Seeking Alpha

Hedgephone's  Instablog

Hedgephone
Send Message
www.HEDGEPHONE.com is a website devoted to value investing, macro trading, technology, market news, politics, and economics -- basically everything you can imagine that relates to stocks. We are historically very conservative in our investment decisions. Protecting capital is more important than... More
My company:
HEDGEPHONE.COM
My blog:
Hedgephone
View Hedgephone's Instablogs on:
  • Inflation Could Impact These 15 Investments
    Cost Push Inflation "is a type of inflation caused by substantial increases in the cost of important goods or services where no suitable alternative is available." I feel one of the best examples of this is what happened to oil prices in the summer or 2008 and what is happening in Gold, Silver, and Foodstuffs comes as the result of the following monetary policy and economic issues:

    1. Tremendous increase in the money supply (banking reserves) causing a decreased demand for paper money and increased investor allocation toward hard asset investments and a run to overvalued levels in stock markets. 
    2. Supply shortages in Oil, Wheat, Cotton, underinvestment in new refineries, smelting, aging population among farmers, lack of interest in farming, etc..
    3. A Keynesian idea among global central bankers that proposes that countries should print more money when commodity prices rise because rising commodity prices will cause a recession, and that recession causes resulting inflation. I feel that this approach is backwards because inflation is the result of money printing and supply shortages -- this is why cheap Natural Gas, Solar, and Wind are so important for our energy, environmental, and economic future.. 
    4. Keynesians are right to a degree to fight deflation when GDP crashes and unemployment skyrockets due to a liquidity crisis, however the end result of constant money issuance becomes sovereign default, currency debasement, and potential hyperinflation which will result in higher borrowing rates for US companies and for the US government -- Just like any business owner understands, you can't borrow money to pay interest on your debts and succeed for very long. Plenty of hedge fund managers have tried this, and have ended up behind bars.
    5. Keynes himself believed that currencies should be fixed to a basket of commodity prices, calling for the creation of the Bancor, which would not be a fiat currency at all -- so many Krugman style "Keynesians" believe debasing paper money and temporarily propping up TBTF failing companies is a cure all, when even Keynes refuted the notion that printing money can end recession by permanently printing money to continue funding the spending spree on pork projects that is now a Federal governemnt addiction -- Japan failed miserably trying this strategy of crony bankster capitalism and it doesn't work.
    6. Congress has allowed the banking system to become much larger with far fewer players, making these companies "too bigger to fail" -- Roubini
    7. With the newly coined banking reserves, investment banks are able to aggressively move markets in directions that help their book and resulting P&L. (this usually happens on Mondays and the first of the Month)
    8. Never one to be overly negative, I would say that the bailout and first QE were somewhat warranted given the level of the stock market and commodity markets, but the second QE was a reckless and dangerous move. However, not changing the rules (leverage ratios, Glass Steagall, Short Sale Uptick, etc... means that the house of cards could once again come tumbling down -- in this instance I believe inflation is ultimately the concern investors should focus on and buying commodities is likely a great investment for the mid term.Stagflation in my view is now becoming a near best case if the breaks can't be tapped on food prices pretty soon...

    Over the past two days, the WSJ, Yahoo Finance, and Zerohedge have  penned numerous articles on the rising cost of raw materials and surging grain prices. Here are four recent examples:

    WSJ
    http://online.wsj.com/article/SB10001424052748704409004576146212095173604.html?mod=WSJ_hpp_sections_business

    Yahoo:
    http://finance.yahoo.com/news/World-Bank-Food-prices-at-apf-1943856598.html?x=0&sec=topStories&pos=main&asset=&ccode=
    (http://finance.yahoo.com/news/Chinese-shoppers-struggle-apf-3773627009.html?x=0

    ZH:
    (http://www.zerohedge.com/article/according-its-national-bureau-statistics-chinese-food-prices-have-increased-46-ten-days

    Commodities are up on average of 40% over the past year, which is nearly double the rate of appreciation of stocks over the same time period. Housing makes up 40% of the CPI, and as interest rates continue to rise housing will be under continued pressure.

