FL: Maintaining the Mo in Q3


We expect a solid Q3 out of FL Thursday. Despite the overhang of NBA related headline risk, the already-anemic basketball category actually improved on the margin, and overall industry sales appear to have accelerated throughout the quarter. The latest NPD data which is a component of our (statistically-valid) comp predictive model, supports our above consensus view.


We’re at $0.46 for FL on a comp assumption of +7.5% for the quarter headed into Thursday’s print, which is ahead of the Street at $0.39 and +5.3% respectively. We’re increasing our comp assumption to +7.5% from +6% based on stronger sales coming through in October. Through the first two months of the quarter, the Athletic Specialty channel was tracking up +3.1% -- well ahead of the total industry -- which had been tracking up +0.8%. With the Athletic Specialty channel tracking ~200-400bps ahead of aggregate weekly numbers we took up our estimates as October came in closer to up +2% as reflecting in the weekly data.


It’s important to note that weekly footwear numbers reflect the broader industry sample and therefore understate the underlying sales performance in the athletic specialty channel that most accurately reflects sales at athletic retailers such as FINL, DKS, HIBB, and FL in particular given its contribution to the sample set. October data out today confirms continued outperformance in the athletic specialty channel, which came in up +4.8% compared to the broader industry up +1.2% right in-line with our expectations.


In light of sales coming in stronger at quarter end, we have increased our GM estimates to 160bps over last year driven by +100bps in occupancy leverage and 60bps from merchandise margin, which may prove conservative as well a 5% increase in SG&A to support more active marketing efforts. This equates to EPS of $0.46 for the quarter up from our previous $0.42 estimate and $1.83 for the year vs. consensus at $0.39 and $1.72.


While we have been incrementally less bullish on the stock up here north of $22 given the near-term headline risk associated with the pending NBA strike, we expect the stock to maintain its underlying momentum when it reports results Thursday. With the stock currently trading at 12.5x and 11x our F11 and F12 EPS estimates respectively and below its historical average of 13x-15x, we would be looking to get more constructive on any weakness.



Casey Flavin


FL: Maintaining the Mo in Q3 - FL CompTrack 11 10 11


FL: Maintaining the Mo in Q3 - monthly FW growth by brand table


FL: Maintaining the Mo in Q3 - Monthly market share by brand


FL: Maintaining the Mo in Q3 - sales growth by channel 11 14 11


FL: Maintaining the Mo in Q3 - weekly FW Apparel chart 11 14


Weekly Latin America Risk Monitor: Credit Markets Get It; Equity Markets Do Not

Conclusion: Price and issuance data out of Latin American credit markets suggest a more negative outlook for regional economic growth than do equity markets. Additionally, this week’s data analysis contains a handful of supportive nuggets for our King Dollar thesis.



Latin American equity markets were mixed last week, closing up +0.6% wk/wk on a median basis. The divergence between the three largest economies was striking: Mexico +2.4%; Brazil and Argentina down -0.2% and -0.4%, respectively. Mexico appears to have benefitted from some better-than-expected U.S. economic data last week.


The action in Latin American currency markets was a bit more muted, closing down only -0.1% wk/wk on a median basis. The Brazilian real outperformed, closing up +0.6% wk/wk.


There were a few notable moves across Latin American sovereign debt markets, headlined by the -26bps wk/wk drawdown in Brazil 2yr yields. Mexico, which got a bid largely due to the aforementioned factors, saw their longer maturities back up +18bps and +23bps on the 10yr and 30yr tenors, respectively. We saw similar divergences across Latin American interest rate swaps markets as well: Brazil -20bps tighter on the 1yr tenor; Colombia +35bps wider on the same maturity.


5yr CDS signaled a fairly dramatic heightening of risk across the region, widening +13% wk/wk on a median percentage basis. Keith has been vocal about the widening divergence between the credit markets and equity markets globally and our research, Virtual Portfolio, and Asset Allocation positioning all suggest we think the credit markets will continue to lead the equity markets down the road to perdition.



