Corn and wheat gained 7% and 8%, respectively over the last week. Most commodities moved higher as the Dollar Index weakened.
Almost all of the commodities that we monitor saw week-over-week price increases. Food inflation is likely to be less of a factor, on the margin, for restaurant stocks than it was in 2012 but we still expect some companies to see continued pressure on margins. This will be especially true in the first half of the year for companies with exposure to beef and chicken (particularly wings).
In terms of CPI, consumers are still seeing steeper food inflation in their grocery bills than in the restaurant check. Proposed legislation in Washington, HB 3798, is expected to lead to higher food prices for American consumers. The legislation focused on egg production. For an albeit one-sided write up, click here.
Grains – WEN, TXRH, CMG, PNRA, DPZ
DPZ: Company expects overall basket to be up 4.5-6% in 2011. No specific guidance for 2012 but hoping for a moderation from 2011 levels.
CMG: Management plans to take no additional pricing in 2011. Currently there is roughly 4.6% of price on the menu.
- Corn output in Argentina is expected to fall by 7% in the year starting March 1ston a year-over-year basis.
- Russian grain shipments will slow because of shrinking inventories, according to the USDA.
- Export demand for American corn is improving. Export deports near New Orleans boosted premiums this week to the highest level in two months.
- The UN’s Food and Agriculture Organization has spoken out against the use of corn for ethanol production as it “affects the prices of maize all over the world”.
Chicken Wings – BWLD
BWLD: The company has guided to ~2% pricing for 2012. We believe that this will be revised higher. We also expect guidance for “moderate” inflation to be revised when the company reports 4Q11 earnings.
- The six-week moving average for egg sets has declined for the past couple of weeks (chart below). We will be watching this as a leading indicator of supply in the U.S. chicken industry.
- We expected demand for chicken to be strong in 2012 as restaurants look to offset the elevated beef prices. This is bullish for wing prices.
Beef – WEN, TXRH, JACK, CMG
WEN: The company expects ROP margins to be down roughly 100 basis points year-over-year in 2011. Beef remains a concern at 20% of spend. The company purchases fresh beef and does not contract its beef needs.
- The USDA is releasing its biannual cattle inventory report on Friday. The report is expected to show shrinkage in the U.S. herd, which is already the smallest since the 1950s.
- Elevated corn prices are not helping the cattle industry, with many ranchers in Texas seeing their businesses hurt in the past year by elevated feed costs and severe drought.
- The largest tailwind for U.S. beef demand is Japan reviewing curbs on U.S. beef imports. Japan was once U.S. beef’s biggest customer. South Korea is also expected to increase its consumption of U.S. beef.
Coffee – SBUX, DNKN, GMCR, PEET, THI, CBOU
SBUX: Company reports tomorrow, it will be interesting to hear thoughts on pricing strategy going forward. We expect some commodity-related pressure to ease as we lap higher coffee costs of 2011.
- Peru’s coffee crop is expected to fall by 8.8% this year from last year’s record.
- Brazil is consuming more of its own coffee, which will lead to higher prices in the U.S.
- Coffee consumption in Brazil, the world’s largest producer, will rise by 3.5% this year, according to a Brazilian roaster’s association known as Abic said today.
Chicken – Whole Breast
POSITION: Selling US Dollar
Like all free-market capitalists, I am driven to win. If I win, I don’t want to allocate a #FairShare of my winnings. If I lose, I want to be held accountable for the losses. Winning and losing in America matters.
Our business model is built on transparency, accountability, and trust. When the fundamental research and risk management facts change, I do. Last night’s State of the Union (SOTU) address was not only US Dollar bearish, it ignored the core underpinnings of what’s driven this short-term US Economic recovery altogether – Strong Dollar (the word Dollar wasn’t used once in the speech; a weak Dollar Manufacturing policy was implied).
Reflectivity: Strong Dollar = Deflates the Inflation = Strengthens Consumption = Stronger Employment = Stronger Confidence.
So why is the US Dollar up today (it was down for a week into the SOTU)?
- Ben Bernanke should be less dovish in his FOMC press conference (no Qe3)
- Japan is moving closer to a Sovereign Debt Crisis (bearish YEN/USD)
- Greece lives to be socialized another day (bearish EUR/USD)
In other words, the US Dollar could start going down again tomorrow. My process hasn’t changed - Multi-factor, Multi-Duration – within the framework of a globally interconnected marketplace. That’s what all of this is – that hasn’t changed today either.
The policy rhetoric changed last night and so has the US Dollar Index’s price. See the attached chart for TRADE and TREND lines – you’ll note that as of now the USD is bearish TRADE, bullish TREND and there’s nothing that suggests a weak US Dollar policy can’t set us up for an intermediate-term TREND line test of $78.16 support.
