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MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN

Key Takeaways

*European sovereign swaps tightened last week, with Spanish swaps tightening the most (-6.9%) and Irish swaps tightening the least (-2.85%).  While Spanish sovereign swaps saw tightening, most Spanish bank swaps continued to widen out.

 

* We published a note last week titled "Don't Be Fooled - Counterparty Risk is Rising" where we cautioned against using the Euribor-OIS spread as a measure of interbank lending within the Eurozone.  We looked at the relationship between the Euribor-OIS spread and French Bank CDS. It is evident from the results that the relationship between these two data series has been falling apart since mid-march. We now think the Euribor-OIS spread is a potentially dangerous and misleading risk indicator, which is understating the underlying risks. For reference, the Euribor-OIS was roughly flat over last week, while the TED spread continued to fall.

 

Financial Risk Monitor Summary  

• Short-term(WoW): Positive / 5 of 12 improved / 0 out of 12 worsened / 7 of 12 unchanged

• Intermediate-term(WoW): Negative / 3 of 12 improved / 3 out of 12 worsened / 6 of 12 unchanged  

• Long-term(WoW): Negative / 3 of 12 improved / 3 out of 12 worsened / 6 of 12 unchanged  

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - summary 2

 

1. US Financials CDS Monitor – Swaps tightened for 22 of 27 major domestic financial company reference entities last week.   

Tightened the most WoW: AXP, PRU, AIG

Widened the most WoW: MTG, RDN, MBI

Tightened the most MoM: COF, MBI, AIG

Widened the most MoM: BAC, RDN, XL

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - US CDS

 

2. European Financial CDS - Bank swaps were tighter in Europe last week for 24 of the 39 reference entities. The median tightening was 2.6%. Spanish banks continued to see their default probabilities rise notably week over week.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - cds EURO

 

3. European Sovereign CDS – European Sovereign Swaps mostly tightened over last week. Spanish sovereign swaps tightened by 6.9% (-35 bps to 475 ). Irish swaps tightened the least, declining 2.85% (-17 bps to 570).

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - Sov table 2

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - Sov CDS 1

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - Sov CDS 2

 

4. High Yield (YTM) Monitor – High Yield rates fell -14.4 bps last week, ending the week at 7.23 versus 7.37 the prior week.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - HY

 

5. Leveraged Loan Index Monitor – The Leveraged Loan Index rose 4.7 points last week, ending at 1660.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - LLI

 

6. TED Spread Monitor – The TED spread fell 2.0 points last week, ending the week at 37.69 this week versus last week’s print of 39.70.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - TED 2

 

7. Journal of Commerce Commodity Price Index – The JOC index rose 4.6 points, ending the week at -5.54 versus -10.1 the prior week.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - JOC

 

8. Euribor-OIS spread – The Euribor-OIS spread (the difference between the euro interbank lending rate and overnight indexed swaps) measures bank counterparty risk in the Eurozone. The OIS is analogous to the effective Fed Funds rate in the United States.  Banks lending at the OIS do not swap principal, so counterparty risk in the OIS is minimal.  By contrast, the Euribor rate is the rate offered for unsecured interbank lending.  Thus, the spread between the two isolates counterparty risk. The Euribor-OIS spread tightened by less than one basis point to 39 bps.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - Euribor OIS

 

9. ECB Liquidity Recourse to the Deposit Facility – The ECB Liquidity Recourse to the Deposit Facility measures banks’ overnight deposits with the ECB.  Taken in conjunction with excess reserves, the ECB deposit facility measures excess liquidity in the Euro banking system.  An increase in this metric shows that banks are borrowing from the ECB.  In other words, the deposit facility measures one element of the ECB response to the crisis.  

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - ECB

 

10. Markit MCDX Index Monitor – The Markit MCDX is a measure of municipal credit default swaps. We believe this index is a useful indicator of pressure in state and local governments. Markit publishes index values daily on six 5-year tenor baskets including 50 reference entities each. Each basket includes a diversified pool of revenue and GO bonds from a broad array of states. This week we moved from tracking the 14-V1 tenor to tracking the 16-V1 tenor basket. Last week spreads tightened, ending the week at 145 bps.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - MCDX

 

11. Baltic Dry Index – The Baltic Dry Index measures international shipping rates of dry bulk cargo, mostly commodities used for industrial production. Higher demand for such goods, as manifested in higher shipping rates, indicates economic expansion. Last week the index rose 89 points, ending the week at 1156 versus 1067 the prior week.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - Baltic

 

12. 2-10 Spread – We track the 2-10 spread as an indicator of bank margin pressure.  Last week the 2-10 spread tightened to 168 bps, 2 bps tighter than a week ago.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - 2 10

 

13. XLF Macro Quantitative Setup – Our Macro team’s quantitative setup in the XLF shows 0.3% upside to TRADE resistance and 1.2% downside to TRADE support.

