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85% Cash

The second time is a charm here - if you are net long the US market that is. This is our second test of the high end of my S&P 500 “Trade” range in the last two weeks. The first of course was the 88 point, +7.3%, S&P 500 rally from the oversold 1201 intraday print on July 14th – the latest was a 50 point, +4.1%, move in the last 48 hours. Positive short term “Trade” momentum in the US Dollar, US small caps, and anything with high short interest has appreciably improved.

Fortunately, I’ve been running net long. That said, I have been nervous about being net long the whole way up! I am not going to stick around and wait for a third rally. I will not regret saying that I missed it, if it occurs. In the last 2 weeks I have moved to 85% cash. I think patience in the next 2 weeks will pay. There is going to be too much pin action into and out of tomorrow’s employment report for my liking. Sometimes doing nothing is the best decision I can make.

Could the S&P breakout for a shark bite squeeze if the US employment report is more bullish than I am expecting tomorrow? Definitely. Could the US financial system crash on any given trading day this summer? Definitely. For every short term bullish fact on my sheet, there’s an equally bearish intermediate one.

The question from here is one of duration. I’m more comfortable taking a step back so that I can see the next week of facts. I want to let this psychological fire breathe how it may. I’m having a great year so far, and the last thing I am going to do is put my hard earned capital at risk betting on an employment number or Ben Bernanke. What I think he should do at next week’s FOMC meeting, and what the political winds could force him to do, are two very different things.

I wrote a few intraday notes in the portal yesterday that speak to the bullish “Trade” case from here. Volatility (measured by the VIX) and Oil under 21.52 and $127.46 respectively are bullish market factors driven by a US Dollar Index holding its head above the 72.69 line. Bernanke could support these emerging bullish macro factors if he raises interest rates, and breaks inflation’s back. He could also blow it up if he panders to the political winds and devalues the American currency again at game time.

The Fed extended its emergency lending facilities yesterday to January! In plain English, that means that “Helicopter Ben” will drop cheap money onto Wall Street for the foreseeable future. This is a cute, but more appropriate, nickname than any other for Bernanke until he stands up, provides some leadership for the US Dollar, and moves away from Greenspan’s easy money air show.

Respect in any game is earned, not appointed. For now, team Bernanke/Paulson is running out of time on the clock and, for now, I am not ready to bet on their coming out of this looking like they won mine.

Best of luck out there today,
KM



MGM: Q2 DOESN’T MATTER BUT EVERYTHING ELSE DOES

MGM MIRAGE will release EPS on Tuesday before the open. There is chatter that Q2 wasn’t “that bad” despite some horrible May Strip gaming revenues released by Nevada. Does that mean I want to rush out and buy the stock? Probably not. The major issues MGM faces are prospective from Q2, not least of which are related to CityCenter and liquidity issues, potentially as early as 2009. Let’s delve into the issues that actually do matter and will hopefully be addressed on the call.

  • 1. Room rates moving back to loss leader status – I’ve written extensively about rates regressing to the mean. LV casinos need occupancy to fill the big fixed cost structure known as the casino. Casinos drop rates faster than Seldon hit the deck against Tyson at the MGM Grand in 1996. Rate changes fall right to the bottom line. The first chart highlights ADR as a clear driver of EBITDA margin.

  • CityCenter financing – This is certainly not the environment to be raising billions of project financing for a consumer centric project. Currently, MGM is kicking in $100m a month to the project until financing can be arranged.

  • MGM MIRAGE liquidity – MGM management was smart and fortunate to sign such a flexible and low cost credit facility. The problem is that it matures in 2011. The bigger problem is that the company will exhaust its availability, sometime in 2010, unless they obtain additional financing. As the second chart shows, MGM’s liquidity position is tenuous as early as 2009 if they are forced to fund CityCenter throughout 2008.

  • Potential Condo cancellations – MGM has indicated that the $8.5bn CityCenter price tag is net of $2.7bn in residential sales. The company won’t come close to this number. The rate of current cancellations is meaningless. Buyers will wait until the last minute to cancel. It’s a simple decision: First, do I still have the financial position to afford this thing; Second, does the drop in value since I signed on exceed my deposit. The first is unknown but in many cases a no, the second is probably a yes.

  • The dollar – Where would MGM’s results be without the weak dollar attracting significant foreign visitation. The company recently indicated that the percent of visitors at the Bellagio is triple the normal percentage. If the Fed starts raising interest rates and the US consumer economy remains soft, look out.

  • 2009 Recovery – Why is management confident that there will be a recovery in 2009?

  • MGM’s senior management team could be the smartest in the business. They’ve got some big hurdles to overcome. Let’s hope they outline their plan to address these issues as early as the Q2 conference call next week.