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Contrast the Top 2 US Headlines this morn: 1. "Apple Profit More Than Doubles" vs. 2. "Fair Share" – I don’t get it – markets don’t either:
- US DOLLAR – I #SOTU Word Scored the entire speech last night and the US Dollar was not mentioned once. #FairShare had 5 mentions and #Capitalism = 0. Just words, but they matter – Even the NYT and BBC ran #FairShare in their headline this morning. It’s just not good for my Strong Dollar case. Clinton and Regan both rolled w/ Strong Dollar, Strong Consumption (ie 71% of US GDP)
- TREASURIES – stocks lost all of their Pre-#SOTU speech Apple momentum and have gone red this morning as UST Bond Yields fall a few beeps and the Yield Curve compresses by 3 basis points d/d. If you had to score the speech on Growth, it didn’t score well either. 10yr UST Yields of 2.03% is the most important Global Macro line in my model right now. If we snap it, I’ll get more defensively positioned.
- GLOBAL EQUITIES – at about 6PM last night I thought the futures had it right and Apple was going to bust a move taking the SP500 to a fresh YTD high – no dice. Instead we are looking at what’s called an Outside Reversal from Monday (testing new highs intraday of 1322, failing, and closing at/below prior closing high). Asian, European, and Latin American stocks at risk of doing the same.
My bullish Strong Dollar, Strong America tone is changing this morn, because globally interconnected prices have.
MCD: A McDonald's restaurant in Dickinson, N.D., is offering $300 signing bonuses for prospective employees. The move comes as North Dakota's unemployment rate hovers around 3.4 percent, the lowest in the nation (NRN.com).
CMG: Chipotle is running a promotion on Super Bowl Sunday offering half-off burrito boxes. The promotion is generating publicity for the company because of the ad itself.
NOTABLE PERFORMANCE ON ACCELERATING VOLUME:
TAST: Working diligently on the separation of the two companies
DPZ: On a relative basis it was a good day for DPZ
EAT: Brinker was raised to Buy from Hold at KeyBanc Capital.
Other Casual Dining News
Del Frisco Restaurant Group LLC filed registration papers for an IPO.
We remain positive on Brinker on all three durations (TRADE, TREND, TAIL). We view yesterday’s sell-off as offering a buying opportunity as current trends suggest that the company may comparable store sales targets for the full year. From a tail perspective, the long-term improvement to the operating platform at Chili’s, and the benefits that generates remains intact. From here, we see $5 of upside and $2 of downside.
We understand the stocks reaction to yesterday’s disappointing and decelerating sales trends at Chili’s. The 240% spike in volume versus the thirty-day average is significant. The Chili’s and/or Bar & Grill naysayers certainly enjoyed yesterday. The ride to $27 was painful for them and even with the stock at $25.66 many remain aggrieved. The Chili’s/ bar and grill naysayers are having a field day. Prior to that the run to $27 was a painful ride and with the stock settling in at $25 is still inflicts a certain about of pain.
Knowing we get marked to market every day, what do we do with the stock right here and now. Is it over or not? EAT’s balance sheet, free cash flow and margins are some of the strongest in the industry, so the investment case boils down to an income statement issue. More specifically, have the changes the company has made to the way Chili’s operates going to allow the positive momentum on traffic to continue for the balance of the fiscal year?
I’m not going to raise the white flag yet. We are staying positive on all three durations. Our thinking is focuses on four key points:
- The core competitors have responded to the Chili’s $6 lunch promotion but traffic trends early in the current quarter are remaining strong
- EPS revisions following the quarter just reported continue to be revised up. A trend that has been in place for the past 6 months
- Sentiment is overly negative
- Internally they continue to see positive momentum and the improvement in the macro environment is a net positive
Yes the easy money in EAT has been made, but there is still more to come. The next quarter is where the rubber meets the road. I can see a plan that can get Chili’s same-store sales to 3-4% for the quarter (2% price, 1% mix and positive traffic), which will get the company back on track to the 2% guidance for the year. The wild card is what happens to traffic?
Traffic trends are helped by the fact that the macro trend is more positive on the margin, with the employment outlook and confidence improving. In addition, industry hiring trends continue to suggest that the demand picture in improving.
If you are bearish on the Bar & Grill space in general and don’t believe that the internal changes that management has made to the Chili’s concept are real you will not see our side of the story. Since announcing their version of the “plan to win” in 2010, management has delivered on what was laid out. The changes that have been made to the kitchen and the restaurant itself will boost the top line over time.
At 7.1x, we view the EV/EBITDA valuation as favorable based on current trends. From here, we see $5 of upside and $2 of downside.
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