“Politics and prejudice keep pushing their way into things.”
I’m often inspired by doers in this world. Instead of pandering to the political wind, they simply lead by example. Their respect is earned each and every day, not centrally allocated.
The aforementioned quote comes from a Palestinian doctor who was educated in Cairo and at Harvard. He practiced in both Saudi Arabia and Israel, and now lives in Canada. His story is called “I Shall Not Hate”, and I highly recommend reading it if you’re looking for cultural context in analyzing the Middle East.
“The last decade has been a particularly disappointing period in this grinding conflict that keeps us apart. Our leaders bicker like children, breaking promises, behaving like bullies, keeping the kettle of trouble boiling. The people I talk to – patients, doctors, neighbors in Gaza, friends in Israel – are not like our leaders.” (I Shall Not Hate, page 121)
Until he mentions Gaza, you’d think he was writing about the 112th US Congress. But what is it about Iran or Illinois that keeps us from having a discussion about economic facts? Why are we wedded to Western Academic Dogmas gone bad? Why are we so partisan?
Unlike debating science and math (where there are actual answers to the questions), American economic opinions, strategies, and forecasts are heavily weighted to Politics and Prejudice – and massively underweight transparency, accountability, and trust.
Back to the Global Macro Grind…
I was looking for a way to bridge the gap between what Inflation Expectations are doing (last price) and what partisan politicians are saying about oil prices this morning. In a globally interconnected marketplace of colliding factors, to call this rip to $124/barrel in oil prices simply a function of “Iran” is as simple does – un-American and uninspiring.
- Oil is up +11.7% in the last month
- Oil is up +193.4% in the last 3 years
- Oil is up +503.3% in the last 10 years
This, of course, is what The Bernank calls The Deflation.
Iran is definitely a factor. But it’s certainly not the only factor. Having a dual mandate (monetary and fiscal policy) to debauch the Dollar puts the world’s reserve currency in a position where we are all subject to more volatility associated with “external shocks.”
If that’s not the case, why didn’t Oil go to $130 or $150 during the Reagan and/or Clinton years? There were plenty of Middle Eastern, Russian, and US supply scares over the course of the 1980s and 1990s, weren’t there?
Ah, but there was also a global expectation for Strong Dollar Policies from both the Reagan and Clinton Administrations:
- Monetarily: Reagan was Strong Dollar (Volcker raising interest rates and the rate of return on American Savings, again, and again)
- Fiscally: Clinton was Strong Dollar (Balanced Budget Act 1997 and the only President since Truman to run 3 consecutive surpluses)
Got Politics and Prejudice?
Oh there is plenty folks. But the beauty of being Canadian this morning is not only that we have Steven Harper instead of Santorum, but we can sit back and not be Republican or Democrat about this. Economic policy context here is critical, because when it comes to the last decade of Bush/Obama, both of these Presidents are much more like Nixon/Carter than anything else – Keynesians.
Abuelaish says one thing they haven’t tried in the Middle East is empowering women to make decisions. I like that, because the American men running economic policy couldn’t be worse. And by the way, the only major head of State to be Strong Currency (both fiscally and monetarily) in the last 40 years was Margaret Thatcher. If I was Mitt Romney, I’d be doing the required Hayekian reading on that, fast.
In other news:
- Japan – Former BOJ deputy chief Muto says the Japanese fiscal and monetary situation has reached a “trigger point”
- China – Premier Wen is whispering about cutting China’s GDP run rate below 8% at the National People’s Congress (March 5th)
- Europe – Economic Stagflation (rising inflation, slowing growth) is back in the headlines instead of Greece
Maybe we should blame Iran (or Canada?) for Big Government Policies to inflate slowing global growth again too?
Macro Math on what those big 3 represent as a % of total Global GDP:
- Japan = 9.3%
- China = 11.1%
- European Union = 28.1%
So, that’s only 48.4% of the world’s economic output. I guess it’s a really good thing that Bernanke sees no inflation slowing real (inflation adjusted) economic growth in America. Sadly, Politics and Prejudice have made us willfully blind.
My immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, and the SP500 are now $1, $119.45-123.86, $79.01-79.47, and 1, respectively.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer
Don't give in to temptation to support this name on the guide-down.
No major surprises in the KSS print. Guidance was well below the Street, but about in line with our model. We like KSS realistic approach to 2013 – a year that will be marred by price competition from JCP, TGT, AMZN, SHLD, M and WMT.
Here are two major factors to consider...
1. The base business simply is not growing, and this was in a decent year overall for he industry.
- E-commerce reached $1bn in revs growing at 39% for the year, which contributed 1.5% to total top-line growth accounting for 70% of sales growth.
- KSS’ total revenue growth in F11 was 2.2%.
- If we assume e-commerce grows at a similar rate this year it would account for 2% total top-line growth; Guidance calls for 4.5% growth overall.
- Backing into new store productivity contributions for Q4, new store growth accounted for 2% total growth this past year.
- That would imply that e-com and new store growth = +3.5% vs. total at +2.2% = core contraction
2. The sales/inventory spread (see our SIGMA) eroded the most in over four years. That said, we did not see a capitulation in Gross Margins - the combination of which is very GM-bearish.
Resist temptation to buy on a sell off here.
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Rice and coffee prices were the big outlier to the downside over the past week. This is good news for PFCB and, particularly, the coffee companies like SBUX, PEET, DNKN, THI, GMCR, and CBOU.
The dollar showing weakness over the last week has coincided with strong price gains for most of the agricultural commodities that we follow. Gold, oil and the XLE also posted strong year-over-year gains as the Federal Reserve continues to, as Keith wrote in this morning’s Early Look, “legislate inflation”.
Gasoline Prices are creeping higher around the country with $4.00/gallon gas in California and media reports emerging of some gas stations demanding $6.00/gallon in Florida. At some point, this will negatively impact consumer spending.
RECENT COMPANY COMMENTARY
TXRH: We expect approximately 8% food inflation in 2012, primarily due to higher beef costs…on the beef side we do have fixed price – pricing arrangements in effect for over 90% of our beef costs in 2012.
CBRL: To the continued pressure on ground beef prices and other commodities partly offset by lower average dairy and produce prices, along with benefits from our supply chain initiatives, we expect cost of sales to increase 60 basis points to 80 basis points over 2011 to near 26% in 2012.
RUTH: We project 2012 beef inflation to be between 5% and 8%. We currently have purchase agreements for beef representing approximately 30% of our needs through August of 2012, which represents an approximate 7% premium compared to the prior years.
CMG: While we're cautiously optimistic we'll see more reasonable prices in 2012 for avocados, dairy and produce, we expect these benefits will be more than offset by higher costs for our beef, chicken, rice and beans. Beef costs will be especially challenging due to protracted supply shortages, despite recent reductions in grain prices.
MCD: As we look at our guidance for 2012, we've built another mid-teens increase for beef, expecting that the dynamics in the marketplaces that we see, and are expecting, will continue.
SONC: One item to note is that we recently locked in our beef contract for calendar year 2012… given the potential for beef costs going even higher, which there are a lot of reports out there that speculate that could happen, that we chose to go with making this more of a known quantity here, and the idea of having a set price for the next 12 months, we feel like would be good for our business, adds some predictability to the business.
PEET: We expect 2012 coffee costs to rise 12% instead of last year's 42%.
SBUX: We've taken advantage of the recent declines in the C-price to lock in more of our coffee needs for fiscal 2013. We now have six months of our fiscal 2013 requirements secured at costs moderately favorable to 2012.
TXRH: The volatility around that 8% estimate for food cost inflation would really be driven by produce and dairy. Those are of the biggest components that we float around the market, and that's about 15% to 20% of our total cost of sales.
CMG: While we're cautiously optimistic we'll see more reasonable prices in 2012 for avocados, dairy and produce, we expect these benefits will be more than offset by higher costs for our beef, chicken, rice and beans.