MGM's margins benefitted immensely from higher ADRs
MGM's liquidity position assuming company funding of CityCenter throughout 2008

Chart of the Week: HBI Options Pain

HBI's management team is heavily compensated in options. When Rich Noll said 'I'm not happy with sales results, he wasn't kidding. How's this chart for a motivator?

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LIZ: Still on my ‘Favorites’ list

With JNY’s stock popping today, the obvious question is what happens to LIZ when the company reports tomorrow. The market is already assuming some good news. As bad as the retail space is, the data I’m looking at suggests that the market won’t be disappointed.
  • 1) First off, as it relates to P&L/Balance Sheet triangulation, LIZ is starting off in a similar place as JNY (see chart below – and see JNY post for info on how to interpret the chart). I think inventories are in check – in part supported by the year/year change in average selling price heading higher. At the same time, LIZ cycles against massive margin headwinds, which should solidify LIZ in the ‘sweet spot’ of its margin/inventory cycle.
  • 2) Wholesale business is still extremely poor, but sales decline in the core Liz Claiborne brand have stabilized since the last conference call. See Exhibit 2.
  • 3) Check out my 5/13 post as to why I like this name over the next 1-2 years. It has arguably more fat than any other company in the space. With a new CEO who is bordering on not being ‘new’ anymore, he has to either a) show that his recent investments are working, b) cut costs if his bet was wrong, or c) lose his job. I think any of them is a positive stock event. The Board has changes incentives to facilitate 2009 as the break-out margin year – and I think this is attainable even with supply chain pressures.
  • Full disclosure is that my Partner Keith McCullough (he’s the expert on the stock – and me on the fundamentals) is not a fan of this name now from a quant standpoint. I’ll bow out of the debate as to whether it is going up or down by a couple bucks near-term, but the 1-2 year margin call is going to be tough to justify only a $13 stock if I am right.
I think that LIZ heads squarely into Quadrant 1 with 2Q results.
Liz Claiborne Department Store sales appear to have stopped eroding during the quarter (source: NPD).

LVS: CRAPS VOLATILITY TOMORROW BUT COULD THERE BE A SILVER LINING?

Playing Las Vegas Sands into a quarter is a high stakes crapshoot. The stock is off almost 70% from its high. The chart shows the 1 year stock performance including annotations for big moves. During the past 12 months, LVS experienced 73 days where the stock moved over 1 standard deviation, including 9 two standard deviation moves, 2 three standard deviation moves, and 1 four standard deviation move. All four of the last earnings releases generated a 1 or 2 standard deviation move so expect some major volatility tomorrow.

What should we expect from earnings tonight after the close? Las Vegas won’t be pretty and is probably getting worse. Room rates are not done falling. I’m pretty sure the new Palazzo hotel/casino is struggling. The other potential negative for the quarter will be Macau margins due to escalating Junket commissions. However, Macau is where LVS may actually “roll the point” should they choose to discuss the July performance of Venetian Macau. Despite a so-so month for the market overall, I believe Venetian may have stolen some markets share. July foot traffic picked up dramatically in July as I wrote in my 7/24/08 post “MACAU UPDATE FROM THE GROUND”. If Vegas is salvageable and my intelligence on Venetian is correct, a short squeeze could push the volatility into the 1 or more standard deviation range, on the upside.

Bankruptcy Cycle Continues

Restaurant chains Bennigan’s and Steak & Ale, owned by privately held Metromedia Restaurant Group, filed for Chapter 7 bankruptcy protection yesterday and immediately closed the doors of about 200 restaurants. These closures do not include franchised locations. Yesterday’s bankruptcy filing follows the largest single restaurant bankruptcy earlier this year (Buffets Holdings, Inc.), and as I said before, the cycle is only just beginning as today’s consumption recession combined with increased costs is impacting operators across the industry.
  • Although all casual dining operators will benefit from this reduced capacity, Brinker’s Chili’s restaurants should be the biggest beneficiary as Bennigan’s was a direct competitor within the bar and grill segment. From a geographic exposure standpoint, both Bennigan’s and Steak & Ale’s most penetrated markets overlap with Chili’s locations. Specifically, 23% of Bennigan’s domestic restaurants (includes franchised locations) and 27% of Steak & Ale’s restaurants are in Texas. Chili’s has the most geographic exposure relative to its total number of stores to Texas (accounts for 17% of its restaurant base). Chili’s second biggest state is Florida where 11% of its restaurant base is located relative to Bennigan’s 18% and Steak & Ale’s 21% exposure.
  • Chili’s returns have been hurt recently by its own overly aggressive unit growth and by over capacity in the casual dining segment. EAT management had already taken steps to reverse its declining returns by slowing unit growth plans for FY08, FY09 and FY10. Now, excess capacity within the industry, particularly within the bar and grill segment, is starting to come down.
Restaurant Base Exposure to Bennigan's Most Penetrated States—% of Respective U.S. Restaurants
2008 bankruptcies do not include Bennigan’s and Steak & Ale

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