOWN -1.4% = CRB Commodities Index UP +2.4%

Cool, eh?


Not so much if you are part of the starving people in this world who the perma-bulls are quick to point out demand a lot of what their favorite companies in their portfolios make. But very cool for Wall Street and Washington types who really could give a damn about anything other than where the US stock market closes at month-end ahead of a mid-term election. It’s all about the short-term bonus baby.


Enough about the Fiat Fools who have mortgaged America, let’s go back to the leader in this global macro game of Monopoly: China.


Last night, the Chinese reported more of what our Hedgeyes have been calling for since Q1 of this year – a Chinese Ox In A Box (economic growth slowing as the Chinese focus on proactively tightening the screws on speculative lending and price inflation).


Here’s a Chinese data check:

  1. GDP growth slowed sequentially (quarter-over-quarter) to 9.6% in Q3 versus 10.3% in Q2 (versus +11,9% in Q1)
  2. Industrial Production growth slowed sequentially (month-over-month) in September to +13.3% from +13.9% in August
  3. Consumer Price Inflation accelerated again sequentially (month-over-month) in September to +3.6% from +3.5% in August

Net, net, what this means is that both economic lines in our model (Revenues = GDP and Cost of Goods Sold = inflation) continue to go the wrong way. Chinese economic growth has slowed to a 1-year low as inflation has accelerated to a 2-year high.


Ok. So what do you do with that?

  1. Realize that it’s not new “news” – Chinese growth has been slowing and inflation accelerating since Q1.
  2. Respect that, despite the slowdown, the Chinese government still has the political backbone to fight inflation and raise interest rates
  3. Stay long the Chinese currency because it, unlike America’s currency, has credibility (we have a 12% long position in Chinese Yuan, CYB)

Can you imagine Ben Bernanke raising interest rates as GDP growth is slowing and inflation accelerating? Can you imagine anyone in Congress understanding that a strong currency and positive rate of return on a citizenry’s savings gives more spending dollars to those conservative savers? Can you imagine anyone in a position of power on Wall Street or in Washington Scorching The Snake?


Here’s a brain Teaser for Timmy Geithner for his plane ride to Seoul, Korea and this weekend’s G-20 meetings:


If China has 1-year interest rates at 2.50% and the US has 1-year interest rates at 0.21%, which country has the higher probability of empowering their citizenry of savers with more money in 1 year?


I’m in Maine at a non-Groupthink Inc. conference for the next few days. This morning’s 9AM session is called “Thinking Wrong” … At a bare minimum, America’s snake oil salesman “economists” can’t accuse me of thinking inside the economic box they’ve put their people in.


My immediate term support and resistance lines for the SP500 are now 1173 and 1186, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Scorching The Snake - snake


Conclusion: All of the channel checks and analyst calls about how great things are and I still come out that the stock has gone parabolic (as Keith said, the chart looks like Sri Lanka - this has nothing to do with anything other than the charts look alike).  While expectations are lofty, CMG is not giving away gold.


Keith asked me in our morning meeting if he should short CMG ahead of the quarter.  While we have traded around the CMG short, we covered it last at $140, for a small profit.  


With the stock now over $180, trading at 14.5x NTM EV/EBITDA and 32x NTM EPS, the million dollar question is - where is it going from here?


I told Keith that CMG could be the restaurant industry version of insane expectations – à la AAPL, but is probably not a GOOG (in terms of post earnings performance).

  1. Quarterly and annual estimates have been creeping higher - expectations are lofty! The stock is up 35% in the past three months. 
  2. In 1Q10 the EPS surprise factor was 25% and comparable sales came in +4.3% versus expectations of +1%; the stock increased 14% the day after results were reported.  The company reported on 4/22; from 4/20 to 4/26, the stock price rose 14.4%.
  3. In 2Q10 the EPS surprise factor was 5% and same-store sales were up 8.7% versus the street’s 5.4% estimate; the stock was up 9.0% the day after results were reported.  The company reported on 7/23; from 7/21 to 7/27, the stock price rose 14.4% (again).
  4. Expectations are now for an 8% comp (implies relatively flat two-year average trends with the prior quarter) with some estimates approaching 10%. The chance of again beating the same-store sales consensus estimate by 300 bps is small; business is good but not that good.
  5. Higher YOY labor and marketing costs, along with modest food cost inflation, will put increased pressure on restaurant level margin in 2H10, but this seems to be a high quality problem and also a function of tough comparisons.
  6. CMG is expected to provide some guide posts for 2011 and incremental margin pressure is inevitable - commodity exposure!
  7. Unit growth is on track but I don’t seen an acceleration
  8. This is the last quarter of easy traffic comparisons
  9. Upside/Downside is $6/$37.50

Surprisingly, the short interest on CMG is only 12.9% of the float versus 18.8% back in December 2009 and only up slightly since the beginning of the quarter.