Rather than delineate these data points by country, given the varying size and importance of these economies, we thought we’d try something different by grouping them by theme. Ideally, this should make it easier to absorb and contextualize anything of significance. Lastly, the callouts below are from the prior seven days:


Global Growth Slowing:

  • Brazilian retail sales growth slowed in Sept on both a real (+5.3% YoY vs. +6.3% prior) and volume-weighted basis (+4.8% YoY vs. +5.4% prior).
  • Even with total credit growth running 330bps higher than the central bank’s upwardly-revised 17% target in the YTD (through Sept), Brazilian policymakers are debating whether or not to remove the restrictions on credit they’ve imposed over the last year, which includes (but not limited to): increases to reserve and capital requirements and doubling a tax on consumer loans. The government may also consider implementing selective tax breaks on a per-industry basis. While a broad-based easing of regulatory policy is likely to be quite supportive for Brazilian economic growth, we think their desperation in the face of heightened inflation and heightening risk of adverse selection in credit extension speaks volumes to how sour the upcoming growth data in Brazil is likely to look. Patience will be key for those considering the long side of Brazilian equities at this juncture.
  • Mexican domestic vehicle sales and vehicle production growth both slowed in Oct; the former to +2.2% YoY (vs. +12.2% prior) and the latter to +9% YoY (vs. +14.1% prior).

Deflating the Inflation:

  • Brazil CPI slowed in Oct to +7% YoY vs. +7.3% prior – the first of what we expect are many sequential decelerations over the intermediate term.

King Dollar:

  • Petroleo Brasileiro SA saw its 3Q11 profit fall -26% YoY, as the real’s -17% decline in the quarter (vs. the USD) increased the company’s dollar-denominated debt service costs. Anticipating a breakout to new intermediate-term highs in the US Dollar Index, we remain bearish on emerging market equities due to many factors – not the least of which is the risk that FX translation imposes upon EM corporate earnings.
  • Contra-indicator: Demand for Mexico’s shortest term bills (28-day cetes), surged to 4.15x via the bid-to-cover ratio as investors bet increasingly on a peso rally. This was the highest total since July 26 – just prior to the global beta sell-off in late July/early Aug.
  • Mexican corporations are selling record amounts of peso bonds in the YTD (176.9 billion pesos), as rising dollar funding costs and global investor risk aversion contributes to a near-closure of Latin American international debt markets. The $9.33 billion in total issuance in the YTD is down -61% YoY. The rising scarcity of dollar-denominated issuance means a decreasing amount of USDs are being converted into EM currencies and an increasing amount of EM currencies being converted into USDs to meet debt service requirements (as opposed to dollar-based refinancing).
  • The decline in Argentina’s FX reserves and dollar deposits is accelerating, despite an aggressive sequence of government efforts to stem record capital flight. FX reserves have fallen -2% in the month-to-date to $46.6 billion, which is the largest 2wk drop since Oct ’08. Dollar deposits have declined -5% in the YTD (vs. -0.9% through Oct 28) as the newly-imposed, strict rules preventing easy transfer of money out of the country triggered bank runs – forcing Fernandez & Co. to lower the regulatory dollar reserve requirement ratio to 20% (from 100% prior) to help banks meet rising customer demand for cash. The FX market isn’t buying into the government’s manic efforts to prevent capital flight; 6mo peso non-deliverable forwards closed the week at 5.1150 – a -16.7% discount to last week’s closing spot price!

Sticky Stagflation:

  • Chilean CPI accelerated in Oct to +3.7% YoY (vs. +3.3% prior) – the highest since Apr ’09. No surprise to see this, as the prices of crude oil (Brent) increased +6.6% during the month. Consensus calls for further dollar debasement continue to weigh on international consumers.
  • Peru’s central bank, which is struggling with accelerating inflation into year-end as we had predicted, decided to keep rates on hold at 4.25% (rather than join Brazil in cutting).
  • Argentina is increasing peak electricity rates by +129% for large commercial users starting next month as a part of the plan to reduce energy subsidies nationwide. We expect to see some of these added operating expenses filter through to Argentinean consumers and slow real GDP growth on the margin – irrespective of the government’s made-up statistics.


  • Mexican industrial production growth accelerated in Sept to +3.6% YoY vs. +3.4% prior.