SUPPLY & DEMAND
Beef – WEN, JACK, CMG, TXRH
Beef prices are a significant input cost for many restaurant companies. The chart of beef prices in the last section of this post shows that prices are now up 17.3% year-over-year, despite the fact that prices have been up year on year for over two years now. TXRH said that it expects 8% food inflation in 2012 primarily due to higher beef costs.
Texas AgriLife Extension Service personnel, according to CattleNetwork, said that most of Texas received rain in the third week of February, helping to green up pastures and winter wheat.
Total frozen beef supplies were up 7% on January 31st, 2012 versus last year.
An investigation by the federal Canadian Food Inspection Agency has resulted in charges against a Manitoba veterinarian and livestock operators for illegally and intentionally exporting cattle in breach of U.S. and Canadian laws.
Canadian beef supplies have been shrinking since 2005 and are likely to shrink further in the short-term according to statistics released by the Canadian government Monday. The Canadian beef cow herd is down 20% from its peak in ’05 despite shipments to the U.S. being down 24% in 2011 versus the year prior and cow slaughter rates being off 13%. The numbers, according to CattleNetwork, do not add up. The ag website does say, however, that the North American calf crop is down roughly 9% in the past 10 years.
Analysts are expecting U.S. feedlots to have reduced cattle purchases in January as supplies of available animals declined. On Friday, the USDA will release inventory estimates at 3 p.m.
The lead February contract in overnight electronic action hit an all-time high of 129.05 cents, surpassing Tuesday’s 128.97 top and indicating strong demand.
Cattle in the Chinese region of Ningxia Hui were found to have foot-and-mouth disease.
Coffee – SBUX, PEET, DNKN, CBOU, THI, MCD
Coffee dropped significantly as stockpiles climbed and producers sought to increase sales in Brazil, the world’s top grower.
Coffee inventories monitored by ICE Futures U.S. have jumped 24% since the end of October.
Brazilian permits for exports February to-date surged 26% versus January, according to Cacafe, Brazil’s Council of Coffee Exporters.
Coffee speculators decreased their net-long position in coffee futures in the week ended 2/14.
Chicken Wings - BWLD
Total frozen poultry supplies on January 31st, 2012 were down 11% year-over-year.
Brazil may boost broiler-chicken production by 3% to a record 13.25 million metric tons in 2012 versus 12.9 million in 2011, according to the USDA. The increase is down from an earlier forecast of 5% growth in production.
The six-week moving average egg sets number declined sequentially from -5.46% for the week ended 2/11 to -5.49% for the week ended 2/18. This is a bullish data point for chicken wing prices; supply is not showing any sign of picking up quickly and beef costs remain at extremely high levels.
Chicken – Whole Breast
The broader retail industry is set to benefit from significant weather-related tailwinds in the 1Q numbers. 350 basis points of an 8.9% quarter-to-date comparable restaurant sales number at PNRA has been attributable to weather, according to a recent earnings call. HD's 4Q comp of 6.1% was helped by a tailwind of 200-250 basis points. Here we examine one metric, snow coverage, both nationally and by selected regions, in order to contemplate just how significant the 1Q weather sales lift might be and which restaurant companies may benefit most.
Nationally, as the first chart shows below, 1Q to-date has seen far less snow coverage than during the same time period in 2011. The average 1Q to-date coverage across the United States so far this year was 28.54% versus 48.41% last year. Additionally, on the weekends, as the second chart below indicates, the difference between 2011 and 2012 was consistent with the total picture. This is important as weekends are crucial to restaurants from a traffic perspective.
Below we have broken out three regions, the Midwest, the East Coast, and the South. The National Operational Hydrologic Remote Sensing Center, the source of the snow coverage data, divides the country into many regions with some of the dividing lines running through State lines. Therefore, in our conclusions as to which companies will derive the most benefit from weather differentials in the three regions we have decided to analyze, we are forced to approximate. So, when we use “Midwest”, “South” and “East Coast” below, we are referring to the regions shown in this map and inferring as best we can which restaurant companies each region most pertains to.
