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Civil Unrest In . . . Wisconsin?

Conclusion: We may be seeing the early stages of union busting in Wisconsin, which, if successful, could be a marginal positive for the municipal bond market.

 

Position: Covered our short position in the etf MUB on 2/16 in the Hedgeye Virtual Portfolio

 

The last couple of days have seen large scale protests on the Capitol in Wisconsin.  As much as they are likely disgruntled, Wisconsin natives aren’t protesting the fact that Yale (the alma mater of Keith and myself) is ranked ahead of the University of Wisconsin in Division 1 hockey.  Rather these are protests by government unions, in large part teachers, who are upset with the deficit cutting proposals currently set forth by Governor Walker to limit the ability of many public employees to negotiate their contracts on a go-forward basis. In effect, this would end 50-years of collective bargaining rights.

 

Governor Walker’s proposals are seen as aggressive by many on the left and, in fact, being called union busting tactics by much of the prominent union leadership in Wisconsin.  The key proposals include:

 

-          All public employees will be required to contribute 5.6% of their pay to their pensions (much more than now);

-          All public employees will be required to pay 12.6% of healthcare premiums, up from 6% now;

-          Public employees will only be able to negotiate pay raises that are on par with annual increases in CPI;

-          Contracts will be established with a duration of one year; and

-          Union fees will become optional and each year public employees will have the right to vote via a secret ballot to decide whether they want to stay in the union.

 

While the Republicans currently hold a majority in the Wisconsin Senate, with 19 seats of the 33 seat house, they are actually one short of a quorum needed to conduct business.  So, while the debate on Governor Walker’s bill was set to begin yesterday, the Democratic caucus responded by, literally, leaving town.  In fact, according to Democratic State Senator Jon Erpenbach, the Democratic State Senators had actually all left Wisconsin and assembled in Rockford, Illinois.  According to Erpenbach:

 

“The plan is to try and slow this down because it's an extreme piece of legislation that's tearing this state apart.”

 

No doubt leaving Wisconsin and refusing to debate is a sure fire slow down tactic, albeit a theatrical one.  Despite these theatrics in Wisconsin, the reality remains that heading into fiscal 2012, which starts for most States on July 1, 2011, States are collectively facing a ~$134BN budget deficit.   

 

In the past couple of fiscal years, the stimulus program has paid almost $200BN to the States, which has allowed them to fund their budget gaps.  As such, which we outline in the chart below, we have seen a very limited drop off in State and local government employment over the past three years compared to the dramatic drop off in private employment.  No doubt, this is set to change and change dramatically in the coming quarters as State governments will be forced to make cuts. According to some studies, employment costs are as much as 50% of State budget expenses, so it is likely that the battle we are seeing in Wisconsin spreads nationwide.

 

Civil Unrest In . . . Wisconsin? - djchart

 

The extent to which these new plans can be passed will be a function of the strength of the unions, and the extent to which they are willing to battle.  Over the course of the past 40 years the unionization of State and local governments has gone up dramatically, while unionization in the private sector has declined steadily.  Currently, more than 1/3 of these employees are unionized.  So, this lobby is large and motivated.

 

We called this out in our Q1 Theme Presentation, but the risk of these large and well organized unions is that they delay much needed fiscal reform.  Only time will tell the extent to which unions can impeded these fiscal reforms, but the gauntlet is being thrown down as highlighted by some recent quotes:

 

-          Randy Weingarten, president of the 1.5 million-member American Federation of Teachers (January, 2011):

 

“ Governor Christie’s vilification of teachers and their unions is a cloak for all of the cuts that have been or about to be visited upon public education.”

 

-          Gerald McEntee, President of the American Federation of State, County, and Municipal Employees (January 19, 2011):

 

“The stakes have never been higher… We’ll be running ground operations, hitting the airwaves and taking on the forces allied against us.”

 

The battle lines have been drawn and the future of fiscal reform at the State and local level is in the crosshairs.  But the reality remains, fiscal deficits loom and perhaps Governor Walker of Wisconsin summed it up best in a recent article in the New York Times:

 

“I’m just trying to balance my budget. To those who say why didn’t I negotiate on this? I don’t have anything to negotiate with. We don’t have anything to give. Like practically every other state in the country, we’re broke. And it’s time to pay up.”

 

Indeed.

