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Peruvian Crystal Ball

Conclusion: The ongoing election in Peru has uniformly roiled the country’s financial markets over the last several weeks and, depending on the outcome of upcoming polls, the pain could continue. Using a wider lens for analysis, this election has broader implications for the long-term TAIL of economic policy throughout Latin America. In short, we see more economic liberalization on the horizon across the region.

 

Recent moves across Peruvian asset classes underscore just how concerned international investors are regarding the outcome of Peru’s current election, in which a second round runoff vote scheduled for June 5 will determine the next president of Peru for the upcoming five years: 

  • Bond Market: After Peru’s bond market posted its largest quarterly decline since 3Q08 in 1Q11 (10Y yields +93bps to 6.87%), yields continue to break out to the upside, closing yesterday +7bps to 7.17%;
  • Currency Market: Peru’s currency, the nuevo sol, has declined (-1.9%) vs. the USD in the past month;
  • Credit Market: Peru’s 5Y sovereign CDS widened +32bps in the past month, settling yesterday at 152bps; and
  • Equity Market: Since peaking on March 24, Peru’s Lima General Index has declined (-16.4%) as of yesterday’s close. 

Rightly or wrongly, these concerns are centered on the potential for the outspoken socialist, Ollanta Humala, to secure victory in the aforementioned presidential elections. As the above moves would indicate, market participants have prescribed a significant risk premium to holding Peruvian assets, should Humala prove victorious in the runoff.

 

This is due to his public condemnation of the “overly capitalist” nature of Peru’s robust mining industry, which is the key driver of the Peruvian economy. Peru is the world’s largest producer of silver (prices up +145% in the past year) and second-largest producer of copper (prices up +19.1% over the same duration) – two very important commodities as it relates to global growth, inflation, and the associated expectations therein.

 

According to the country’s Finance Ministry, Peru is set to receive roughly $50B in mining, energy, and infrastructure investment during the next five years, up from $7.3B last year and the influx of foreign investment over the past 10-20 years has been a major tailwind for Peru’s exchange rate appreciation, which, in turn, has proven beneficial for putting an end to Peru’s historical bouts with hyperinflation.

 

Therein lies the heart of the worry. As recently as March 23, Humala has promised to increase the Peruvian government’s hand in these key industries by renegotiating mining and energy contracts with foreign companies and raising taxes on mining production if he wins the election:

 

“We must recover sovereignty over Peru’s natural resources because the multinationals now own our gas and prefer to sell it abroad… there must be a mining windfall tax, as the current model isn’t sustainable.”

 

Taking a clue from Peruvian financial markets of late, Humala has backed off his socialist leanings somewhat, saying recently he supports an “open market economy” and “backs foreign investment that creates jobs”. In addition, he affirmed his desire for a “strong state”, while pledging to “respect investment and private property.”

 

Unfortunately for the future of Peru’s mining and energy industries, there’s nothing in Humala’s past that would indicate he’s being sincere about his recent pro-business proposals. In 2000, as a former army lieutenant colonel, Humala led 50 soldiers in a seizure of Southern Copper’s Toquepala mine in protest of the corruption which has tainted the legacy of then-president Alberto Fujimori – father of Humala’s competition in the upcoming election, Keiko Fujimori. In the 2006 presidential campaign, where he lost narrowly to current incumbent Alan Garcia, he denounced foreign companies for “looting” Peru’s natural resources.

 

Diving deeply into the 2006 election, we see that Humala did indeed lose the runoff after capturing the majority vote in the first round with 30.6% of the ballots. His reversal of fortunes in the final round was attributed to his close ties to the controversial Venezuelan president, Hugo Chavez.

 

Essentially, voters became so frightened that Humala would turn Peru into “little Venezuela” that they voted for Garcia out of spite; one-third of Garcia’s supporters in the runoff election said they were voting for him as “the lesser of two evils”. This is saying something about how negatively Peruvian’s view Venezuela’s economic policies, considering Garcia’s last term as president (July ’85 – July ’90) produced Peru’s last bout with hyperinflation (+7,649% YoY in 1990), a (-20%) decline in GDP, a measured reduction in per capita annual income to $720 (below 1960’s levels), and a +13% increase in the poverty rate (from 41.6% in 1985 to 55% at the end of 1990).

 

Humala, who won the initial 2011 ballot with 31.7% of the vote last week, continues to make attempts to distance himself from Chavez, with the latest as recently as today in his denial of allegations that Chavez was financing his election campaign. On March 31, he explicitly tried to steer public perception of his policy-making agenda away from the Venezuela-lite tag that has been assigned to it by the media and his competition by saying, “The Venezuelan model of government isn’t applicable in Peru… We’re not going to copy foreign models.”

