Thailand: Brink of Anarchy... Not all Asian Economies Are Created Equal

The political crisis in Thailand is spiraling out of control.

Thailand’s central bank left the one day repo rate unchanged at 3.75% at today’s Governors meeting. The decline of inflation numbers in recent months had left conjecture that rates might be eased to help stimulate growth in light of the current global credit meltdown, but Bank of Thailand Governor Tarisa Watanagase –a career bureaucrat who was with the bank during the late 90’s currency crises, has focused on defending the Baht and the domestic risks brought by civil unrest.

Calm heads prevail inside the central bank, but in the streets of Bangkok anarchy reigns. Yesterday 400 protesters were injured (including 2 that required limb amputations) and 2 killed in clashes with military security forces as they attempted to halt the inauguration of the new government of Prime Minister Somchai Wongsawat -regarded as a puppet of ousted leader Thaksin Shinawatra by many (Somchai is the brother in law of Thaksin). An explosion near the capitol building is believed to have been a car bomb.

In the face of a global market meltdown and spiraling violence in the streets, equity investors ran for the exits taking the SET Index to its lowest level in five years.

Andrew Barber

Enjoy the ‘Trade’, Prepare for the ‘Trend’

We went bullish on the market on Mon. Add ‘less than toxic’ retail sales and a global rate cut, and the ‘Trade’ is no surprise. But the “Trend’ is a different story. Prepare to revisit core shorts…

Slice and dice today’s retail sales results any way you want. I’m not even going to try to drill down how much of retail’s price reaction was due to ‘less than toxic’ sales numbers, or the fact that they came in conjunction with a coordinated global rate cut. Either way, the ‘Trade’ here is a good one. That synch’s well with my partner Keith’s bullish call into the turmoil early this week and started, when he started to deploy cash and buy stocks again.

What we can’t hide, however, is that the ‘Trend’ across channels is not only negative, but is eroding relative to prior months. I’m not trying to be a downer by any means. I just tell it like it is. Discount stores? Ok performance, but rolled over by a full point on a 1, 2 and 3-year basis. Multiply that by 3 and you get the rate of erosion for the department stores.

We’ve had 64 consecutive quarters of growth in consumer spending in the US. Our team here at Research Edge collectively thinks that not only is it going negative, but the duration will be well over a year. Through 2010 is not that tough to model. If consumer spending is negative, core inflation and higher interest rates (impacting housing costs – a component of PCE) eat into the consumer’s wallet then the reality is that the magnitude of a consumption decline is magnified by at least 2-3x for discretionary spending.

Bottom line, I still think that margin, earnings, and cash flow growth expectations for US retail are too high for next year, and unlike other consumer spaces, this one is not particularly cheap. If these names bounce with the market ‘Trade’ then look to step on the gas with key short ideas – DSW, GIL, GES, WRC, BWS, TJX, and ADS, to name a few.

UK BAILOUT, debunked...

Briton’s Government takes action

The UK government bailout plan unveiled tonight will allow the government there to invest 50 Billion into preferred equity in domestic banks while the Bank of England will increase a short term credit line by 100% t0 200 Billion GBP (in addition to up to 250 million in loan guarantees intended to stimulate the commercial lending market).

This sweeping plan will partially nationalize the UK banking system and takes the fifth largest economy into uncharted territory. So far Abbey, Barclays, HBOS, HSBC, Lloyds TSB, Nationwide Building Society, Royal Bank of Scotland and Standard Chartered have indicated that they will participate in the program. Similar to the US bailout plan this action will comes with strings attached. Financing is available conditional on executive compensation caps, dividend restrictions for common stock and new consumer lending standards.

It is important to note that the UK has been facing rapidly increasing consumer inflation in recent quarters –leaving BOE head Mervyn King in an unenviable position with respect to rate policy in the current liquidity crises.

Andrew Barber

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YUM’s 3Q08 is the single worst quarter they have had as a public company and you would never know it by reading the press release. U.S. operating profit declined 16%!! We all know China is a big market and YRI is using other people’s capital to grow, which is a good thing, but both China and YRI fell off rather significantly too...

