KM covering - Immediate-term TRADE oversold. McGough remains bearish on Jones Group for the intermediate term TREND. Fundamentally, we still don’t think that this company will earn over a buck ever again without major internal change.
POSITION: Short SPY
While it’s difficult to quantify how many people agree with our outside-of-consensus view of US Growth Slowing, we are certain that the percentage of people coming into our camp is rising.
Time and price tend to do that, particularly when the most immediate-term data points start to positively correlate with the most immediate-term price reaction.
DATA: This morning’s US Industrial Production print coming in FLAT (0.0%) sequentially for April (versus May) has the Industrial stocks getting slammed (XLI = -1.6% on the day as of 1PM EST), and people asking themselves if the “earnings” of cyclicals are indeed cyclical.
PRICE: Across our core 3 investment durations (TRADE, TREND, and TAIL), this is what Mr. Macro Market is telling me today:
Provided that 1319 can hold for a few days, we’ll call this Drawdown Risk for what it has been – a -3.2% correction. If 1319 doesn’t hold, I think 1207 for the SP500 sometime this summer comes into play.
That would be a very different scenario than the sellside consensus view about US Growth and SP500 returns for 2011 - and that’s precisely why you should start thinking about it.
Remember, Big Government Intervention A) shortens economic cycles and B) amplifies market volatility.
Keith R. McCullough
Chief Executive Officer
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We don't buy into the financial engineering story here now inasmuch as we didn't believe in the TGT one back then (2008). - KM
Once again, JCP’s guidance isn’t quite as robust as it first appears. The headline suggests that full-year outlook was raised to $2.15-2.25 up from $2.00-$2.10. The reality is that relative to the company’s initial guidance provided at year-end, this ‘new’ outlook includes not only share repurchases (adding $0.20 in EPS), but also $35mm in additional SG&A savings (another $0.10 in EPS). By our math, that implies $0.15 of core earnings erosion. The earnings growth here continues to be largely driven by a combination of allocating capital in the form of share repurchases at the top and cost savings that include pension expense reductions. With same store sales of +3.8% coming in at the lower end of company’s guidance of 3-5% and e-commerce (+6.6%) a key driver also coming in below full-year expectations for double-digit growth – full year same store sales guidance still appears robust in our view.
We’re still convinced that JC Penney is in the center of the bulls-eye as it relates to the erosion in retail margins in 2H that is yet to be appreciated by a) management, b) earnings expectations, or c) valuation multiples.
Oh, and by the way, if I hear one more person tell me ‘I can’t short JCP in the face of Ackmanism,’ I’m going to scream (or laugh – one or the other).
It's always interesting to compare and contrast HD vs. LOW, but this quarter, the diversions are not quite as severe as the market suggests. Two Takeaways: Though the market could care less, 1) this is the first time in years that the 2 companies share similar slopes in SIGMA (P&L/Balance Sheet triangulation. 2) LOW actually looks better on paper than HD.
The market is painting HD as the hero and LOW as the goat. One beat and guided up, the other missed and guided down. While LOW’s comp of (-3.3%) was so much weaker than Depot’s (-0/6%), AND the underlying trendline (2, 3-year) also underperformed, check out the directional moves in our SIGMA (below). Nothing to take from Depot here. It printed a better quarter. Period.
These two companies have been duking out differing inventory strategies for a while, ‘stack it high, let it fly’ vs. ‘lay it low, let it flow), as well as the case regarding square footage growth vs. risk of increased cannibalization. All-in, we think that LOW usually wins that argument from a return on capital perspective. But that's longer term.
Above all the noise out there, there's something that clearly caught our eye.
Simply put, this is the first time in years that both of these companies shared a similar slope in SIGMA trajectory. What does this slope (down and to the left) mean? Aside from resembling a slider, It means that on the margin, both companies had a build in inventories relative to the top line AT THE SAME TIME profitability eroded ON THE MARGIN.
We’ve always said that these SIGMA charts don’t necessarily give us all the answers, but they do ensure that a) we’re asking the right questions, and b) we get a glimpse into how management teams trade off their P&L vs. their balance sheet in a given environment. The very simple take-always in looking at this chart are…
1) Given the nearly identical slopes for the two since well before the recession, we’ve gotta call this out as meaningful. We don’t like to call a trend based on one data point – but ignore this one at your own risk (especially on a day like today where housing data came in weak).
2) While the slopes of the lines are the same, their positioning is different. Depot is in what we call the ‘Danger Zone.’ That’s where margins are up, but inventory is building. The likelihood of a stock going up as it enters this quadrant (and stays there for one more, subsequently), is below 20%.
3) On the flip side, LOW is resting in what we call ‘Clean Up Mode.’ That’s where margins are off, but the company is actively doing so to keep the balance sheet whole. The risk for LOW is that it continues its current slope. If that’s the case, then there’s a better than 90% chance that the stock will go down. But if it keeps itself clean and can ‘start over’ with its product flow heading into summer, we’d be surprised if HD continued to outperform LOW.
Resist the urge to jump to conclusions on FL (which we like) based on the significant comp miss out of DKS (which we don’t like) this morning. If FL trades off, it will look all the more appealing heading into the print. Consider the following…
We don’t want to send the wrong message here – this s not a stock we love. It’s not a great business, it’s far too over-indexed to one vendor, and it’s not super cheap at 6.2x EBITDA. But there is plenty of ‘outside-the-box’ execution to be conceived and executed upon here in the new regime. We still think that after the call, this will slowly but surely convert some of the perennial perma-FL-haters’ into viewing this as a story that can manage double digit EPS growth and can buy back 30% of the float within 3-years. That’s not half bad… While not our favorite stock, it is one we think should keep working in 2H.
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