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Michael Phelps remains, The Man. Phelps became the most decorated athlete in Olympic history last night, winning his 10th and 11th gold medals. He has 3 more events to swim, and he won’t be doing it naked. As Warren Buffett said in his 2001 Chairman’s Letter, “you only find out who is swimming naked when the tide goes out."

“Naked” short selling, as the Street likes to call it, quickly became public shareholder enemy #1 of all things US Financials, allegedly. Yesterday, the SEC dropped its month long ban on short selling provisions however, and the tide rolled out on the levered long community again. The S&P 500 closed out the day at 1289, after drowning for a -1.8% down move from where I issued my “Trade” sell signal at 1312 the day prior. Call me lucky, or call me right – I’m happy to have my swim trunks on. Keep a “Trade” a trade.

Who’s naked now? Who will be revealed as naked next? Only time will tell, but the Japanese government gets no medals from me here this morning. I have been pounding on this country more aggressively than any other as of late because it has fallen so far from the shores of free market capitalism that it is putting the global economy at risk.

Japan is the world’s 2nd largest economy, and sometimes people forget that. Wall Street had some of the levered long lemmings convinced that, during the “its global this time” peaks of 2007, that the “BRIC’s” were going to take them and their chariots of consensus to the Olympic podium in 2008. Brazil and Russia (B + R in BRIC) have sunk -27% and -28% since May 2008 alone. Check that spelling, it’s “BRICK”, and the theme has sunk to the bottom of the pool like one.

Japan’s GDP growth was reported overnight at down -2.4% for Q2 of 2008. This economic deceleration is shockingly negative when considering that Japan grew +3.2% in Q1. We flashed the “Japanese Stagflation” chart in the portal yesterday. When Producer Price inflation is running +7%, and economic growth is negative like it is being reported now, there is no “bottom” to where this country’s equity valuations can go.

Year over year export growth in two of Asia’s largest island economies is now NEGATIVE. Japan and Singapore are EXPORT led economies. This is not trivial. However, for whatever reason, every other day I see a Wall Street buy recommendation on a shipping stock. I even saw the launch of a shipping “SPAC” (special purpose acquisition company) a few weeks back! Names like Dry Ships (DRYS) look cheap. Sure. So did Bear and Lehman before they lost all of their cash flow. Being levered long cyclical businesses who are levered to the world slowing down, materially, is the next scary movie coming to a theater near you.

US commodity driven inflation has certainly deflated in the last month. The CRB Commodities Index is down -19% in a straight line, and we can all see the crude oil quote on CNBC. This has buoyed US stocks for a “Trade”, but is quickly morphing into consensus. What is not consensus is the potential tail risk associated with a meaningful slowdown in global growth. If it was consensus, Japan wouldn’t have had its largest down day since August 1st last night.

In a global “growth” slowdown environment, Warren Buffett is one of the few investors in this world who can truly be a “value” investor. He is one of the few out there who has unlimited duration on his investments. He is also carrying a 47% cash equivalent position right now, by the way.

Any hedge fund product that needs to report weekly and monthly returns is being revealed for what it is. Investment products with tight duration constraints are called “momentum” strategies, not “value”. My definition of value incorporates time as a factor. That time clock is ticking. The world is slowing. Don’t get caught swimming naked as this tide rolls out.


WRC: Math Trumps Naked-Gate

I don’t need to know much about the racy Eva Mendez ‘naked-gate’ ads or Speedo’s gold medal count to track the decelerating trends on WRC’s cash flow statement.

  • I’m going through WRC’s 10Q and looking through the new disclosure not discussed on the conf call. Pardon the 3-day delay, but this thing is 893 pages.
  • The chart in Exhibit 1 shows trailing 12 month cash from ops over free cash flow per share. Not too encouraging. There are a ton of puts and takes which makes these numbers cloudy (that’s par for the course w WRC). But when I make all adjustments, it takes ‘normalized’ cash from ops down in the latest quarter.
  • What happens when FX gives way, margins at CK Jeans and Europe start to crack at the same time company-owned store growth accelerates?
Cash flow not looking good. ♠
You Tube can do a better job showing the full blown ad than I can.


Taken together, the combination of Keurig brewers, patented K-cups and Green Mountain specialty coffee has provided the company with strong top line growth. The continued bullish scenario is based on; (1) favorable specialty coffee market; (2) a razor/razor blade model that generates recurring revenue; and (3) yet-untapped multi-channel distribution opportunities.