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - XLF

 

Margin Debt - March: +0.91 standard deviations 

We publish NYSE Margin Debt every month when it’s released. NYSE Margin debt hit its post-2007 peak in April of 2011 at $320.7 billion. The chart below shows the S&P 500 overlaid against NYSE margin debt going back to 1997. In this chart both the S&P 500 and margin debt have been inflation adjusted (back to 1990 dollar levels), and we’re showing margin debt levels in standard deviations relative to the mean covering the period 1. While this may sound complicated, the message is really quite simple. First, when margin debt gets to 1.5 standard deviations or greater, as it did last April, it has historically been a signal of extreme risk in the equity market - the last two times it did this the equity market lost half its value in the ensuing period. We flagged this for the first time back in May 2011. The second point is that margin debt trends tend to exhibit high degrees of autocorrelation. In other words, the last few months’ change in margin debt is the best predictor of the change we’ll see in the next few months. We would need to see it approach -0.5 to -1.0 standard deviations before the trend runs its course. There’s plenty of room for short/intermediate term reversals within this broader secular move. Overall, however, this setup represents a long-term headwind for the market. One limitation of this series is that it is reported on a lag.  

 

The chart shows data through March. 

 

MONDAY MORNING RISK MONITOR: EUROPEAN SOVEREIGN SWAPS TIGHTEN - Margin Debt

 

Joshua Steiner, CFA

 

Allison Kaptur

 

Robert Belsky

 

Having trouble viewing the charts in this email?  Please click the link at the bottom of the note to view in your browser. 

 


THE HEDGEYE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP – April 30, 2012


As we look at today’s set up for the S&P 500, the range is 17 points or -0.88% downside to 1391 and 0.33% upside to 1408. 

                                            

SECTOR AND GLOBAL PERFORMANCE

 

THE HEDGEYE DAILY OUTLOOK - 1

 

THE HEDGEYE DAILY OUTLOOK - 2

 

THE HEDGEYE DAILY OUTLOOK - 3

 


EQUITY SENTIMENT:

  • ADVANCE/DECLINE LINE: on 4/27 NYSE 1005
    • Down from the prior day’s trading of 1071
  • VOLUME: on 4/27 NYSE 787.79
    • Increase versus prior day’s trading of 0.97%
  • VIX:  as of 4/27 was at 16.32
    • Increase versus most recent day’s trading of 0.49%
    • Year-to-date decrease of -30.26%
  • SPX PUT/CALL RATIO: as of 04/27 closed at 2.21
    • Up from the day prior at 1.31 

CREDIT/ECONOMIC MARKET LOOK:


GROWTH – slowing, sequentially, is now a reported fact – but Treasury Yields (10yr 1.93%) and Equity Markets (making lower-highs, globally, since Feb-March) have been very stealth in discounting that before the Sell-Side has. This morning’s South Korean Export number was awful at flat y/y (ie no growth).

 

STAGFLATION – politically, it’s harder to say we have that in the USA right now (b/c of how we calculate GDP and inflation) than it is to say they have it in Europe. In Italy, the CPI was reported at +3.8% y/y for April, which is nauseatingly high relative to the no growth in Italian GDP (or France, Spain, etc). Brent oil $119 is a consumption killer. 

  • TED SPREAD: as of this morning 38
  • 3-MONTH T-BILL YIELD: as of this morning 0.09%
  • 10-Year: as of this morning 1.92
    • Down from prior day’s trading of 1.93
  • YIELD CURVE: as of this morning 1.67
    • Decrease from prior day’s trading of 1.68 

MACRO DATA POINTS (Bloomberg Estimates):

  • 8:30am: Personal Income, Mar., est. 0.3% (prior 0.2%)
  • 8:30am: Personal Spending, Mar., est. 0.4% (prior 0.8%)
  • 9:45am: Chicago PMI, Apr., est. 60.5 (prior 62.2)
  • 10:00am: NAPM-Milwaukee, Apr., est. 53 (prior 51.8)
  • 10:30am: Dallas Fed Manu. Act., Apr., est. 8 (prior 10.8)
  • 11:30am: U.S. to sell $30b 3-mo., $28b 6-mo. bills
  • 5:30pm: Fed’s Fisher speaks on jobs in Beverly Hills, CA 

GOVERNMENT:

    • Japanese Prime Minister Yoshihiko Noda visits White House to discuss U.S.-Japan Security Alliance, economy and trade
    • President Obama to speak at Building and Construction Trades legislative conference
    • House, Senate not in session
    • Supreme Court issues orders only

 WHAT TO WATCH: 

  • Collective Brands said to select group made up of Wolverine World Wide, Golden Gate Capital as leading contender to buy co.
  • Warner Chilcott said to be weighing options including possible sale after receiving interest from strategic, private-equity buyers
  • Spain’s economy enters second recession since 2009
  • LightSquared said to receive weeklong extension from creditors
  • Consumer spending in the U.S. probably climbed 0.4% in March as incomes  grew, economists est.
  • Occupy Wall Street demonstrators plan marches across the world tomorrow calling attention to what they say are abuses of power, wealth
  • Chrysler’s Dodge Dart overcoming snags before start of production, will have high-mileage version ready in 3Q
  • Apple uses offices in states other than California, countries outside the U.S. to help minimize its overall tax burden: NYT
  • Yahoo urged shareholders not to back board nominees put forward by holder Third Point
  • Boeing will ship all four 787 composite-plastic Dreamliners to Air India, the carrier that demanded $1b in compensation after production delays
  • Apple, Google deserve to be part of Dow Jones industrial average: Barron’s
  • Goldman Sachs Asset Management Chairman Jim O’Neill reported by Sunday Times to be a candidate for Bank of England governor
  • Accretive Health said yesterday it’s working with advisers to address concerns raised by Minnesota AG that it puts bedside pressure on patients to pay bills
  • Haemonetics agreed yesterday to buy blood-collection business of Pall Corp. for $551m in cash
  • Apple said to have held talks to let subscribers of Epix movie chanel watch films on its set-top box
  • Starwood Hotels plans to re-enter Iraqi market almost 20 years after exiting as a result of Gulf War
  • BOX Options Exchange won approval April 27 to become a U.S. securities exchange
  • Dewey Leboeuf said to end Greenberg Traurig merger talks
  • Analysts predict U.S. shares will rise this year to boost the S&P 500 to record, even as Wall Street strategists say the best is already over for American equities
  • No U.S. IPOs expected to price: Bloomberg data
  • Week Ahead : U.S. Jobs, French Debate, Buffett: April 30-May 5 

EARNINGS:

    • CNA Financial (CNA) 6am, $0.68
    • Humana (HUM) 6am, $1.55
    • Loews (L) 6am, $0.90
    • LyondellBasel (LYB) 6am, $1.04
    • Watson Pharmaceuticals (WPI) 7am, $1.59
    • Harman International Industries (HAR) 8am, $0.67
    • UDR (UDR) 8am, $0.34
    • DiamondRock Hospitality Co (DRH) 8am, $0.07
    • Mercury General (MCY) 8:30am, $0.68
    • Canadian Oil Sands Ltd (COS CN) 4pm, C$0.54
    • SBA Communications (SBAC) 4pm, $(0.18)
    • Veeco Instruments (VECO) 4pm, $0.22
    • Anadarko Petroleum (APC) 4:01pm, $0.83
    • Hologic (HOLX) 4:01pm, $0.33
    • CNO Financial Group (CNO) 4:02pm, $0.13
    • Plum Creek Timber Co (PCL) 4:02pm, $0.24
    • Shutterfly (SFLY) 4:02pm, $(0.21)
    • PMC-Sierra (PMCS) 4:04pm, $0.05
    • PartnerRe (PRE) 4:04pm, $2.01
    • Forest Oil (FST) 4:05pm, $0.20
    • Enbridge Energy Partners (EEP) 4:08pm, $0.37
    • Flowserve (FLS) 4:09pm, $1.61
    • Herbalife (HLF) 4:10pm, $0.81
    • McKesson (MCK) 4:10pm, $2.06
    • FMC (FMC) 4:30pm, $1.85
    • Masco (MAS) 5pm, $(0.01)
    • Suncor Energy (SU CN) 10pm, C$0.81
    • Jacobs Engineering Group (JEC) Post-Mkt, $0.74 

COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG) 