 

How successful Humala is in distancing himself from Venezuelan president Hugo Chavez and the 1 socialist policies of Alan Garcia will go a long way towards determining the outcome of this election. There’s no denying he’s got the popular vote, as he remains a man of the people. What can’t be denied, however, is his vulnerability to easy political attacks by his competitors. Simply put, it wouldn’t take much negative campaigning to relinquish Humala’s current stronghold on the Peruvian electorate.

 

Enter Keiko Fujimori, Humala’s opposition in the June 5 runoff vote after finishing in second place in last week’s primary with 23.5% of the vote. To capture the necessarily simple majority needed to become Peru’s next president, her task is fittingly simple – use Humala’s socialist intentions and ties to Hugo Chavez against him to galvanize the voter bases of now-disqualified candidates (the other 44.8% of the first round votes) around her own campaign.

 

To accomplish this goal, she’ll have to successfully distance herself from her father’s increasingly corrupt regime (July 1990 – November 2000), while at the same time talking up the sound economic policies he implemented to plant Peru squarely on the path of economic prosperity. To a large extent, Keiko has been following this playbook by surrounding herself with many of her father’s former aides while publically disapproving of her father’s humanitarian crimes, for which he is currently serving a maximum sentence of 25 years in prison:

 

“I condemn the errors that occurred under my father’s government, and I salute the positive actions. I think we should look at the past objectively and without rancor.”

 

While in office, Alberto Fujimori enacted broad sweeping neoliberal reforms, known then as “Fujishock”. His policies effectively relaxed private sector price controls, dramatically reduced government subsidies and public employment, eliminated foreign exchange manipulation after issuing Peru’s new currency (nuevo sol), reduced restrictions on investment, imports, and capital inflows. In addition, he embarked on an unprecedented privatization campaign in which hundreds of state-owned enterprises were sold to private investors.

 

The right-wing policies enacted during his ten year in office are credited with bringing macroeconomic stability to Peru by taming hyperinflation, arresting the rise in the poverty rate, growing the country’s per capita GDP by +30.8%, and growing the country’s FX reserves to $10B from nearly zero. Given these remarkable achievements, it comes as no surprise that the elder Fujimori still garners very high public support, ranking fifth among all political figures in a recent Univerisdad de Lima survey. Moreover, in spite of a messy, public divorce that caused his daughter Keiko to assume the departed first lady’s role midway through his presidency, popular approval for his regime has grown from 31.5% in 2002 to 49.5% as late as May 2007. He remains the only Peruvian president in the post WWII era to preside for more than two terms in office (albeit after altering the rules near the end of his second term).

 

Regarding his current incarceration, Fujimori’s daughter has made repeated public vows to not pardon her father if elected, saying as recently as today, “I swear to God, I am not going to pardon him. I have repeated several times that that it is neither my intention, nor the intention of my family, to pardon Alberto Fujimori.” This hard line against her father’s crimes – most notably the violent and deadly crackdown(s) of leftist guerillas – might just be enough distance herself from her father on a personal level. On a political level, however, she does indeed share her father’s right-wing economic agenda as well as his popularity among the Peruvian electorate; in 2006, she was elected to Peru’s Congress with more votes than any other candidate.

 

All told, we think the Colombia University MBA-trained Keiko Fujimori (35) may just have what it takes to pull off the upset in the upcoming runoff election. Given, we think the recent sell-off across Peru’s financial markets and the widening of Peru’s CDS spreads might be overblown. We do, however, expect more near-term weakness until we see signs that she is indeed narrowing the gap between her and her fiery competitor, Ollanta Humala.

 

We’ll get our first clue on April 24, when Lima-based research firm Ipsos Apoyo publishes its first second-round presidential poll. Any strength in support of Fujimori might spark a relief rally in Peru’s equity, currency, and bond markets. Any weakness on her part will likely bring about further loess across Peruvian asset classes.

 

Such incremental sell-offs have the potential to destabilize the Peruvian economy and should be viewed as a warning sign to politicians throughout the region. Gone are the days of simply parlaying the poor vote into election victories – particularly at the highest office. As we are seeing currently, Latin American politicians must pay increasing attention to the desires of international investors, as well as the needs of the region’s growing middle class. As resource-rich Latin American countries continue to capitalize economically from elevated commodity prices, we expect this trend to continue. This should put incremental pressure on regional leaders like Dilma Rousseff of Brazil and Cristina Fernandez de Kirchner of Argentina to open up to investor calls for additional privatization of the region’s vast investment opportunities in the coming years.