Obviously, CMG is on a roll and is loved by “growth” investors.  Yes, the trends are strong, but at some point we need to realize that it’s just a restaurant company and this growth will inevitably slow.


As I said earlier, estimates have been moving higher and at this point, expectations seem to have caught up with this name.  The company’s stock has move higher following the prior two quarters’ earnings reports, but with estimates increasing, I think it will be difficult for the company to maintain its recent magnitude of both same-store sales and earnings surprises when it reports 3Q10 numbers tomorrow after the close. 


I would not be surprised to see CMG report a +8% to +9% comp, which would be impressive, although also relatively in line with consensus.  To that end, I am not expecting a repeat of the 300 to 400 bp upside comp surprise like we saw in 1Q10 and 2Q10.  This 8% to 9% comp would imply flat to slightly stronger two-year average trends, rather than the nearly 200 bp acceleration the company experienced during the second quarter.  That being said, I don’t expect the same level of earnings upside relative to the 25% surprise in 1Q10 and the 5% surprise in 2Q10.  Although the street’s comp estimate seems reasonable, the 3Q10 consensus EPS estimate of $1.31 will be more difficult to achieve, or at the very least, more difficult to surpass by a meaningful amount.


CMG - A SHORT AHEAD OF THE QUARTER? - cmg stock chart train


CMG - A SHORT AHEAD OF THE QUARTER? - sri lanka stock chart flag


Howard Penney

Managing Director


Business is great and expectations are high.



Hopefully, non-recurring expenses won’t be large enough to pull net income into the red again, so LVS will finally show fully diluted shares on the income statement.  Maybe then all of the analysts will finally get the share count right going forward instead of using the much lower number of ordinary shares.  It is extremely unlikely that “non-recurring” items will exceed our forecast of $280 million in pre-tax income.  With Singapore open for a full quarter, it will be interesting to see how much of charges LVS will take.  There were a total of $88 million in Q2.


One time charges notwithstanding, we’re pretty sure LVS will put up an outstanding quarter.  Will it be enough?  Probably not.  Whisper expectations are very high and the sentiment surrounding the upside in Singapore almost seems limitless. 


We think that LVS will report $1,856MM of revenues and $558MM of EBITDA for Q3, beating consensus by 5.5% and 9.5% respectively.  Given the 41% run up in the stock since late August, we think expectations are high – especially on Singapore.   We’re basically in-line with the street on Macau, 7% above on Vegas and 30% higher on Singapore. However, we’re pretty sure that buy side expectations – especially on Singapore – are far ahead of consensus estimates.  Sheldon's recent speech mentioning how MBS was on a run rate of $90-100MM in EBITDA per month probably has something to do with the divergence in expectations and consensus.



3Q2010 Detail:

We expect Venetian & Palazzo to report $64MM of EBITDA on $272MM of revenues.

  • Slot handle growth of 2.3% and slot win of $53MM
  • Table drop growth of 8% and win of $82MM. As a reminder, last quarter hold was only 13.8% in Vegas and was only 12.2% in 3Q09.  So assuming normal hold, we expect to see a huge improvement in EBITDA this quarter both sequentially and YoY.
  • $135MM of casino revenues, net of $11MM in rebates
  • $189MM of non-gaming revenues less promotions & discounts of $41MM (30.5% of gross gaming revenue)
  • We expect total operating expenses to increase 5% YoY to $203MM (compared to $210MM 2Q2010)

We estimate that excluding the $6.5MM loss on “ferry and other Asian expenses”, LVS’s 3 Macau properties will report $295MM of EBITDA on $1,032MM of revenue.  We’re roughly in-line with the street on our EBITDA estimate for the combined Macau properties.

