Dickens' Lead

This note was originally published at 8am on December 23, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Lead on! Lead on! The night is waning fast, and its precious time to me, I know.”



The next 72 hours of our lives in the McCullough household will be some of the most magical of the year. My little girl Callie is old enough now to be aware of Santa. My son Jack, well, he’s probably already peaked at what’s in store for him.


What’s in store for all of us at Christmas time is the wonderful gift of time. Time away from the office. Time away from the screens. Time with the people we love.


When Charles Dickens published A Christmas Carol on December 19th of 1843, it was perceived to be a dark time in Britain. It was a time of hunger. It was a time of class warfare. These are the times we want to avoid.


While the “tale has been viewed by critics like T.A. Jackson and Paul Benjamin Davis as an indictment of 19thcentury industrial capitalism” (Wikipedia), I prefer the context of the economic historian James Henderson as “an attack on Malthus.” (Grand Pursuit, page 6).


Reverend Thomas Robert Malthus is well known for this fear-mongering forecasts about population declines that never came to fruition. He and Thomas Carlyle became the most recognized “political economists” of their time by capitalizing on the Hungry Forties with charlatan lines of storytelling that were not only dark, but backward looking.


Dickens embraced the idea of uncertainty as an opportunity for change. Scrooge was his metaphor for the progressive side of capitalism, illuminating the human heart as the source code for morality.


Today, while Republican and Democrat fear-mongering views about our lives falling over the precipice into the depths of another depression may have captured the headlines of those who are weak enough to believe them, I know you are all stronger than that.


Leadership, principles, and values start in your home. Lead on!


Back to the Global Macro Grind


I think most Americans have figured out this year that what the stock market does on each and every tick is not what this country runs on. It may not run on Dunkin’s stock price either, but it certainly rides into your favorite coffee shop on the purchasing power of a Dollar, every day.


The most bullish Christmas Carol I can sing to this country this weekend is that the US Dollar Index has risen from the dead. After testing a 30-year low in April of 2011, King Dollar’s ascent has already added up to a +10% gain.


Even the crown of a sheepish looking Political Economist in Chief’s head cannot take the shimmer of hope of continued currency strength away from us this weekend. And while hope is not a risk management process, it will most certainly remain the fulcrum of my daily prayers.


Ben Bernanke wants you to believe in fear so that you will accept a 0% return on your hard earned savings. He wants you to believe that the price you pay at the pump doesn’t take away from what you might be able to put in the bucket when that Salvation Army bell rings.


This is not a political attack. This is called leading from the front lines every day with a progressive idea that our political ideologues on the US economy have not had the courage to try.


By simply getting the US Federal Reserve’s Quantitative Easing out of the way and putting a governor on government spending’s slope, consider what’s happened in the last 6-9 months:


  1. US GDP Growth has risen from +0.36% in Q1 of 2011 to +1.8% in Q3
  2. US Unemployment has fallen from 9.2% to 8.6% and weekly jobless claims are now hitting YTD lows
  3. US Consumer Confidence hit a fresh 6-month high yesterday at 69.9 on the University of Michigan survey (vs 67.7 in NOV)

If I have written this 100 times in the last 6 months, I’ve beaten it onto the Wall Street 2.0 Tape (Twitter) with 10,000 tweets:


Strong Dollar = Strong US Consumption = Strong Employment


Lead on, my capitalist friends, lead on!


My immediate-term support and resistance ranges for Gold, Oil (Brent), and the SP500 are now $1569-1622, $105.95-108.11, and 1228-1259, respectively.


On behalf of my family and firm, Merry Christmas!



Keith R. McCullough
Chief Executive Officer


 Dickens' Lead - EL


Dickens' Lead - vp 12 23


A modest gain in Strip revenues expected for November. 





Based on our airport/taxi predictive model, we estimate Strip revenues grew 2-6% in November, assuming normal slot and table hold.  McCarran Airport passenger traffic increased 3.9% YoY in November—the 11th straight month of growth, and Nevada November taxi trips eked out a 1.2% gain.  Statistically, the McCarran data is a better predictor of slot volume while taxi data correlates more highly with table volume excluding baccarat.


Strip performance could have been even better if not for the abnormally high slot hold of 8.2% last November.  However, the difficult slot comp is reversed in December when slot hold was only 5.7% versus a normal 7.0%.  Baccarat volume should look very strong while slot and other table volume should register low single-digit volume gains.  All in all, November was likely a solid month on the Strip. 




Our SIGMA framework is predicated upon the relationship between a company’s sales/inventory levels relative to margins, a major theme headed into the fourth quarter.