 

Darius Dale

Analyst

 

 

Sources: Bloomberg LP, Bloomberg.com, Wikipedia.com


R3: WMT, COLM, Fast Fashion, Trade Relief for EU?

 

R3: REQUIRED RETAIL READING

April 19, 2011

 

 

 

OUR TAKE ON OVERNIGHT NEWS

 

Wal-Mart to Buy Kosmix - Wal-Mart Stores Inc.’s early awkward attempts to master social media failed, but the retail giant isn’t letting that stand in its way. The company on Tuesday said it has agreed to acquire Mountain View, Calif.-based Kosmix, the developer of a social media technology platform that filters and organizes content in social networks to connect people with real-time information that matters to them. The purchase price was not disclosed. Kosmix founders Venky Harinarayan and Anand Rajaraman will operate as part of the newly-formed @WalmartLabs, based in Silicon Valley. Wal-Mart plans to expand the @WalmartLabs team and expects the new group to create technologies and businesses around social and mobile commerce that will support Wal-Mart’s global multichannel strategy, blurring the line between bricks-and-mortar stores and e-commerce.  Early pioneers of online shopping, Kosmix’s Harinarayan and Rajaraman’s first company, Junglee, was acquired by Amazon.com in 1998. Kosmix has been working on a social genome platform that captures the connections between people, places, topics, products and events as expressed through social media, be it a feed, a tweet or a post. <WWD>

Hedgeye Retail’s Take: Finally something positive out of Wal-Mart. Kosmix is actually a very interesting model. If layered correctly over its existing frame, the synergies of sheer knowledge regarding what the consumer incrementally wants on the margin should be incredibly valuable to WMT – to the extent that they act on it. 

 

Columbia Sportswear Fall Collection - Portland, Ore.-based Columbia Sportswear’s fall ’11 collection is all about keeping feet comfortable in any weather and on all terrains. For fall, the brand will highlight two major technological stories: OutDry, the patented lamination process acquired by the brand last year that affixes a breathable waterproof membrane to shoe uppers; and Omni-Heat Thermal Electric, a battery-powered in-boot heat source. Prices range from $115 to $200 for most styles, with Omni-Heat Electric boots selling for $400 and more. <WWD>

Hedgeye Retail’s Take: Isn’t it sad to see a company like Columbia so consistently come out with such cool product, and yet it never really catches on and makes a meaningful impact to the P&L? That’s what happens when you start off as a premium brand, and then go too quickly downstream to Kohl’s.  Fortunately for COLM, they’ve actually changed their M.O. and reinvested in the top end of their product spectrum to redefine the brand. This takes time. Until then, Mountain Hardwear and Sorel continue to drive the authenticity part of the COLM model.

 

R3: WMT, COLM, Fast Fashion, Trade Relief for EU? - R3 4 19 11

 

Big Lots Looks at Bigger Stores - Big Lots boasts 1,400 stores around the United States and logged $1.5 billion in sales in the fourth quarter of 2010, but has never had a much of a presence in the Twin Cities market. That's about to change. The Columbus, Ohio-based deep discount chain in March up snapped 90,000 square feet of vacant or soon-to-be vacant "junior box" space in three top-flight suburban locales with plans to launch a big push into the Minneapolis-St. Paul area -- welcome news for a still-ailing local commercial real estate industry. The three stores will open later this year. Welsh Companies senior associate Bob Minks, who brokered the deals, said the company is looking to establish itself here after past efforts to do so were stymied by high rents and poor locations."Big Lots had a number of stores in this market in the past, but they were small stores and were in second- and third-rate locations," he said. "Those stores have pretty well all failed. They were not good real estate. "But with the downturn, they came back a year-and-a-half ago and said, 'We want to take another run at the Twin Cities market. What's going on with rents?'" The answer: They're lower. With 6.6 million square feet of vacant retail space in the market -- including a proliferation of empty "junior box" space due to the closings of such chains as Circuit City and CompUSA -- landlords are looking to cut deals, often with concessions.<StarTribune>

Hedgeye Retail’s Take: Big Lots sits right in the core of companies that should not be a) growing, and b) shifting into larger formats. Operational expertise will be key to running these stores at a healthy margin, but that’s something the company has lacked in the past.