In China, 3Q08 currency-neutral operating profit growth of 8% follows 23% and 26% growth in 1Q and 2Q, respectively (slowed on a 2-year basis as well). The same holds true for YRI. On a consolidated basis, including the benefit of currency, YUM reported 2% operating profit growth or $6 million. In 3Q08, foreign currency translation to U.S. dollars benefited operating profit by $21 million. While the currency benefit was still significant, it slowed sequentially from 2Q for both China and YRI, and management said that the foreign currency benefit would reverse to an unfavorable impact in 4Q for YRI.

On its 2Q08 earnings call, YUM guided to U.S. commodity inflation of over $100M for the fiscal year – now they are saying about $120M. As a result of higher cost inflation combined with continued weakness at KFC (KFC 3Q same-store sales declined 4%), YUM now expects FY08 U.S. operating profit to decline 8% versus its 2Q guidance of down about 3%. There was no change or update to YRI and China’s fiscal year operating profit growth targets.

  • This is the best part, the tax rate helped by $0.03-$0.05. YUM had guided to a 26% rate for the full year and they reported 21.6% in the quarter versus 25.5% last year. Additionally, the lower share count helped EPS growth by 10% - if I modeled a 26% tax rate and kept shares outstanding even with last year’s level, YUM would have reported EPS down about 1%.
  • On 8/21 I posted a note titled “Levering Up to Get Paid.” For YUM to reduce its share base by 10% it needed to borrow $1.0 billion. Senior management does not get paid unless YUM puts up 10% EPS growth. Does it create shareholder value to use additional leverage to grow EPS by 10% so management can get paid?

Be The Change

“Be the change that you want to see in the world”

On October 9th, 2007, the S&P 500 was trading at 1,562. It “was global this time” and oh boy was it levered up long. Tomorrow all of the said geniuses of “Investment Banking Inc.” can celebrate the anniversary of what was the most hyped global stock market mania in world history.

Having been in print with this call since November of 2007, I do not have to feel shame this morning like some should. I have been reading some quarterly hedge fund letters this week, and it’s almost as if they want you to believe that this is all “ok”, because “everyone missed this.” Surely, after the S&P 500 has lost -36% of its value, plenty of people did, but who should pay for the cardinal money management sin of not proactively preparing for risk? The client?

I quoted Gandhi this morning because some of these said “market savants” may very well need an alternative spiritual vehicle to find resolve. For those who didn’t allocate a healthy percentage of their assets to cash, prayer may very well be all that’s left. On 9/19/08 I made the call for a stock market crash (“Beware October 3rd, 2008”,, so I don’t have to sit here and feel bad about this. Since that call, the S&P 500 has dropped -21%. That’s not a victory lap. That’s the math.

The market has been down now for 5 days in a row. Dropping 15%, this puts the crash in the top 3 largest 5 day drops in US market history. Yesterday, today and tomorrow are days that you should be buying stocks, not yelling at one another, and pointing fingers. That’s what losers do.

Yesterday I moved our Portfolio to the following allocation: Cash 79%, Stocks 18% stocks, and 3% Gold. Today, I’ll be selling my yellow rocks and upping my allocation to stocks. This will be done at a measured pace. There is no reason to be running right now. This is what capitalism is; being proactively prepared to seize opportunity when your competition is most vulnerable. That’s not my or Gandhi’s religion. That’s called winning.

What we need here is some leadership, and I for one am not going to bury my head for the sake of looking “humble”, and hide on you today. I was up at 4am, and my investment team was in this office by 530am. We may not be as smart as the said “hedgie” masters of the universe. Some of them will be the first to tell you as much… but we will outwork them, and we do have a plan this morning. It’s the same plan we had yesterday. The only facts that have changed are prices. They are lower. BUY STOCKS.