  • The Brazilian central bank, which has taken some heat for cutting interest rates in the face of near six-year highs in inflation, has confirmed that it is using a largely unproven economic model to calculate its monetary policy prescriptions. Their new, 18-variable DSGE model post-dates the analytical community’s 7-variable models and grants them a higher level of forecasting confidence in slowing inflation than currently exists in the Brazilian private-sector economist community. While we have been highly critical of Tombini succumbing to political pressure to lower the nation’s debt service burden, we commend him for standing by his evolved process in the face of groupthink and analytical complacency. Moreover, we continue to expect Brazilian inflation to make lower-highs over the intermediate term – putting our forecasts in line with their own.
  • Brazil is using to its worker’s compensation fund to buy up a record R$2.8 billion MBS in a plan to support homeownership by helping banks maintain funding for mortgage origination. As we detail in our Brazil Black Book, the country simply does not save enough on an aggregate basis to finance its robust portfolio of growth opportunities with domestic capital – hence the need to import capital from abroad. This makes Brazil especially vulnerable to the global risk appetite and capital markets volatility. To this point, only two Brazilian companies have issued dollar bonds since July 20; corporate and sovereign international debt sales are down -15.9% YoY in the YTD.
  • As mentioned before, Mexico’s proximity and leverage to the “safe-haven” that has become the U.S. economy in 2011 is helping it outperform its emerging market peers in the equity markets. Three-month implied volatility for the iShares MSCI Mexico Index Fund dropped to 6.58 points below the iShares MSCI Emerging Markets Index last week – the widest gap since Apr ’09. “Mexico is levered play on the U.S. economy,” remarks David Spegel, head of EM strategy at ING Groep NV.

Darius Dale



Weekly Latin America Risk Monitor: Credit Markets Get It; Equity Markets Do Not - 1


Weekly Latin America Risk Monitor: Credit Markets Get It; Equity Markets Do Not - 2


Weekly Latin America Risk Monitor: Credit Markets Get It; Equity Markets Do Not - 3


Weekly Latin America Risk Monitor: Credit Markets Get It; Equity Markets Do Not - 4


Weekly Latin America Risk Monitor: Credit Markets Get It; Equity Markets Do Not - 5


Weekly Latin America Risk Monitor: Credit Markets Get It; Equity Markets Do Not - 6

JCP: Buh-Bye



The JCP print was yet another event boosting our confidence that there is a severe duration mismatch between expectations for most institutional investors vs. Activists, vs. Management. We think that understanding the different durations is especially important with JCP given that it is a reasonably well-hated name (22.4% of the float is short) in retail with management incrementally investing capital into the model to transform the business.


In other words, the Street is beating up the company for doing the right thing. Usually, we love stories like this, as they tend to lead to share gain and margin growth on a disproportionately smaller operating asset base. This was RL, LIZ, NKE, to name a few. And yes, we think that it will ultimately be JCP as well.


But as we’ve been saying since our July 28th Black Book (JCP: What the Ackmanists are Missing), before JCP becomes the best stock in the S&P, it’s likely going to be the worst stock in the S&P. The company is investing today to make changes. But as Johnson openly states, he needs to completely overhaul this company to make it ‘America’s Favorite Place to Shop.’  JCP has bad real estate where it is captive to mall traffic, below-average brands, very little pricing power despite its clout – even at the factory level given its near-vertical positioning, and a competitor in KSS that simply has better stores in just about every way, and as of this year reached 50% overlap with JCP as it relates to footprint (stores within a 5-mile radius).


Valuation Considerations

Unless you are blessed with a mandate to Outperform over a 7-year time period (like Ron Johnson is), the biggest thing to consider with valuation is that it takes a distant back seat to actually understanding what the earnings levers are, and how and when the company gets there.


Let’s look at them over several durations.


TRADE (3-Weeks or less): JCP’s 4Q guidance is absolutely not a slam dunk. With Ullman getting up there and saying that comps will be flat to positive slightly and GM% will be flat to down slightly after six quarters of inventory growing an average of 5% faster than sales – we can’t simply give this company a free pass there. Here’s another consideration, in looking at year/year discretionary spending, over the past six months we’ve had a positive influx of 4-5%spending in non-essential categories on the part of the consumer. For the next five months – barring a collapse in oil or the unemployment rate – we’re looking at -2-3% yy. That’s a -5% sequential turn, and like most retailers, there’s very little chance that JCP can avoid this. We’re still shaking out below $1 in EPS assuming a 2% decline in comp compared to the company’s guidance of $1.05-$1.15 in Q4.


In the end, it’s easy for Ullman to throw out targets to the Street…because he won’t be on the call in January to defend why he missed.


TREND (3-Months or more): Ron Johnson will be coming out of his protective shell in late January at an analyst meeting in New York. That’s where he’ll roll out his strategy for reinventing the company. We can’t imagine that people will walk away uninspired…but we also think that this is the market expectation right now. One thing that RJ cannot do is roll out his plan without telling everyone how much it will cost. That’s when we think there will be sticker shock.