 

American Apparel Seeking Financing - American Apparel Inc., the clothing manufacturer known for risqué advertising, is racing to seal a deal for up to $10 million in rescue financing to avoid a bankruptcy filing, said a person familiar with the matter.  The Los Angeles-based company has held talks with an individual investor in recent days who has expressed interest in providing money for the retailer, run by controversial Chief Executive Dov Charney. The money would come in the form of equity, this person said. The potential investor, whose identity couldn't be determined, isn't a well-known name, this person said. The company hopes to secure a deal as soon as this week. Talks with the investor faced some wrangling in recent days, the person said, and optimism about clinching a deal has faded. If the talks fall apart, American Apparel could be forced to file for Chapter 11 bankruptcy protection as it runs low on cash, the person said. Some close to the company said it can still avoid bankruptcy even if the talks fall apart. <WallstreetJournal>

Hedgeye Retail’s Take: I can’t imagine being a rational investor on one side of the table trying to bang out a deal with Dov Charney on the other. The best way to save this company is to get him out of there, and put a team in place that can preserve and grow the brand equity that fortunately still exists at American Apparel. 

 

Vera Wang Unveils Bridesmaids Line - Drafting off shoppers’ interest in her wedding dresses for David’s Bridal, Vera Wang has unveiled a bridesmaid dress collection under the White by Vera Wang label for the 300-plus unit chain. Last year Wang exited the bridesmaid business after deciding she didn’t have enough access to the collection and couldn’t run it in a way that was timely. In an interview, Wang said, the alliance with David’s Bridal has allowed her to develop bridesmaid dresses “in a much larger and more unusual way with a tremendous amount of support. They are up for anything I am interested in trying.” The seven-piece line of dresses in such shades as orchid, amethyst, charcoal and champagne will ship to 250 David Bridal’s stores in late June. But the designer noted “these dresses are not inexpensive,” with a few retailing for $200. (More cost-conscious brides will find a $158 opening price point.) A one-shoulder short dress with a bubble skirt adorned with oversize rosettes is geared for style-minded wedding parties. But there are also more traditional choices such as a short dress with horizontal pleats and a sleeveless chiffon column dress with swag skirt. <WWD>

Hedgeye Retail’s Take: This is a no-brainer for David’s Bridal, as well as Leonard Greene – who bought David’s from Federated Department Stores (Macy’s) upon Macy’s divestiture of David’s and After Hours Formalwear in the wake of the Federated/May deal. If anything, the risk here is for Vera Wang, particularly as it relates to getting into the business alongside a private equity company with such low price points. Her duration of ‘brand equity’ is certainly greater than theirs.   

 

Cheap Chic Lifts Fifth Avenue’s Fortunes - Foreign retailers of “cheap chic” are colonising New York’s Fifth Avenue as the shopping street that was once a symbol of luxury is transformed by the changing habits of money-conscious consumers. Spain’s Inditex will start work in the next few weeks on a flagship Zara store in a $324m property it bought last month, while Fast Retailing of Japan is planning to open a Uniqlo outlet in the autumn after signing a 15-year lease for more than $300m. The two companies will rub shoulders with high-end brands such as Tiffany, Bottega Veneta and Prada as the Fifth Avenue streetscape becomes a reflection of consumers’ desire to save money on basics so they can splash out on luxuries So-called “high-low” shopping emerged from the depths of Japan’s two-decade economic slump and became entrenched in Europe and the US during the downturn triggered by the financial crisis. But in many big cities luxury shopping zones still remain segregated. Joe Sitt, head of Thor Equities, a real estate group that paid $142m for a Fifth Avenue building last year, said many US retailers had been reluctant to go global at a time when Zara, Uniqlo and Hennes & Mauritz were becoming mass market global brands. <FinancialTimes>

Hedgeye Retail’s Take:  This is a sign of the times, and to stop it would be like trying to prevent water from finding its way from mountain peak to the river. The foreign brands are twice as fast as US companies, which allows them to a) make fashion calls closer to need, b) mitigate leaving money on the table due to obsolete inventory, c) maximize revenue curve, and ultimately d) pass these savings through to consumers while preserving their own margin. How can trendy US fashion brands compete with that?

 

Colombia-Peru-EU Trade Deal is Good news for Textile Industry - The European Commission has finalised the legal review of the Trade Agreement with Colombia and Peru that would open up markets on both sides and increase the stability of this trade relationship that was worth €16 billion in bilateral trade in goods in 2010, sources reported. The agreement includes far-reaching measures on the protection of human rights and the rule of law, as well as commitments to effectively implement international conventions on labour rights and environmental protection, including tariff elimination and improvement in market access in government procurement and services.  The Trade Agreement will also address specific concerns related to a number of EU key export industries. In textiles for example, the Agreement provides for new disciplines in labelling and marking that will limit the amount of information that can be required on a permanent label and thereby prevent overly burdensome and unnecessary labels that are not of strict relevance to consumers. <FashionNetAsia>

Hedgeye Retail’s Take:  Hey…any progress is good news for the apparel biz as it lessens the reliance on China – which has turned into a net exporter of inflation to the US apparel industry.