The US Federal Reserve is going to cut rates and drop money from the heavenly skies this morning, so at least the predictable has occurred. Asian stocks markets crashed overnight, but the issues in international markets are not new to you if you have been reading anything we have been saying for the past 9 months. The British are issuing a $87B bailout program for 8 of their banks. The Russians and Indonesians have halted trading in their respective socialist stock markets. The South Korean Won dove -5.1% leaving it at below its level it saw during the Asian Crisis in 1997-98. Stock markets from Egypt to Austria are down -12 and -9%. The “carry trade” in the Yen is ending, swiftly, and wiping out hedge funds, globally. They are de-leveraging in unison at the bottom. BUY STOCKS.

Merrill Lynch is downgrading the transportation stocks this morning. This is despicable. Where were these bankers and brokers in October 2007? Why weren’t their bosses dialing up their buddy Chris Cox as the SEC getting a ban on long buying?? Unfortunately (for him), Ken Lewis at Bank of America is choking on that compromised and conflicted banking/brokerage unit this morning. His stock got priced at $22 last night, down from $38 at the beginning of the month! That’s a -42% drop. John Mack’s Morgan Stanley is down -28% since that same day. Short selling was banned – where are the evil doer short sellers now? Who are you guys going to point fingers at this morning? Get a mirror.

If you sense an aggressive tone in my key strokes this morning, you should. These said leaders of ‘Investment Banking Inc.’ should be sold short to zero. They took care of themselves before the client. Marcus Goldman is rolling in his grave this morning. He’d have advised the same; it’s time to BUY STOCKS.

Replace their definition of transparency and accountability with some advice that will be here for you when it matters most. We’re here for you. We’ve been winning our whole lives, and we’re not going to stop now. Game time starts in 1 hour and 30 minutes. “Be the change that you want to see in the world.”


The ‘Forever Perplexing’ Bid

‘Forever 21’ stepped in as the first bid 149 Mervyn’s stores. This is bizarre on many levels. If it goes through, there’s impact on several others due to competitive overlap.

For those that do not know Forever 21, it is a fast-fashion retailer targeting trendy teens and 20-somethings (but as usual skews higher). The product sells at prices up to 80% off comparably designed product elsewhere in the market. Is the quality the same? No way. But the customer is one that buys the product, wears it 5 times, and then uses it as a car wash rag.

This has ‘disruption’ written all over it. Consider the facts.

1) Forever 21 has 430 stores, and is looking to buy 149 new ones. This is a lot to digest.

2) Mervyn’s average store size was 80,000 square feet, while Forever 21’s stores are 10-20,000 sq ft. It has one larger format flagship store – but even that is only 40,000 feet. Expertise here in mega-box formats is nil – and launching 149 at once? What are they thinking?? Maybe the plan is to partition off half the store and sub-lease, but that’s not my read thus far.

3) Note that this company’s past acquisitions have been smaller in size. It bought both Gadzooks and then 44 Rampage stores from Charlotte Ruse in 2005.

4) Korea funding what the US market can’t. I don’t see how the company can afford this on its own. This is a small growth retailer with about $1.3bn in revs, $200mm in EBIT, and not a whole lot of free cash to speak of. With such poor accesses to capital, how is this possible?? We can’t even hide behind the ‘lease everything’ argument, because 60% of the real estate is owned. Unless there’s a complex sale-leaseback transaction, this thing will be tough to fund. I guess that’s where support from Korea comes in. That’s where CEO Do-Won-Chang founded (and funded) the chain as the first store’s Clerk, Janitor, Buyer, and Salesman (credit where it’s due to his success). That checkbook in Korea runs deep…

5) Who can be impacted? Check out the pic below. We ran the analysis on what percent of each retailers’ stores fall in a 1, 3 and 5 mile radius to one of the Mervyn’s stores. We included footwear retailers – as 15% of Forever 21’s sales come from (extremely inexpensive) footwear (look out DSW). The bottom line is that Wet Seal, Ross Stores, and DSW have the greatest overlap. Aeropostale, American Eagle and JC Penney are next in line.

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