  • We estimate that Sands will report $287.5MM of revenues and $74.5MM of EBITDA (6% below the street)
    • $23MM of slot win and Mass revenue of $132MM
    • RC volume of $6.15BN with a hold rate of 3.03%, producing gross win of $186MM
    • We assume a 97bps rebate rate and a 1.33% commission rate
    • Net casino revenue of $281MM and net non-gaming revenue of $6MM
    • $164MM of variable expenses comprised of taxes, junket commissions, gaming premiums, and estimated bad debt expense
    • $45MM of fixed expenses and $3MM on non-gaming related expenses
  • We have Venetian reporting $606MM of revenues and $196MM of EBITDA (6% above the street)
    • $56MM of slot win and Mass revenue of $245MM
    • RC volume of $10.8BN with a hold rate of 3.05%, producing gross win of $330MM
    • We assume a 92bps rebate rate , a 1.24% commission rate and 23% direct play
    • Net casino revenue of $532MM and net non-gaming revenue of $74MM
    • $296MM of variable expenses comprised of taxes, junket commissions, gaming premiums, and estimated bad debt expense
    • $95MM of fixed expenses and $19MM on non-gaming related expenses
  • We estimate that Four Seasons will report $139MM of revenues and $25MM of EBITDA (6% above the street)
    • $8MM of slot win and Mass revenue of $27MM
    • RC volume of $5.5BN, assuming 50% direct play, and a low hold rate of 2.56% producing gross win of $141MM
    • We assume a 90bps rebate rate , a 1.11% commission rate
    • Net casino revenue of $126MM and net non-gaming revenue of $12MM
    • $84MM of variable expenses comprised of taxes, junket commissions, gaming premiums, and estimated bad debt expense
    • $25MM of fixed expenses and $5MM on non-gaming related expenses

We expect Marina Bay Sands to report $464MM of revenues on $236MM of EBITDA compared to the street estimate of $180MM.  As a reminder, MBS reported $94MM of EBITDA in 2Q2010 despite a 2.18% hold and only a partially open hotel.

  • $425 win per slot, $834MM handle, and $63MM of slot win
  • RC volume of $9.5BN and gross win of $266MM
  • We assume a 1.2% commission/rebate rate
  • Net casino revenue of $397MM and $67MM of net non-gaming revenue
  • $88MM of variable expenses comprised of taxes and estimated bad debt expense
  • $140MM of fixed expenses

Other stuff:

  • We expect Sands Bethlehem to report $82MM of revenues and $14MM of EBITDA (5% above the street)
  • D&A of $188MM

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China's Team

This note was originally published at 8am this morning, October 20, 2010. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Leadership is getting someone to do what they don't want to do, to achieve what they want to achieve.”

-Tom Landry


Per our friends at Wikipedia, “the term America’s Team is a popular nickname in American sports that often refers to the Dallas Cowboys of the National Football League. The nickname originated with the team’s 1978 highlight film, where the narrator opens with the following introduction:”


“They appear on television so often that their faces are as familiar to the public as presidents and movie stars. They are the Dallas Cowboys, America's Team."


Tom Landry was the accountable leader and coach of America’s team. His teams won 2 Super Bowls, 5 NFC titles, and 13 Divisional titles and his 20 career playoff wins are still the most ever by an NFL coach. Ever, as we like to say at Hedgeye, is a very long time…


This year, America’s Team looks like it’s being coached by Ben Bernanke. The Dallas Cowboys have started the season at 1-4. Leadership is lacking and teams playing against them aren’t going to quantitatively ease what they want to achieve in spite of them.


Who is China’s Team? Who are their leaders playing for? Are they willing to do what they need to do to achieve what they want to achieve? Yesterday, China’s Team continued to do exactly what a politicized and feeble American leadership team has not, and will not, have the spine to do – respect the cost of capital and fight inflation.


China raised interest rates because they see what we see. It’s priced in copper, corn, and cows. Until yesterday, it was all staring every real-time risk manager in the face. Before yesterday’s -2% selloff, the CRB Commodities Index (a basket of 19 commodities) hit a fresh YTD high. The score is a stickler that way. It doesn’t lie; politicians do.


Yesterday morning, as Wall Street’s latest leadership lemming was talking about the “power of the franchise” at Bank of America while his stock was hitting a fresh 52-week low, I started laughing out loud in my office…


I wasn’t laughing because my Managing Director of Financials, Josh Steiner, has had me short BAC 9 times (profitably) since late 2009. I was laughing at Brian Moynihan like I would any coach or player who seriously has no idea how badly he is losing.


As the day progressed and the US stock market selloff picked up momentum, breaking a critical immediate term TRADE line of support (1170 on the SP500), it was hard to discern which factor was the driving force…

  1. Was it Apple?
  2. Was it Gold?
  3. Was it Bank of America?

Or was it fear that China’s Team was providing some leadership to this global economic system by doing something that US-centric stock market investors didn’t want them to do? China doesn’t want to hold the bag of inflation risk associated with Bernanke’s Quantitative Guessing.