    The following ten stocks and five ETF's have been chosen by www.Hedgephone.com as having higher risk for margin compression over the coming year than the average stock on listed exchanges. Remember, profit margin compression tends to lag raw materials inflation by six months to a year, as supplier inventories are drained and new raw materials must be purchased.

    KR -- Grocery firms are particularly at risk if food prices continue to rise. Until grocery firms start buying wheat and soybean futures to hedge risks, margins could be hurt as price hikes and cost increases are not easily passed on to the customer. Wages are not up 40% YOY and if food companies cannot find a way to lessen the blow, prices for the end consumer will likely rise -- KR is cheap on cash flows, which is likely due to the market pricing in fears of food price increases. KR has a 13 PE or a 7% earnings yield.

    SVU -- appears cheaper on a cash flow basis, but the debt load from the Albertson's purchase could hurt margins if interest rates rise which could drive up their cost of capital and decrease earnings and cash flows. SVU is a cheap stock on cash flows and trades at around 7X forward earnings. SVU sports an EV/EBITDA of 4.66 and Albertson's is a strong brand name -- I would be (and am) long this name versus other stocks on this list.

    K -- Kellogg's is a great business, but higher wheat and grain prices directly affect this company's bottom line. Valuation here are reasonable at a 16X earnings with an EV/EBITDA of 10X -- However, investors should be concerned that the top line lacks growth while cost of goods sold could rise if raw materials prices continue to surge.

    HNZ -- Heinz is a relatively inexpensive stock but rising costs of production could hurt valuations going forward. At some point, rising fuel, farming costs, wages, and raw materials costs could crimp profit growth at HNZ.

    KFT -- Kraft is cheap, but the company is saddled with plenty of debt. KFT's 27 Billion of negative tangible book value and direct exposure to rising food costs make shares more potentially more risky than the market, which is likely why the company is trading at a cheap valuation of 11.8X earnings and 10X EV/EBITDA.

    MGM -- As consumers face declining discretionary income in direct proportion to rising food and fuel costs, gambling the rest of the monthly paycheck may not be as enjoyable at an MGM property. However, the allure of Poker and gaming is a long term trend. Investors in this name should pay close attention to the overall state of the consumer.

    ANF -- Clothing and apparel retailers are faced with margin pressures, but ANF has ample cash flow and a strong record of growth. At a 49X PE multiple and a 19X forward PE multiple, investors are taking on some risk if growth slows down due to higher raw materials costs.

    DDS -- Dillards is another pure play on consumer spending and on commercial (mall based) real estate. DDS was a cheap stock a couple of years at $4 but today at $40, investors putting new money to work here are ignoring the risks of higher cotton, food, and fuel prices that could crimp consumer spending and drive increased cost of goods sold for DDS if they can't pass these input cost increases on to the shopper.

    WFMI -- Whole foods is not cheap based on earnings, as it is trading for over 40X trailing earnings and 29X forward earnings. If food price hikes curb profit growth, the forward multiple could contract and investors could be hurt. WFMI is a long term secular growth story which banks on the trend toward healthier food and lifestyles. However, as costs rise and consumers have less to spend due to the invisible tax of inflation, WFMI could see it's fat bottom line squeezed.

    EJ-- The Chinese property market appears to be quite frothy and Jim Chanos says that 70% of Chinese GDP comes from housing, which is totally unsustainable. Inflation is running much hotter in emerging markets as stronger growth fuels higher raw materials prices. Look for more rate increases in China going forward.

    Index Funds Susceptible to Cost Push Margin Pressure

    RTH -- The Retail Holders Trust is arguably in the midst of a speculative bubble. Just two years ago, shorting retail was the "go to" trade for investors who wanted to hedge their market risk. Today, the short squeeze in this fund have driven the index toward all time highs.