 

Daryl G. Jones

Managing Director


Shorting VFC Again

Yeah...we know...VFC is one of the best managed companies in this industry. But one thing the company cannot manage is the share price. With a 10.8% move off the 1/28 near-term bottom, Keith got yet another shot at this one in the Hedgeye Portfolio,

 

 

Here’s our sense on VFC over three different durations:

 

Long-term:  It’s hard for anyone to call VFC a bad company. This is not management’s first rodeo. They are pretty darn good at making the right business decisions to manage their portfolio, and then managing expectations accordingly.

The fact of the matter is that over the course of 10 years, VFC has…

  • transformed from a vertically owned/operated capital intensive commodity-based apparel company (ie…underwear, denim) to an outsourced and offshored  portfolio of lifestyle brands that carry significant weight the consumer (ie The North Face, Vans). 
  • printed a growth algorithm of 3-5% sales, 5-6% EBIT, and 9-10% EPS. When you layer on the fact that almost all of the incremental growth came from less capital intensive businesses, we see that RNOA went from 9% to 16% over that same period. That’s not half bad. In fact, it’s clearly above average relative to peers.

 

I’d argue that we’re at the point of the ROI decision tree where the business will slow organically at the same time we’re seeing severe cost inflation -- -and that’s exactly when VFC will step on the accelerator with acquisitions. We’re already modeling stock repo in our model, so we may have to redistribute the cash to above the line if a deal happens. We also will not give the company a free pass that any deal will be a good one. The industry is at peak margins right now, and valuations do not represent that. VFC knows how to vet a deal, and even they have had their share of disasters (7 for All Mankind). Also, let's not forget that this company's long-term transformation happened when the industry had the biggest milti-year tailwind that it experienced -- ever. 

  

 

Intermediate Term

  • Ultimately, with such a diverse portfolio of brands, consumers and channels of distribution, VFC is really a double edged sword. The mix protects them from some downside, but it precludes the company from fully capturing upside in the event of a rebound.
  • In the end, it’s hard to outperform the industry meaningfully when you ARE the industry. Unfortunately, 2011 will be a dark dark year for the apparel industry in the US. VFC may well be able to steer its pricing and inventories better than most, but the biggest risk is what they can’t predict – which is the irrational behavior on the part of competitors as margin is literally sucked out of the supply chain.
  • Bottom line – numbers need to come down for 2011. The Street is at $6.80 for next year vs. $6.30 in 2010. The $6.30 is very doable this year, but this company should consider itself lucky to earn that level again in 2011. Numbers are off by $0.50.

  

 

Short Term

  • 4Q10 is the last ‘easy quarter’ revenue and margin compares – which is largely due to growth in company retail (2x the usual revenue recognition) and strength in TNF.
  • This is going to come down to earnings catalysts.
  • Will VFC ‘lower the boom’? on its conference call in a few weeks? I think that there’s a 75% chance of some official guide down, and 25% chance of a BIG one (ie calling for a flat year).
  • Is it in the stock already? With an EBITDA multiple of 8.6x, my vote is No. RL is trading at the same multiple – but the difference is that the Street is LOW by 15% on RL.

R3: JWN, BWS, LIZ, AAPL

R3: REQUIRED RETAIL READING

February 18, 2010

 

 

 

 

RESEARCH ANECDOTES

  • Nordstrom indicated that the company’s sell-throughs of full priced merchandise are at all time highs.  Average price points are also above prior peak levels (’04-’07) although management was quick to point out that this is a function of consumer preference for fashion rather than a calculated effort to raise prices.
  • After a string of rumors, it now appears likely that Apple will open its largest store in the world in one of the busiest places on earth.  Grand Central Terminal.  The site expected to be over 40,000 square feet.  Details are still scant but speculation suggests the store could open as early as next fall.  Grand Central sees 700,000 people pass through its building each day.
  • With a turn in profitability pushed out again at LIZ, management’s tone suggests they will be more receptive to the prospect of selling brands within the portfolio over the near-to-intermediate term. While a sale would most likely involve one of the smaller labels in Partnered Brands near-term, the pressure on Juicy and Lucky over the next 12-months is now more present than ever.

OUR TAKE ON OVERNIGHT NEWS

 

Brown Shoe Acquires American Sporting Goods - After weeks of rumors, Brown Shoe Co. announced on Thursday it had acquired American Sporting Goods. Brown reportedly purchased the Aliso Viejo, Calif.-based company for $145 million in cash plus assumed net debt. In a released statement, Brown said ASG in 2010 accrued $232 million in sales with earnings of $29.6 million. The acquisition is fully funded through borrowing under Brown’s revolving credit agreement. ASG’s brand portfolio includes Avia, Ryka and And 1. The privately held firm has been on the market since 2005. "Acquiring ASG adds the critical element of performance athletic footwear to our comfort and fitness offerings, better positioning Brown Shoe to meet consumer demand for products that support active and healthy lifestyles,” Brown President and COO Diane Sullivan said in a statement <WWD>

Hedgeye Retail’s Take:   Crossing into athletic is one thing but acquiring assets tied largely to toning is another.  Recall that Avia and Ryka both entered the toning scene in the past year at mid-tier prices.