Recent incremental shifts in the SIGMA suggest some retailers are better positioned for a more competitive year-end while others are not. The key callouts include WMT, FL, TRLG, SKX & HD looking incrementally more favorable while BKE, M, SKS & LULU look more precarious.


Here are the more noteworthy Q3 shifts (both positive and negative on the margin):




WMT: After running negative for 5 quarters, the sales/inv spread turned positive in Q3 with WMT US & Sam’s clubs comps exceeding guidance and inventory growth slowing on the margin (down 4 pts to +7.5%). This comes at a time when WMT is outperforming its peers this holiday and comps are beginning to turn.


“We're very well positioned with inventory in both store and online for the fourth quarter…. We have the assortment our customers are looking for, both in-store and online. We have the inventory they need and we have the prices that can't be beaten.” –Bill Simon, President & CEO WMT US Stores





HD: The Sales/inv spread expanded 3 points in Q3 after making its biggest sequential move in 2Q11 since the start of ‘09. The spread now sits at +7%, the highest point since the first quarter of 2008 while margins have been expanding for 9 quarters in a row. Can it really get much better? This is one of the names where the SIGMA is so bullish that it is almost bearish.


“We're thrilled with our inventory performance, and we've just spent a lot of money transforming our supply chain, so we're hoping to see this come through. As you know, we have committed to get a full turn of improvement over the next several years. If you look at where we are seeing it, part of it is really just in terms of the quality of the inventory. Our clearance levels are as low as they have ever been in our company history.” –Carol B Tome’ CFO





FL: The spread slowed 3 pts to +9% in 3Q11 but has remained positive for 8 quarter in a row with margins expanding in each of those periods. Revenue growth continues to run 2X inventory growth which has driven a reduction in markdowns and as a result has kept margins on the upswing in both apparel and footwear.  


“Our clean, fresh inventories have allowed us to keep reducing our markdown rates in almost every division….. Margins remain on the upswing in both categories as well as in accessories and we see ongoing opportunities for further improvement.” – Lauren B. Peters CFO





SKX: The SKX Sales/Inv spread improved 13 points in Q3 as they lapped 70% growth in Q3 inventories LY. As a result, inventories were down 27% on a 26% decline in sales. The SIGMA’s clockwork move suggests trends are improving on the margin, but be mindful of the incremental inventory coming on to support the company’s ramp into fitness in the 1H F12 that will likely curb near-term sales/inventory progress.


“We cleared out excess inventory in the third quarter and are pleased that our margins which were 42.5% for the third quarter of 2011 have returned to their historical norm, a reflection of selling more inline product.” – David Weinberg, COO/CFO





TRLG: Inventories improved sequentially for the third quarter in a row down 14 points to +5% YoY. While the top-line mirrored the inventory trends and decelerated on both the 1 and 2 yr, the spread jumped 11 points to +12% with EBIT margin improving incrementally as well.


Well, some of the things we've been doing from an inventory perspective is really just pulling together the team to analyze our production plans in relation to our sales plans….. We're comparing our balance this year to last year, we just got a better approach to managing the production, linking it up with current sales forecasts and trends to avoid building any type of excess position especially in the warehouse.” – Peter F. Collins, CFO





GCO: Sales growth continues to outpace inventory growth despite inventories up over 20% YoY for the 5th quarter in a row. The spread improved 8 points to +12% marking the strongest relative growth position since the beginning of 2008 reflecting both better assorted inventories as well as stronger performance across all channels of late.


“So, right now, we're in a position where we are less broad, more deep. That should help sell-throughs, both in terms of having a greater percentage of hot products in the stores, but also when you get down to the final run, you have much more efficient use of your inventory. So, we are in that very good position.” – Robert J. Dennis CEO





PETM: The sales/inventory spread has been improving on the margin for 4 quarters while operating margin expansion has consistently improved to the tune of 30-80bps. Average inventory/store continues to be well controlled coming in flat YoY which is meaningful given guidance for a more promotional fourth quarter.


“The second drainer (referring to negative impact on margins) was we were a little bit more promotional in some of our traffic-driving items this quarter. We made some decisions early in the quarter to go that direction. And that'll continue through probably the end of December.” – Lawrence P. Malloy, CFO








BKE: Buckle’s inventory position was up 27% on 12% growth in sales. The company increased its denim inventory to avoid missing out on sales a la Christmas 2010. The opportunistic approach drove the sales inventory spread down 10 points to -14%, the company’s lowest position since 2003. This is the most aggressive bet on Holiday 2011 we’ve seen in retail hands down. Given the company’s posture into year-end, the outcome will be binary.