    IWM -- It is an old and common tenet on Wall Street that higher inflation hurts domestic small business much worse than large cap, globally diversified companies. If the dollar falls out of favor, for example, companies that import goods or businesses that have to purchase raw materials to produce goods sold within the U.S. could face strong margin pressures as wage increases are not keeping up with overall raw materials prices. 

    EEM -- The emerging market economies are most at risk of revolt and upheaval due to higher food prices. When a nation lives on $2 a day and food prices rise 30%, starvation is a very real threat to the way of life of billions of human beings and revolution is a natural response. The revolts throughout the world currently are evidence that food price hikes hurt the emerging nations the most and that investors in these countries face a whole new set of political risks when accounting and modeling for future food price increases and their effects on the global economy. 

    FXI -- China, as I mentioned earlier, is likely in the midst of a property bubble and unchecked inflation could cause political and economic turmoil. While China is one of the biggest growth markets in the world, inflation is a big risk factor for investors in Chinese stocks. President HU seems to be focused on rate increases, but as the U.S. prints more and more money controlling inflation will be increasingly difficult for China.

    IWO -- The Russell 2000 Growth Index is at more risk from rising prices than the IWM because growth typically does better than value in a period of low interest rates. One thing QE2 has not done, is lower benchmark interest rates. If interest rates start to rise because of food and fuel inflation, the growth argument is less appealing as investors will focus on hard asset companies until the interest rates and commodity price hikes cause an economic contraction, at which point something like utilities, healthcare, and defense names could be an interesting theme to research further.

    In all, we expect America to rebound from here, but the stock market is not a risk free proposition. At www.hedgephone.com we try to explore equity and commodity market fundamentals and teach investors about managing risk and protecting capital.


    Disclosure: I am long SVU.

    Additional disclosure: short IWM,long DBA, SLV, GLD
    Feb 14 3:41 PM | Link | Comment!
  • Are We Heading for a Meaningful Correction?
    Stock markets are very popular at the moment as those on the sidelines have missed out on meaningful gains over the past two years. The valuations from a CAPE perspective (at roughly 23X) look expensive while stocks appear overbought. HFT machines, like trend followers, don't want to be long during a sell off, and once the tide turns investors must prepare for the possibility of lower stock prices regardless of forward PE ratios. When the markets begin discounting the end of QE, stocks could have problems even if earnings come in better than expected. Several stocks appear undervalued here, but the average equity in the Russell or Nasdaq are likely overvalued by a significant amount right now.
    As you can see, the Russell is showing major technical problems, but the overvaluation is much more important for investors to research going forward. Here are some names which look downright expensive right now:

    SFSF -- Successfactors looks vulnerable at 260X forward earnings. Meanwhile, historical operating losses should make investors nervous regardless of the story behind the rise in price.

    DDS -- Dillards was a $4 stock two years ago, and now trades for over $40 with plenty of risk at 20X earnings and a sizable premium to book value.

    TZOO -- Travezoo trades for 50 times earnings with just over 10% revenue growth historically with little to no earnings growth over past few years in aggregate.

    QPSA -- Quepasa is a company with 500K in cash, very little book value, and a 230MM market cap. Maybe, they are the Facebook of Latin America or maybe Facebook is the next Facebook of Latin America. At any rate, don't buy this one with the kids college funds just yet.

    IWF -- The Russell 2000 Growth is like the IWM only more overvalued.

    QLD -- The double short QQQQ is only a good short if Apple heads lower. Due to the tragic Steve Jobs news, a sell off could happen despite a fairly reasonable forward multiple and an amazing growth historical growth rate.

    TYH -- The tripled leveraged Russell 1000 Technology index has gone vertical and is due for a serious and painful pullback, in my opinion. Will it happen? I think it's a strong possibility that the markets are toppy here, but a crash is in no way guaranteed in the short run. Use this index fund as a hedge and not as a directional bet.