 

Nordstrom Buys HauteLook - Nordstrom Inc. is acquiring HauteLook Inc., a leading Web site staging private, time-sensitive “flash” sales, in a stock deal valued at up to $270 million. The purchase marks the beginning of what is likely to be a pivotal year ahead for Nordstrom as it ventures deeper into cyberspace and advances its “multi-channel customer-centric model.” The retailer will also be testing mobile checkout, equipping sales people with other advanced point-of-sale tools, as it accelerates its mobile and social networking strategies. YiFi has already been added to the stores.  According to Blake Nordstrom, president of Nordstrom Inc., in two years as many people will be accessing the Internet via mobile devices as with computers. <WWD>

Hedgeye Retail’s Take:   While the price may appear steep for business with very few financial details publicly available, it is clear that JWN is very focused on being ahead of the curve with technology and the changing retail distribution landscape.  Interestingly, HauteLook carries very little inventory instead relying on a “flow through” model. 

 

Reebok Links with Swiss Beatz - It’s been a good week for Swizz Beatz. Fresh off his Grammy win with Jay-Z for "On to the Next One" on Sunday night, the artist-producer unveiled a collaboration with Reebok designed to breathe new life into the company’s Reebok Classics brand.  During a press conference at its Project show booth here late Tuesday, Reebok said Beatz, who is married to singer Alicia Keys, will help develop sneakers and apparel for holiday and will lend his street cred to the brand beginning immediately. <WWD>

Hedgeye Retail’s Take:  Remember Pharell’s Ice Cream shoes?  Or what about Jay-Z’s S. Carter line?

 

Dolce, Gabbana Hearing Ends in Postponement - The first preliminary court hearing to determine whether Domenico Dolce and Stefano Gabbana will have to stand trial for alleged tax evasion was held here Thursday. Judge Simone Luerti presided over the hearing, which was not conclusive and was postponed to March 25. A source said the hearing was deferred because “the defendants’ lawyers asked for more time to draw their conclusions.” Luerti will evaluate the evidence provided by Milan-based prosecutor Laura Pedio and has the option to dismiss the case if the evidence doesn’t justify moving forward. <WWD>

Hedgeye Retail’s Take: With over a billion dollars in question here, this story is likely a close tie with the Berlusconi scandal in Italy. 

 

NRF Forecasts 4% Retail Sales Growth for 2011  - The National Retail Federation projected retail industry sales, -excluding automobiles, gas stations, and restaurants - will increase 4.0% from 2010. The cautiously optimistic outlook comes on the heels of seven consecutive months of retail sales growth and better than expected holiday sales. With retailers ending last year on a strong note, thanks to robust holiday spending figures, the prospects for economic growth are starting to look better. However, with small businesses continuing to hold back on hiring and expansion plans and consumers facing higher energy costs, questions remain about the speed and strength of the retail spending momentum.  <SportsOneSource>

Hedgeye Retail’s Take:  A 4% growth rate would actually be pretty good if achieved.  Expect the NRF to also offer numerous other bullish forecasts as the voice of the retail industry often does.

  

U.K. Retail Sales Surge - U.K. retail sales rose almost four times as much as economists forecast in January as consumer spending rebounded after the coldest December in a century.  Sales gained 1.9 percent from the previous month, when they fell a revised 1.4 percent as snow and freezing temperatures kept Britons from shopping, the Office for National Statistics said today in London. The gain was the biggest since February 2010 and exceeded the 0.5 percent median forecast of 22 economists in a Bloomberg News survey. From a year earlier, sales increased 5.3 percent. Services and construction industries also rebounded last month after weather-related slumps, and today’s data add to evidence that the economy’s 0.5 percent contraction in the fourth quarter may have been a temporary setback to the recovery. <Bloomberg>

Hedgeye Retail’s Take: A positive proxy after one of the snowiest January’s in recent history and consistent with what we are seeing thus far in terms of a February sales reacceleration across much of the country with a notable exception on the west coast.