“Well, last year, we felt like we missed some business by being too low on our denim inventory, as well as certain top categories. And also, in the Men's outerwear, we did not have everything shipped to us last year. So we improved our inventory position there. So we felt that our inventory – we wanted to capitalize on some of the opportunities for holiday on several of those categories.” – Dennis H. Nelson CEO





GIL: Inventories were up 73% in Q4, up 13% sequentially on +30% sales growth – not good. With screen-printing demand off sharply, both the sales/inventory spread and margins are likely to remain under pressure through the 1H of F12.


“Weak demand and increasing competitive pricing pressure in the screenprint markets have continued into the first quarter of fiscal 2012….. The significant destocking of distributor inventories in the first quarter has resulted in excess inventories building up at the manufacturer level and to further discounting in order to try to maintain capacity utilization at capital-intensive producing mills.” – Laurence G. Sellyn CFO





LOW: The sales inventory spread eroded 2 points to -3% in Q3. While the deterioration in itself is minor, the swing from the danger zone into the red zone to preserve margins while allowing inventory  growth to exceed the top line is dangerous. Unlike Home Depot’s more aggressive approach to pricing, LOW has kept promotional activity subdued at the expense of sales while guiding to an improved inventory position at year end.


“Within appliances we chose not to match some competitors' extremely aggressive third quarter percent off promotions.” – Rick D. Damron, EVP Store Operations





LULU: LULU’s sales inventory spread fell over 50 points in Q3 due to inventory growth accelerating from +34% in Q2 to +77% in Q3; the spread now stands down (46%). The last time LULU saw inventory growth exceed sales growth, its behavioral response was far better than it should have been for such an immature company. We should see the same this time around. For additional insight on the massive swing in the SIGMA, see our 12/1 research note “ LULU: Respect History.”


“So that's the cycle we're committed to really ending and I'd rather be sitting here telling you we're in a great inventory position that's up than be sitting here quarter-after-quarter talking about being down, because then the cost is big to our guests and it's big to our brand long term. So we really are excited about where we are for inventory because it's with relief we can turn our energies to other things and we know what we have in the mix for Q4 and into Q1 is what the guests wants.” – Christine McCormick Day, CEO





M: After 8 quarters in the sweet spot, Macy’s sales/inventory spread fell 6 points into what we refer to as the “denial quadrant.” Shifts into the red zone suggest a company is propping up margins while allowing inventories to build- this is not sustainable. History proves that higher inventories are manageable if profitability is up… until they aren’t.  For more detail on Macy’s Q3 SIGMA move, see out 11/9 post “M: Bad Risk Reward.”


“Planned promotions tend to be profitable. It's only when inventory is out of line with sales, which in our case is not the case, where you get excessive markdowns and margin hits. But in terms of promotions, I think it's going be pretty much as it's been the last couple of years, which is very heavy.” – Karen M. Hoguet


SIGMA Says - M



SKS: The sales inventory spread was down 1% in Q3 following 8 quarters in the “sweet spot”. Year-end inventory growth has been guided to slow below expected top line growth in Q4; however, current levels have driven incremental discounting into the holidays.


“Consequently, we believe that higher than planned inventory levels in these areas may require incremental year-over-year markdowns as we move through the traditional end of season clearance period.” – Ronald L. Frasch, CMO





TIF: Inventories were up 25% in Q3 despite favorable compares due to a 58% increase in raw material inventories. While the increase in raw materials has been to facilitate the expansion in jewelry assortment and drive sales, the sales/inventory spread  fell 16 points to -4%.



“The Tiffany & Co. brand remains strong, customers are increasingly attracted to our well-designed high-quality products, our stores have strong inventory positions, we have a well-developed and efficient infrastructure, and we have a solid balance sheet to pursue our expansion plans.” –Patrick McGuiness, CFO




All in, there has been a considerable shift of positive sales/inventory spreads turning negative in Q3. While this has been due in some part to lighter than expected sales growth, inventory growth is the real callout here and one of several reasons for our continued concern over industry margins headed into the 1H of F12. The companies we’ve highlighted above include those we see as more favorably positioned as well as those in a more precarious position given the current environment.


We have a library of SIGMAs for each of the retailers listed below. We’d be happy to pass these along at clients' request.





The LTRO Is No Bazooka

Conclusion: The proceeds from the borrowings from the LTRO by European banks are seemingly being deposited into the ECB liquidity facility and not being used to purchase sovereign paper. This is validated by three key measures of risk: German short term bund yields, the TED spread, and Italian 10-year yields.


The most recent purported panacea to emerge in the European sovereign debt crisis was the recently announced Long-Term Refinancing Operation, or LTRO. The LTRO, by mandate, provides 3-year loans to European banks at a 1% interest rate. Initially, the program was deemed a massive success as 523 banks “oversubscribed” and took 489 billion euros from the LTRO.