    UUP -- The US dollar looks very weak under $80 which has been a floor for the Dollar for decades. Retail futures traders are incredibly bullish on the Dollar which is another reason to consider shorting this or at least buying some commodity exposure as a "long hedge" against short positions.

    CMG -- Chipotle is not a cheap stock and with food costs rising margin pressure will likely play a bigger role in the stock's performance in 2011. Shorting the June $250 calls seems like a much better play here than going outright short on the common stock. 

    OPEN -- Opentable.com trades for 130X earnings, 70X forward earnings, and operates in a market that is finite and facing margin compression from QE's food inflation ramp up (note that the Egyptians are proof of this trend).

    DAL -- Delta has around 10 billion of debt to pay off, and the Airlines face huge problems with higher fuel costs and pricing pressures from Priceline, Travelzoo, etc...

    WMG -- Warner has a huge debt burden and billions in negative equity to pay off while the music business was crushed by the advent of the internet download. The buyout pump was actually part of WMG's bid for EMI -- so the stock should have actually been dumped due to this increase in leverage into a seemingly dying business vertical. WMG may step into new media and save the day, so stay nimble and sell calls instead of shorting the stock.

    -------------------------------------------------------------------------------------------

    The first day of each month usually tends to be an up day, so make sure you watch your risk before committing capital to the short side on Tuesday. With that said, the fundamentals do not appear robust enough for TZOO to be worth 400% more than it was a year ago and the same can be said of SFSF, CRM, OPEN, IWM, TYH, etc...

    Disclosure: I am short IWM, IWF, CMG, OPEN, DDS, TZOO, QLD, TYH, SFSF.
    Tags: TECL, IWM, CMG
    Jan 29 4:28 AM | Link | Comment!
  • Unless you're a short seller or a poet looking for a wealthy spouse, it never pays to be pessimistic -- Lynch
    Boy am I glad I covered some of my hedges yesterday! Wish I would have covered all of them, but I still feel this market is overowned and hyped right now and that the greater fool buying frenzy in the nasdaq is mania... HOWEVER, there are some dirt cheap equities out there like TOT, COP, NWLI, KCLI, JNJ, PEP, MCD, VLO, SHLD, RIG, etc...........

    Nowadays everyone has a CFA oriented mindset where "correllation" is all that matters and everyone just buys the most overvalued and heavily shorted names on up days and shorts the index on down days.... The problem I have with correllation as an investment tool is that beta only gauges past price action and not valuation, business moat, management ethics, or future performance.

    If two stocks are correlated for five years and then one suddenly explodes ala Enron, correlation AS RELIGION leads to some messy results.

    I would rather stand still than invest in "high beta" names up here, but I do think that some decent call spread plays are out there in RIG, SHLD, FCX, CHK, etc...

    I believe (and may be wrong) that the market is a bit exhausted after running up 100% or more in some cases and it needs to rest, and maybe even correct 5% or so... With that said, I am still in a calendar spread collar position for the most part with some commodity exposure again and some special situation deep value investments un-hedged...

    IBD issued a sell signal as did many on Fast Money, etc... interesting to see the big short squeeze day today but unless we close above the 20 period MA on the daily chart and 1200 on the S&P and 2513 on the nas it was likely not the start of the next uptrend but another government aided headfake like we saw multiple times in 2008. Hopefully the world is magically healed, but realistically I feel that it is not and that the QQQQ and IWM are stretched here at their 2007 highs -- bigtime resistance and lacking fundamental justification... not lacking pumpers though imo.

    I am not at all net short here (considering adding a put position that would tilt me a bit short in an emergency) and if you want to be long I would consider selling calls against your stocks for some downside protection. It's been an amazing run for equities.

    HAppy Investing
    Nov 18 3:44 PM | Link | Comment!
Full index of posts »
Latest Followers

StockTalks

More »

Latest Comments


Posts by Themes
Instablogs are Seeking Alpha's free blogging platform customized for finance, with instant set up and exposure to millions of readers interested in the financial markets. Publish your own instablog in minutes.