 

Cotton Hits $2 - Cotton topped $2 a pound for the first time ever as accelerating global growth boosted demand for garments manufactured in China, the world’s biggest fiber consumer and importer, amid shrinking supplies. China’s apparel exports in January surged 34 percent to $13.38 billion from a year earlier, the Customs Bureau said this week. Cotton stockpiles monitored by ICE Futures U.S. have plunged 84 percent since June 1, and flooding in Australia and Pakistan reduced output. “The bulls have gone berserk, and it looks like they want prices to go higher,” said Sid Love, the president of Joe Kropf & Sid Love Consulting Services LLC in Overland Park, Kansas. “China’s demand still remains strong.” <Bloomberg>

Hedgeye Retail’s Take: As prices continue to surge higher, expect the shake out of marginal players in the basics business to begin.  

 

 

 


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THE M3: SO COMMENTS; VENETIAN MICE; SPORE PACKAGE; VIVA MACAU; LRT; CHINA RRR

The Macau Metro Monitor, February 18, 2011

 

 

SJM DOUBLES REVENUE IN CHINESE NEW YEAR Macau Daily Times

According to CEO Ambrose So, SJM Holdings saw a double-digit increase in GGR during CNY.  On the Ho drama, “There is no impact on us and no significant change in the direction and development plans of SJM Holdings,” So said, recalling that STDM is not a major shareholder of SJM.  So also addressed concerns that future changes to the smoking laws in casinos may have an impact on business. “By setting up some smoking areas, you give opportunity to people to choose. But I don’t think this will affect the casino business,” he added.


VENETIAN MACAU'S CONVENTION BREAKS RECORD Macau Daily News

Convention and Exhibition business at the Venetian Macau made a record‐breaking performance in the first thirty days of the year. There have been more than 100,000 delegates from 40 companies and leisure travel groups.

 

SINGAPORE PLANS $5.2 BILLION BENEFITS PACKAGE FOR CITIZENS WSJ

S'pore Finance Minister Tharman Shanmugaratnam revealed a 6.6 billion Singapore dollar (US$5.2 billion) plan to help battle the effects of inflation.  "Our first approach is to seek to moderate medium-term inflationary pressures through the Singapore dollar exchange rate policy of the central bank," Tharman said.  But he added, "Using the exchange rate to offset sudden spikes in prices, such as what we have seen in oil prices over the last six months, would require a sharp appreciation of the Singapore dollar. This would disrupt our exporters."

 

For individual taxpayers, the government proposes to reduce the marginal tax rate on the first S$120,000 of taxable income. In addition, all taxpayers will get a 20% personal-income-tax rebate for the 2011 year of assessment, capped at $2,000.  There would also be one-time measures such as a 20% rebate on corporate income tax and cash grants for small and medium enterprises.


US STATE DEPARTMENT TO PROBE VIVA MACAU DEMISE Macau Daily Times

The US State Department is investigating the termination of Viva Macau to check if the Macau Government expropriated property of US investors.  According to newspaper Greenwich Time, one of Viva Macau’s backers, private investment company MKW Capital Management, accused flag-carrier Air Macau and jet fuel supplier Nam Kwong Oil of conspiring to pull the low-cost carrier out of the sky.


MORE QUESTIONS ARISE AS DOCUMENTS MENTION MISTAKES Macau Daily Times

Estudos e Projectos/Setec its (EFS), which since March 2009 was in charge of the project management and technical assistance for the first line of the LRT, detected “23 mistakes and non-compliances” in Mitsubishi’s proposal.  MDT also reported that the LRT file is missing several documents.  These problems are downplayed by the Transportation Infrastructure Office, known as GIT.

 

CHINA RAISES REQUIRED RESERVE RATIO Reuters

The PBOC raised its required reserve ratio by 50 bps, the second such raise this year. The hike will be effective starting Feb 24.



Hawkish Winds

“I am but mad north-north-west: when the wind is southerly I know a hawk from a handsaw.”

-William Shakespeare

 

You know when a French policy maker is more hawkish than you about inflation, that you’re a pretty dovish and left-leaning central banker. Despite all of the fiat Pig Paper flying around Europe these days, The Ber-nank’s Burning Buck continues to lose credibility versus the Euro by the day.

 

Ahead of the Almighty Central Planning meetings this weekend in Paris, France’s Finance Minister, Christine Lagarde, said this morning that, “we clearly need to keep inflation at bay”… and that “too much inflation is not going to be conducive to growth.” On the margin, European policy rhetoric continues to be more hawkish than America’s – and that’s saying something.