Do we know the dollar amount? No. But in adding up all of what we think is deferred maintenance over time, we can get to a number anywhere between $1-3billion. I realize that’s a range wide enough to drive a truck through. But the reality is that he’s going to pick a number he thinks he needs, and then he’s going to gross it up to a number that he wants. There’s a difference. Again, his $50mm in warrants get him paid based on what happens 7-years out. He’ll has a free pass with the Board  to take a whack out of CASH earnings (every $1 billion is $2.50 per share) to get the company to a best-in-class retailer.


Some will argue that people will look through any special charges. We disagree. Remember that Johnson has absolutely no problem disappointing the shorter-term agenda on the Street – as was the case in his early days at Apple – in favor of building long-term value.  While we’ll be the first to admit that this is the right thing to do, the reality is that this is a MAJOR execution story, and there will be bumps and bruises along the way. Earnings will matter, and it will be tough to simply ‘look through’ such big items. All honeymoons must end at some point. Eventually, Johnson will not be viewed as ‘the guy from Apple,’ but rather ‘the guy at JCP.’


TAIL (3-Years or less): This is one where the TREND meshes with the TAIL, as the announcements will be near-term, the execution will be intermediate-term, and the results will be long-term. The problem here is that JCP’s definition of long-term is 7-years. Over ‘3-years or less’, which is our long-term duration, JCP is still likely to be in execution mode. It is unlikely too see any of the real benefits of Johnson’s actions until after 2015. In other words, it’s a long time away…


 JCP: Buh-Bye - JCP vs. KSS Overlap





Brian McGough

Managing Director


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European Risk Monitor: Heads Will Roll

Positions in Europe:  Short EUR-USD (FXE); Short France (EWQ)

Crowds cheered the news of Italian PM Silvio Berlusconi’s resignation and Mario Monti’s appointment on Saturday, however let’s not forget what’s left in the balance—public debt at 120% of GDP; pushback on austerity that will not help to curb the deficit; a technocrat government in which new elections aren’t scheduled UNTIL early 2013; debt maturities north of €200 Billion over the next 6 months; poor growth prospects that should result in declining tax revenue; worries about core Italian bank leverage to European sovereign paper; rising government bond yields increasing the cost to raise capital; and market participants looking for a quick fix to Italy’s (and the rest of Europe’s) problems with a quick flick of the wrist.


The Italian economy and more broadly European capital markets are going to need Super Mario to save the day—well frankly, we don’t think Mario squared (+Mario Draghi) can save the day. Don’t forget that we don’t have any major planned catalysts into year-end around which Europe’s unanswered questions: expansion (leverage) of the EFSF, bank recapitalization, Greek haircuts will be solved for.


Talks that China would come to Europe’s rescue have faded—not surprisingly given the less obvious benefit to them—and the expansion of the role of the ECB and IMF are still undecided.


Today, at her Christian Democratic Union party’s annual congress in the eastern German city of Leipzig, German Chancellor Angela Merkel told leaders they must create a “new Europe” by deepening ties in the 27-nation EU, yet reiterated her rejection of jointly sold euro bonds.


She said:  “The task of our generation now is to complete the economic and currency union in Europe and, step by step, create a political union… It’s time for a breakthrough to a new Europe…  If the euro fails, Europe fails.”


In response, we don’t want to discount the resolve of Eurocrats to maintain the Eurozone project—after all the last two years have proven this out well—however we do want to sound the horn that the credit markets are telling a very different story around the risk of this very project.  And more rhetoric without action is going to see investors punish most European capital markets.


Our weekly European Risk Monitors are included below. We remain short the EUR-USD via (FXE), which remains broken TRADE ($1.37), TREND ($1.42), and TAIL ($1.40), and short France (EWQ) in the Hedgeye Virtual Portfolio. For more specifics on both positions, see our recent work on the Hedgeye portal.



European Sovereign Yields – European 10YR yields were mostly higher last week. Greek yields shot up 228bps, Spain +44bps, Italy +35, while Portugal declined -62bps and Germany -12bps. As always, we’re keying off the 6% Lehman line as a critical breakout line. Italy has held tight above the 6% for the last three weeks, currently at 6.57%.


In its SMP bond purchasing program, the ECB bought €4.5 Billion in secondary bonds last week (vs €9.5B in the week prior), taking the total program to €187 Billion. Look for Super Mario (Draghi) to increasing buying alongside heightening Italian yields.


European Risk Monitor: Heads Will Roll - 1. me


European Sovereign CDS – European sovereign swaps mostly widened last week. Spanish sovereign swaps widened by 7% (+28 bps to 427) and French by 11% (+20 bps to 202). 