Notwithstanding that the fear of raising interest rates is a narrative fallacy unique to CNBC watchers (Chinese stocks closed up overnight on news of their rate hike, fyi), this morning’s manic media in America will be right back at it beating the drum of losers.


In yesterday’s missive I wrote that America’s markets are turning into the sort of soft and qualitative excuse making zones where losers find comfort and coddling.


Read these two headlines this morning and you tell me – are we winners or losers?

  1. “Bank of America says it is not responsible for the poor performance of loans due to the bad economy” –CNBC
  2. “Dollar weakens on prospects of Fed officials to signal easing” –Bloomberg

Sadly, I think we have completely lost touch with what America’s Team should stand for. Whether it’s total abdication of responsibility from an Investment Banking Inc. CEO or a Blind Belief that Big Government Intervention is the only way out – it’s driving the winners in this country to trust China’s Team more than they trust their own.


Do you blame them? At the same time that Chinese, Brazilian, and Australian central bankers were proactively addressing inflation risk, the President of the Chicago Fed (Evans), who has never seen a commodity price go up that he’d call inflationary, was “reiterating his belief that the Fed should reassess how it measures inflation.” America, this is embarrassing. Flat out embarrassing.


After waiting and watching, we re-shorted America’s stock market team (SPY) last Wednesday, October 13th at 11:54AM EST. We shorted its conflicted and compromised currency (UUP) on Monday, June 7th at 3:38PM EST.


The losers in this country can call what my team does whatever they want – we call it being on the winning side of this leadership mess. We are Hedgeye Risk Management and we support this message.


My immediate term support and resistance lines for the SP500 are now 1155 and 1170, respectively. On weakness yesterday, we added another 3% to the long Germany (EWG) position in the Hedgeye Asset Allocation Model. Germany’s Team is winning too.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer

China's Team - china


Conclusion: Looking at the macro data, it makes little sense to us that consensus 3Q GDP growth is at 1.9% (per Bloomberg).  Retail Sales, Industrial Production, and Housing indicate to us that a sequential slowdown is more likely what occurred.


We cannot make sense of consensus.  Can you?


As it stands currently, the consensus is showing 2Q GDP growth of 1.9% according to Bloomberg.  Hedgeye is expecting growth of 1.3% and that number could be revised downward, with the potential for an outright contraction in the fourth quarter.  The BEA is expected to release the advance estimate of 3Q GDP on Friday, October 29th.  There is a significant chance that this GDP report is close to consensus expectations as it is the last major piece of economic data before the midterm elections.  The economic data reported of late suggests that.  However, reporting risk remains for a downside surprise to those expectations and here is why. 


As you can see clearly from the charts below:

  1. 3Q10 retail sales slowed sequentially
  2. For the third-quarter, seasonally-adjusted industrial production reportedly grew at annualized pace of 4.8%, down from a 7.0% pace in the second-quarter.
  3. During the third-quarter, seasonally-adjusted housing starts contracted at an annualized pace of 8.16%, versus a 9.38% annualized contraction in the second-quarter.

 USA GDP UPDATE - STAGFLATION? - us retail sales yy chg


 USA GDP UPDATE - STAGFLATION? - industrial production


 USA GDP UPDATE - STAGFLATION? - housing starts qann


In addition to all of this, the August trade deficit was definitely bad enough to reduce the upcoming estimate by nearly 1%.  With a slowdown fully established, the need for inventory building also slows.  From 1Q10 to 2Q10 the contribution to percentage change in real GDP from “change in private inventories” slowed from 2.64% to 0.82%; the 0.82% represented 47% of total GDP growth in the second quarter. 


As a point of reference, when consumer demand contracted in the fourth quarter of 2008, the contribution to percentage change in real GDP from “change in private inventories” dived as low as -2.31%.  Real GDP contracted 6.8% P/P in 4Q08.


Before we get the politicized GDP report a week from Friday, we will get two more data points on housing, both of which we think will be BOMBS.  On Monday, we get the September existing home sales followed by new home sales on Wednesday.  Hedgeye’s financials sector head, Josh Steiner, believes that next Tuesday’s Case Shiller print will be negative for home prices.


Lastly, on 9/27 we noted that new orders for durable goods were (as of July and August's data), seeing a sequential slowdown versus 2Q of 0.3%, while still growing ear-over-year.  While the durable goods number missed overall expectations, when transportation and aircraft were stripped away it beat.