I have my doubts. The K-cup -razor/razor blade model is a long way from generating the type of revenues needed to drive over all profitability. In the short run, the company is selling a lot of brewers where they don’t have any gross margins at all. This showing up in the company's consolidated results, where the gross profit margin in F3Q08 declined to 36% from 41% last year. In a challenging economic environment, GMCR is banking on the consumer to pay a premium for a coffee maker and the K-cups to brew the coffee. The destruction in gross margins and the corresponding inventory build is made clear in a chart borrowed from my partner Brian McGough. If consumer demand slows this is going to get ugly!


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Quote Of the Day

From the Japan Times today: "It is the mission of our Cabinet to take quick and decisive measures to ease the pain and anxiety of the public," ...

This quote was from the Prime Minister of Japan, Fakuda, i.e. secular bailout "Trend" king of the world.

This should also sound quite familiar to the rhetoric that you hear from a US politician near you. It has not worked for 20 years in Japan, and is not about to start working tomorrow. It's called socialism.

*Full Disclosure: I remain short Japan via the EWJ (etf).


Visitor statistics released by the state of Nevada confirm my analysis yesterday that June was not a good month on the Strip. Gaming stocks ripped yesterday due in part to “only” a 3% drop in June gaming revenues. I argued that the “real” figure was more like down 9%, definitely not good, but nobody cared. After analyzing June visitation statistics I would go even further and say that June was actually worse than May.

  • Yesterday I showed that June’s YoY decline in slot volume of 6.1% actually fell sequentially from May’s 5.8%. The deteriorating fundamentals can also be seen in both the key visitation and hotel stats shown in the following charts. Strip RevPAR declined 18% in June, down from an 8% decrease in May, driven by both rate and, surprisingly, occupancy. Turning to visitation, both air and drive-in traffic declined at an accelerating rate. People are flying less, people are driving less. I don’t know how anyone can look at these stats and argue that business levels improved sequentially during the quarter.

  • We won’t see July’s numbers for another month but my intelligence says there won’t be improvement. From here on out, we’re relying on the flop to determine Vegas’s hand. MGM management predicted a fundamental acceleration in Q4 and called Q2 the trough. However, in this business with short booking windows, not even the dealers know until the cards are turned over.

Hotel metrics are deteriorating. June RevPAR down 18%
Air traffic, drive-in traffic: it's all bad

GIL: Why?

Why is the consensus banking on a 140bp margin improvement next year for Gildan? I’m getting to a mid single digit EPS and Cash Flow growth rate, versus 30%+ for the Street. Worth flagging with the stock at 23x earnings and 12x+ forward EBITDA, no?

Yeah, I know the stock has already been hit, and management already took down guidance for the year. In addition, this is a management team that gets compensated to hit pre-tax income growth targets. With such short-term incentives and a rather complex tax structure given its domicile, my sense is that the company (like most) can print whatever it wants on the 3Q report tomorrow.
  • But on any good news whatsoever, that’s when I’m in there pounding on such a high-conviction idea like this.
  • I guess the consensus and its 140bp margin improvement and 30% EPS growth for FY09 does not agree with me.
  • I won’t rehash all of my more detailed comment on 6/2 (The Stock Has Popped But The Model Has Not), but consider the following when evaluating whether the company can prevent a massive slowdown in growth next year.
  • a) GIL’s top line slows to a (still respectable) mid-teens growth rate as capacity is near fully ramped (vs 25-30% over past 2 years).
    b) GIL is at the end of its multi-year offshoring shift that boosted margins by 7 points over 6 years. At the same time, sourcing cotton costs are headed meaningfully higher, and labor rates in Honduras (primary production hub) has just broken into double digit growth range.
    c) The industry’s sourcing tailwind becomes a headwind and competitive pressures therefore intensify due to irrational behavior.
    d) One of its top competitors, Hanesbrands, is now public and has its own arsenal of cost cuts to pass through to customers as it rightsizes its own business.
    e) GIL is shifting its growth to customized programs to US mass retailers, and becomes a price taker instead of a price-maker (as it is in its current screen printing business).
    f) With a 12% SG&A ratio, GIL hardly has the sales and marketing structure to profitably grow with mass customers.
  • I’m pretty bearish on the fallout from a structural change in the margin structure in this industry. That’s where picking the winners vs. losers gets fun.
  • Is Gildan going away? Probably not, but growth is slowing, gross margins are headed lower, and the SG&A rate is headed up. Not only is a 140bp margin boost unattainable, but I don’t see how the current rate is in any way sustainable.
Inflation (including wages) in Honduras is going vertical.

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