 

 

 



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HBI 1Q Preview

 

In looking at the upcoming quarter for HBI before the market open tomorrow, we expect few surprises. We’re shaking out at $0.34 for the quarter. Relative to consensus, we expect slightly stronger top-line results to be offset by lighter margins. We don’t expect disappointment as it relates to guidance, as the company still has three quarters of the ‘Gear for Sports’ acquisition to go, which will relieve strain in the P&L that might otherwise be there in the core business. Here’s a look at our assumptions for the quarter:

 

Sales:

  • Top-line growth of 10% in the quarter will be driven equally by organic and inorganic growth in Q1.
  • The Outerwear segment will account for the majority of growth. Gear For Sports alone will account for 5% with another ~2% driven primarily by continued strength at Champion. The balance of incremental revenue is going to be derived from shelf space gains (~2% alone from DG) in addition to modest price increases towards the end of the quarter.

Gross Margin:

  • Cotton remains the primary driver here. With average cost of $0.82 versus $0.52 last year, we expect margins down -200bps by our math with pricing and supply chain savings of nearly +100bps partially offsetting a -300bps cotton headwind.

SG&A:

  • Aside from the top-line, this is where we are most differentiated from consensus. We expect SG&A growth of 8% driven by two key factors, the incremental Gear costs (~$10mm) and continued 3rd party fulfillment expenses of another ~$10mm.

Taking into account $4mm in incremental interest expense related to the acquisition and a tax rate of 21% (one of the greater variables, which could tweak earnings higher) we’re looking at $0.34 versus the Street at $0.34E for the quarter and $2.66 vs. $2.73 for the year. Given the challenging setup from a SIGMA perspective, we see limited opportunity for upside in the quarter with compares getting progressively more favorable providing an offset over the balance of the year. We have numbers going up to $3.11 in EPS next year with FCF increasing from $173mm to $297mm (~$3/sh) in ’11 and ’12 respectively.

 

With the shares up over 20% since reporting Q4, pricing, additional shelf gains, and the latest update on where cotton is secured will be key elements in driving continued outperformance from current levels that we will be looking for on tomorrow’s call.

 

Additionally, one of the keys to the management’s strategic plan and our thesis is that Hanes will be able to command a certain element of pricing in order to navigate current inflationary pressures. In order to track the progress and timing of these price adjustments as well as consumer receptivity, we’ve created a tracking mechanism utilizing our SportScan data that captures ASPs, YY change, and resulting sales growth across four different categories – Champion, Undergarments, T-shirts, and Socks. The charts below illustrate the results. Call us with any questions, or if you’re interested in receiving this with regularity going forward please let us know.

 

 

Casey Flavin

Director

 

HBI 1Q Preview - HBI MdlgAssmpts 4 11

 

HBI 1Q Preview - HBI S 4 11

 

HBI 1Q Preview - HBI PriceMonitor1 4 11

 

HBI 1Q Preview - HBI PriceMonitor2 4 11

 

HBI 1Q Preview - HBI PriceMonitor3 4 11

 

 



STRIP LIKELY REBOUNDED IN MARCH

We’re projecting 8-12% YoY growth in Strip revenues assuming fairly normal hold.  WYNN was likely the standout.

 

 

Based on McCarran Airport traffic volume growth of 2.2% and our statistical analysis, we believe the Strip will post solid growth for March, despite very high slot hold last year.  Table volume and revenues should drive the upside.  This would represent a turnaround from February when the Strip was down 10%.  We believe WYNN may have captured outsized market share on the high end tables and our EBITDA estimate of $87 million remains the highest on the Street for Wynn/Encore Las Vegas.

 

WYNN is reporting tonight and its likely strong Las Vegas performance should be good for MGM’s stock.  Moreover, if these Nevada gaming revenues are where we think they are, that also should be a positive catalyst for MGM, assuming they are released in May before MGM reports earnings.  However, we’re don’t think MGM performed nearly as well as WYNN on the gaming side in Q1 so the actual earnings release could disappoint some of the MGM bulls.

 

Here are our projections:

 

STRIP LIKELY REBOUNDED IN MARCH - vegas


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