So how could all these institutions (shown in the chart below) have a 3Q GDP growth number above 2%?  If you can offer explanation, please let me know. 


Howard Penney

Managing Director


 USA GDP UPDATE - STAGFLATION? - gdp growth estimates

The defeat of Multiculturalism in Germany?

The debate on Muslims in Germany reached a critical point over the weekend with Chancellor Merkel saying that multiculturalism (or Multikulti in German) has “totally failed” in Germany.  Her remarks follow a heightened exchange on the topic, especially from Germany’s most recognized politicians, after the release of Thilo Sarrazin’s controversial book titled ‘Germany Does Away With Itself’ in late August 2010.


Sarrazin, a former member of the Executive Board of the Deutsche Bundesbank (before being asked to step down last month by Bundesbank President Max Weber) claimed in his book that Germany is facing a collapse due to the growing number of under-educated Muslims that resist integrating in German society, which are contributing to a brain- and welfare drain on the country.  He remarked that Berlin’s Arab and Turkish immigrants had no useful function “except for the trading of fruit and vegetables,” a comment that captured global headlines, cost him his job, and surely severed any chance for a future political career. 


The debate over the integration of Muslims (and generally immigrants) in German society has a long tail. If we consider the period following World War II, Germany had a shortage of labor during the “economic miracle” (Wirtschaftswunder) in the 1950s and 1960s that led to the active recruitment of workers, particularly from Italy, Greece, Turkey, Morocco, Portugal, Tunisia, and Yugoslavia to fuel the booming economy.  After 1961, Turks became the largest group of workers (Gastarbeiter), and despite original intentions from the government for these workers to only be ‘temporary’, many Turks stayed and built or brought over their families to Germany.


Since the settlement of the original Gastarbeiter, who were never recognized as citizens, Germany has wrestled with the status of its immigrant population, particularly those from Turkey and Arabic countries.  For context, today there are an estimated 3.8 -4.3 million Muslims in Germany, of which 2.5 million people of Turkish descent, the largest ethnic minority, of a total population of 82 million.


Over the last decades Germany has actively supported “multiculturalism”, a social, political and economic policy of tolerance, cooperation, and support of Germany’s “non-ethnic” population to knead (integrate) them into the German fabric while respecting their right to preserve cultural differences.  However, critics suggest that multiculturalism never dealt squarely with what some have dubbed the country’s “Islamophobia”, and suggest that multiculturalism was destine to fail given the intolerance of a dominant German culture.


Further, skeptics like Sarrazin say that multiculturalism has failed because Turks refuse to integrate. As supporting evidence, this camp cites that Turks commit more crime than “ethnic” Germans, refuse to learn proper German, and generally underperform in school.


Therefore, it is under this cultural legacy that Chancellor Merkel’s call of multiculturalism as a total failure is so landmark. Merkel’s remark negates years of a perceived progressive policy to integrate its Muslim minority, and sends a defeated tone to its neighboring countries that have also struggled to integrate immigrants from Arabic countries.


However, recent remarks from German President Christian Wullf, who is currently in Ankara, suggest he’s trying to quell the heated integration debate, and lessen Merkel’s absolute statement.  Yesterday, with Turkish President Abdullah Gül, Wullf said, “I consider it wrong to claim that a whole group cannot and does not want to integrate… I am against any blanket judgment.”


We believe that Wullf’s tact is prudent, especially given that Merkel’s blanket statement provides no road-map for integration policy ahead.  


What’s clear is that at a time when austerity measures (in Germany and throughout Europe) crimp economic growth over the longer term, with consumers pinched through higher taxes, lower wages, and less job opportunities, it is the “immigrants” that are often first targeted as a drain on government coffers. Returning to Germany, it’s worth note that surveys and studies by the Berlin Institute have found over repeated years that of all immigrant groups in Germany, those from Turkey are the least integrated, worst educated, worst paid, and have one of the highest levels of unemployment. 


Given these results, and the fact that Germany has a declining and aging population, Germany will need to address its integration policy for it will likely be its immigrants, who tend to have more children, that will be needed to fuel its population and economic growth. If Germany cannot solve its integration issue, especially to education its future labor force, the country will set itself up for an increased drain on its welfare state. From a mindshare perspective, Germany has a large share of the pie in framing the integration debate.  We’d expect the ‘heat’ surrounding recent statements to abate, however this recent controversy may be exactly what the country needs to more constructively address its integration shortcomings.


Matthew Hedrick

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