 

After hearing President Obama on his fiscal plans to amplify America’s Disaster Deficit and listening to Ben Bernanke profess to the world that he sees no inflation, we re-shorted the US Dollar this week. It’s already down a full 1% from where we shorted it. It remains broken across all 3 of our core risk management durations (TRADE, TREND, and TAIL). And, unnervingly, it has no long-term support to its post 1971 closing lows.

 

If you study the history of the US Dollar pre and post President Nixon abandoning the gold standard (1971), you’ll see that it’s become fashionable for US Presidents and their politicized heads of the US Federal Reserve to act in unison (both from a fiscal and monetary policy perspective) to attempt to debauch and devalue their way to political prosperity.

 

In trying to get re-elected in 1972, “Nixon wanted a large dollar depreciation to goose the US economy, but Pompidou feared that this step would saddle Europe with a larger loss of competitiveness.” (“Exorbitant Privilege” by Barry Eichengreen, page 76). And when Pompidou was the one criticizing Nixon on not being hawkish enough, the US definitely earned its currency credibility problem.

 

Preceded by Charles de Gaulle, Georges Pompidou was the President of the French Republic from 1969 until he died in 1974.  If Nixon wanted a tutorial on how to run a deficit and devaluation strategy, these French gentlemen had as much experience as any of the world’s post WWII central planners.

 

In 1972, Nixon had his modern day Ber-nank (Arthur Burns) cut interest rates and this caused the US Dollar to do exactly what it’s doing now – weaken. Sadly, Burns was then politically wedged into attempting to monetize the US Federal Debt thereafter (i.e. buying Treasuries) and The 1970s Inflation that was born out of these short-term political decisions was obviously President Jimmy Carter’s to deal with by the time the horses left the barn.

 

Now I’m not suggesting that the Obama/Bernanke team is as dovish and left leaning on the central planning front as the Carter/Burns combo was, but I am saying that if the US Dollar continues to be debauched that it’s going to be a tight race.

 

Yes, I think Bush/Bernanke had many of the central planning tendencies that Nixon/Burns did. And, yes, there’s been good reason why no Federal Reserve chief has tried to monetize the US debt since. Most of the Keynesians were evaporated by Paul Volcker. Now they’re back.

 

In Dollar Debauchery do Americans trust? Does the Rest of the World have any reason to trust America as the fiduciary of the world’s reserve currency? Is global trust an entitlement, or is it earned out there in this interconnected global economy every day?

 

These are important questions that Keynesian ideologues don’t need to help us with – because the answers are marked-to-market on your screens every minute of every trading day.

 

To be crystal clear on my Global Macro positioning here, I am hawkish and long of The Inflation.

 

As a Long/Short Global Macro Risk Manager who isn’t pigeon holed into being long-only French or American stocks, there are many ways to capitalize on these Hawkish Winds:

  1. LONG - Food Inflation (Wheat, Corn, Soy)
  2. LONG - Currencies of countries with hawkish central banks (Chinese Yuan, Canadian Dollar, Swedish Krona)
  3. LONG - Financials in socialized countries that have made banks too big to fail (JP Morgan, Goldman Sachs, CIT)
  4. SHORT - Sovereign Bonds of countries with deficit and currency devaluation central planners (US Treasuries, Japanese Government Bonds)
  5. SHORT - Currencies of countries with dovish central banks (USA, Japan)
  6. SHORT - Emerging Markets (India, Brazil, or countries in the Middle East)

Sure, US-centric, long-only, perma-bull strategists like Bob Froehlich and Don Luskin who I debated on Kudlow last night can belly up to the blow horn and howl “Dow 14,000” whenever they have a live wire on TV. But if you are Froehlich and you said “Dow 14,000” in January of 2008 and again in February 2011, have you really taken any lessons from the most recent crash and evolved your investment process? I think Americans have.

 

The British, the French, and the Japanese have learned this lesson of abusing entitlements the hard way. It’s taken many years and many charlatan politicians telling stories about Big Government Deficit Spending and Currency Devaluation being the way of the future. It’s taken many a Hawkish Wind to stand up to the tyranny of centrally planned economies and markets too.

 

But when the wind of a bond, currency, or stock market turns southerly, I think most of the people who have empowered these said fiduciaries with our hard earned moneys “know a hawk from a handsaw.”

 

My immediate term support and resistance levels for the SP500 are now 1328 and 1342, respectively.

 

Enjoy your weekend and best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Hawkish Winds - MM1

 

Hawkish Winds - MM2


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