Unfortunately, the actual injection of liquidity was substantially smaller than 489 billion euros. According to our preliminary analysis, the roll over of short term debt, from 7-day to 3-month paper, actually took up the majority of the LTRO and, in fact, the actual incremental liquidity increase was likely closer to 210 billion euro, a far cry from the original headline number.


Aside from injecting much needed liquidity into the European banking system, which on the margin the LTRO did do, the consensus perspective at the time was that the LTRO was in effect a back-door bazooka. As such, this facility would be utilized by the banks to purchase European sovereign debt, which would in turn alleviate some of the funding pressure in the sovereign market. Based on the most recent data from the ECB, the LTRO does not appear to have been used for this purpose.


In the chart below, we’ve highlighted the ECB liquidity facility going back one year and in the inserted chart going back roughly one month. The key takeaway is that the ECB liquidity facility, which is used by European banks to effectively park money, hit a new all-time high at 411 billion euros this morning and has been increasingly rapidly since the inception of the LTRO just over a week ago. In fact, the day before the LTRO was put into effect, the ECB facility was at 265 billion euro and as of this morning has increased by 146 billion euro, or more than 70% of the incremental liquidity from the LTRO.


The LTRO Is No Bazooka - ECB


So, not only is the LTRO not being used as a bazooka by the European banks, but these banks are parking the borrowed LTRO money with the ECB rather than using it to buy sovereign debt, and thus are experiencing a negative yield on the trade. As noted above, European banks borrow at 1% from the LTRO, but when parking money with the ECB only get paid a 0.25% yield. So rather than taking any risk in buying European sovereign debt, the banks are, seemingly, willing to take a 75 basis point negative carry trade on this liquidity.


Not surprisingly, given the actions that European banks are taking, which signals they see more and not less risk on the horizon, the TED spread hit a new YTD high this morning, which in our view is the most appropriate measure of systematic risk in the banking system. As well, we’ve highlighted in the charts below that German 1-year Bunds are approaching close to YTD lows, at less than 0% yield, and Italian 10-year bonds are approaching YTD highs in yield, at north of 7%. The later point is the most disturbing in the face of sizeable Italian bond auctions this week, but together highlight that risk aversion is heightening in Europe.


The LTRO Is No Bazooka - German1F


The LTRO Is No Bazooka - Italy10F


The LTRO is certainly not a panacea and, clearly, not even the fabled Bazooka. In reality, the market is actually looking right through the LTRO and looking directly at the estimated 800 billion euro of Eurozone sovereign debt that needs to be refinanced next year and the 230 billion euro of European bank debt that needs to be refinance in Q1 2012.


Daryl G. Jones

Director of Research


No change to HK$22.5-23.5 billion December projection



Average daily table revenues for the past 8 days in Macau were HK$678 million, off the HK$732 million pace of the rest of the month.  However, this is a typical seasonal pattern.  We are maintaining our HK$22.5-23.5 projection for the full month of December which represents YoY growth of 23-28%.  The set up for January looks favorable as win generated on 12/31 will count in 2012 and Chinese New Year falls in January of 2012 versus February of 2011.  Remember that the DICJ is always one day behind so December actually includes November 30th to December 30th, January includes December 31st to January 30th, etc.


Week over week, WYNN gained the most share, coming from LVS and MPEL, and is now above recent trend.  Despite the sequential drop, MPEL remains at trend.  While LVS is above trend, December should be viewed as a disappointment given the junket push the last couple of months.  We would have expected 200-300bps of market share gains by now for LVS although hold may have played a role.






Notable MACRO data points, news items, and price action pertaining to the restaurant space.




CatteNetwork – “Retail beef prices rose in November for the fourth consecutive month and set a new record for the third consecutive month. The average price of choice beef in grocery store meat cases in November was $5.001 per pound. That was up 6.8 cents from the October record and up 51.7 cents from November 2010. The average retail price of all fresh beef also was record high at $4.504 per pound in November. Since the per capita beef supply is expected to be 4-5% lower in 2012, many more months of record retail beef prices are likely in the coming year.”




THE HBM: MCD, WEN - hfbrd




MCD - With the Year's Trading Nearly Complete, McDonald's Tops All Dow Jones Industrial Average Component Stocks With 2011 Gain of 30.47%

WEN - re-entered the Japanese market after pulling out of the country in 2009, with plans to open 100 restaurants in the next five years.




EAT – Up last Friday on accelerating volume








Howard Penney

Managing Director



Rory Green


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