In the Midwest, as the first chart shows below, 1Q to-date has seen far less snow coverage than during the same time period in 2011. The average 1Q to-date coverage across the region so far this year was 16.45% versus 51.19% last year. Additionally, on the weekends, as the second chart below indicates, the difference between 2011 and 2012 was consistent with the overall picture. Again, we are checking this because weekends are so important to restaurants in terms of traffic. PNRA and BWLD are two companies with significant percentages of their system in this region. It is difficult to reconcile the regions assumed in the snow coverage data with actual state lines but we estimate that PNRA and BWLD have roughly 30% and 45% of their system units in this region, respectively. During its recent earnings call, BWLD was asked about the weather impact on its 1Q to-date performance (+12.9% comps) but management did not address the topic. Considering the high level of exposure the company has to the Midwest, and the data shown in the charts below, we contend that the impact of weather on BWLD's top line has likely been significant. CBRL is another concept heavily exposed to the Midwest, with roughly 35% of its system in the region.
In the Eastern Coastal region too, as the first chart shows below, 1Q to-date has seen far less snow coverage than during the same time period in 2011. The average 1Q to-date coverage across the region so far this year was 2.65% versus 19.61% last year. Additionally, on the weekends, as the second chart below indicates, the difference between 2011 and 2012 was consistent with the overall picture. Again, doing our best to reconcile the regions in the map, above, with state lines, we believe that RT and PNRA should benefit from the improved weather this year with roughly 33% and 22% of their systems in the region, respectively.
While it is strange to conduct research on snow coverage in the South, we believe that it will be meaningful for the restaurant companies that were impacted by last year's harsh conditions. On Saturday February 5th, 2011, The New York Times ran a story with the headline, “Snow and Ice Paralyze Texas From Rio Grande to Oklahoma Border”. In states such as Texas, where such weather is less common than in other areas of the country, we contend that its impact on consumers’ willingness to get in the car and go out to eat is likely severe. As the first chart shows below, 1Q to-date has seen far less snow coverage than during the same time period in 2011. The average 1Q to-date coverage across the region so far this year was 2.65% versus 19.61% last year. Additionally, on the weekends, as the second chart below indicates, the difference between 2011 and 2012 was consistent with the overall picture. PFCB and SONC are two companies that are set to see a 1Q benefit from this year-over-year improvement in weather in Texas. PFCB has 32% of its Pei Wei units in Texas. SONC and EAT (Chili's) have roughly 27% and 14% of their systems, respectively, in the Lone Star State.
We are sure that restaurant companies will be less keen to discuss the weather as they have been in previous years. PNRA was an exception during its earnings call a couple of weeks ago, highlighting the 350 basis point impact of positive weather impact as the company rolled over storms of 1Q11. We expect benefits of similar magnitude for many of the restaurant companies – particularly those highlighted in this post – during this quarter. In order to get specifics, however, we may need to wait until next year when weather is a headwind once again.
POSITION: Long Financials (XLF), Short Consumer Discretionary (XLY)
Short green, cover red. That’s what we do within a proactively predictable trading range. Intermediate-term tops are processes, not points.
To be clear, the Quantitative Risk Management view is quite often different than the Fundamental Research View. Over the course of my career, I have learned to rely on both. Fundamentally, I think consensus is coming our way on inflation slowing growth. Today’s Sector divergence (Energy up, Consumer down) speaks plainly to $122/barrel oil’s anticipated impact on real (inflation adjusted) GDP growth.
Back to the Quantitative Risk Management view, here are the lines in my model that matter most:
- Immediate-term TRADE overbought = 1363
- Immediate-term TRADE support = 1353
- Intermediate-term TREND support = 1273
If 1353 doesn’t hold, I think we go lower, faster. If 1353 holds, I think we bounce, again, on low volume, to another lower long-term high.
Scenarios, probabilities, and ranges. That’s what we do too. The process hasn’t changed, time and price have.
Keith R. McCullough
Chief Executive Officer