European Risk Monitor: Heads Will Roll - 2. me


European Risk Monitor: Heads Will Roll - 1. x


European Financials CDS Monitor – Bank swaps were wider in Europe last week for 32 of the 40 reference entities. The average widening was 6.2% and the median widening was 11.5%.   The German bank Bayerische Hypo- und Vereinsbank saw swaps widen by almost 30%. In addition, the four Italian banks we track saw swaps widen an average of 18%. 


 European Risk Monitor: Heads Will Roll - 3. me


Matthew Hedrick

Senior Analyst

Bearish TAIL: SP500 Levels, Refreshed



My position on the long-term TAIL being broken is, at a bare minimum, consistent.


So is my process. I run a core 3-factor model to measure the range of risk – PRICE, VOLUME, and VOLATILITY. Friday’s VOLUME was -27% below my immediate-term TRADE duration average. That, combined with a Bullish Formation in VOLATILITY, is bearish for US Equities, from this price.


Across durations, here are the lines that matter most right now: 

  1. TAIL = 1269 (resistance)
  2. TRADE = 1253 (support)
  3. TREND = 1227 (support) 

In other words, watch 1253 today/tomorrow very closely. We think the inflation data (US PPI and CPI) will come in higher than expected (Tuesday/Wednesday). That should keep Bernanke in a box, and upward pressure on the US Dollar.




Keith R. McCullough
Chief Executive Officer


Bearish TAIL: SP500 Levels, Refreshed - SPX

Political Calendar Is Quiet, But Still Important to Keep Front and Center Through Year-End

Below we’ve outlined the key U.S. political events through year-end.  With Congress out of session, the calendar is dominated by appearances from President Obama and the continued series of Republican presidential nominee debates. 


In the shorter term, of course, November 23rdis the deadline for the deficit reduction Super Committee.  Currently, according to InTrade, the odds are 16% that the Super Committee comes to an agreement and issues a recommendation by midnight on November 23rd. We will be publishing a note shortly on the increasingly likely scenario that the Super Committee fails, but that date should be kept in focus.




NOVEMBER 15, 2011

  • Shared Services for Government, Healthcare & Higher Education (Chicago Illinois)
  • CNN / Heritage Foundation / AEI Debate

NOVEMBER 16, 2011

  • Obama visits Australia
    • Discuss expanded military ties

NOVEMBER 18, 2011

  • Obama in Indonesia (17th-19th) for Association of Southeast Asia Nations (ASEAN) Summit

NOVEMBER 19, 2011:

  • Louisiana - Gubernatorial General Election
  • GOP Presidential Forum /Thanksgiving Family Forum (Des Moines, Iowa)
    • Participants: Bachmann, Cain, Gingrich, Paul, Perry and Santorum all confirmed, Romney unconfirmed

NOVEMBER 22, 2011

  • GOP Presidential Debate hosted by CNN (Washington, DC)
  • State unemployment rates for October will be released

NOVEMBER 23, 2011

  • Deadline for super committee to reach a deal, or automatic cuts will immediately be put in place
  • Jobless Claims
  • Consumer Sentiment

NOVEMBER 30, 2011

  • GOP Presidential Debate hosted by Arizona Republican Party and CNN (Mesa, Arizona)
  • Productivity and Costs Release (Q3)

DECEMBER 1, 2011

  • CNN / Arizona GOP Debate

DECEMBER 2, 2011

  • Obama will host 2011 White House Tribal Nations Conference

DECEMBER 8, 2011

  • Deadline for Secretary of State’s office to certify general election results

DECEMBER 10, 2011

  • GOP Presidential Debate hosted by ABC News and the Iowa Republican Party (Des Moines, Iowa)

DECEMBER 12, 2011

  • President Obama welcomes Iraqi Prime Minister Nuri al-Maliki to the White House

DECEMBER 14, 2011

  • President Obama is a confirmed speaker for the Union for Reform Judaism Biennal (14th-18th)

DECEMBER 15, 2011

  • GOP Presidential Debate sponsored by Iowa GOP and Fox News (Sioux, Iowa)
  • Global Conference on Global Business and Global Economy (Detroit, Michigan)

DECEMBER 19, 2011

  • GOP Presidential Debate hosted by the Des Moines Register, PBS NewsHour, Iowa Public Television, Google, and YouTube (Des Moines, Iowa)

DECEMBER 20, 2011

  • State unemployment rates for November will be released

DECEMBER 27, 2011

  • FOX News / Iowa GOP Debate Sioux City, IA

Daryl G. Jones

Director of Research

Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.46%
  • SHORT SIGNALS 78.35%