  • Speculators Miss Biggest U.S. Corn Sale Since 1994: Commodities
  • Wheat Drops as U.S. Crop Development Accelerates; Soybeans Fall
  • Brent Oil Heads for First Monthly Drop Since December on Demand
  • Copper Falls 0.5% to $8,376 a Ton; Nickel Declines, Tin Gains
  • Gold May Gain as Lower Borrowing Costs, Debt Crisis Spurs Demand
  • White Sugar Rises as Lower Prices May Spur Demand; Coffee Falls
  • Mercuria Said to Hire Perkins as Agriculture Head in Singapore
  • Palm Oil Drops to Pare Monthly Advance on Higher Output Concern
  • U.S. to End Fuel Exports as Oil Discount Disappears, Facts Says
  • Hedge Funds Cut Bullish Gasoline Bets on Prices: Energy Markets
  • Roomier Pig Pens May Bolster Pork Prices as European Output Ebbs
  • Merkel’s Green Jobs Drive Faltering With Cuts for Solar: Energy
  • Record-High Gasoline Burdens Consumers as Europe Fights Slowdown
  • Funds Miss Biggest Corn Sale Since 1994
  • Fortescue Seen Luring Anglo-to-Glencore on China Iron: Real M&A
  • China Forestry Logging Assets Hold Value, Investor Carlyle Says
  • Crude April Trading Range Tightest Since 1995: Chart of the Day 

THE HEDGEYE DAILY OUTLOOK - 4

 

 

CURRENCIES


US DOLLAR – whether people want to admit it or not, the US economic data was bad last week (jobless claims and GDP) – if the only thing left keeping asset prices afloat is the hope for iQe4, that’s dicey. We’ve seen this movie before – holding the USD down like a ball under water (down 6 of the last 7 wks) ends in deflationary tears when it pops back up.

 

THE HEDGEYE DAILY OUTLOOK - 5

 

 

EUROPEAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 6

 


ASIAN MARKETS


THE HEDGEYE DAILY OUTLOOK - 7

 

 

MIDDLE EAST


THE HEDGEYE DAILY OUTLOOK - 8

 

 

 

The Hedgeye Macro Team

 



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 80.65%
  • SHORT SIGNALS 78.64%

Capital Flight

“Capital flight is a traditional response to currency collapse.”

-Jim Rickards

 

During most “bull” markets you see a decisively bullish pattern of rising volumes and fund flows to those markets. Not this one.

 

Not in Venezuela either. While Chavez has been less subtle about devaluing Venezuela’s currency than Ben Bernanke has ours, at up +121% for 2012 YTD, the fund flows to the Venezuelan stock market are as dead as Keynes too.

 

The failed political strategy of inflating asset prices via Currency Debauchery is not new. Neither is the hyperinflation sometimes born out of those strategies. As Jim Rickards reminds us in Currency Wars, “In 1922, the inflation turned to hyperinflation as the Reichsbank gave up trying to control the situation and printed money frantically…” (page 59)

 

Back to the Global Macro Grind

 

Don’t worry, we don’t have hyperinflation in the USA yet. Nor are we likely to if the Global Macro Ball that is being held underwater (the US Dollar) suddenly pops up. That, last I checked, has Deflated The Inflation in a hurry, multiple times in the last 5 years. So manage your risk accordingly.

 

People aren’t stupid. If you burn their bucks with broken promises of iQe upgrades over, and over, and over again – they’ll stop giving you their hard earned Dollars to burn. Selling Commodities and Equities into their Q1 tops of 2008, 2010, 2011 proved to be very smart 3-6 month timing decisions. When it comes to the pending flight of your capital, you don’t want to miss that flight.

 

Last week’s rally in asset price inflation was trivial. As the US Economic data worsened, expectations for iQe4 rose. Whenever that happens – and it has happened multiple times in the last 5yrs – the US Dollar goes down, and asset prices catch another lower volume bid. In context, here’s how that looked last week:

  1. US Dollar = down another -0.6% to $78.71 (down for 6 of the last 7 weeks)
  2. SP500 = up +1.8% (getting back to flat for April, right on time, into month-end)
  3. CRB Commodities Index = +1.4% (led by Natural Gas, up +14% on the week)

Now political people really like to argue with me on this, primarily because I’m holding them accountable for not only Policies To Inflate, but also A) the shortened economic cycles and B) amplified market volatilities born out of their policies.

 

Fortunately, the data doesn’t lie; politicians do. Growth Slowing again is as obvious as the sun rising in the East. If an un-elected Central Planner in Chief didn’t arbitrarily decide to move the goal posts on January 25th, 2012 (pushing easy money to 2014), I don’t think the US Dollar would have had this decline – and I don’t think US Growth would have slowed like it just did.

 

Here’s what US GDP Growth looked like in Q1 of 2012:

  1. Q1 2012 GDP slowed to 2.2% from 3.0% in Q4 of 2011
  2. Q1 US Fixed Investment Growth slowed to 0.18% from 0.78% in Q4 of 2011
  3. Q1 US Export/Import Growth accelerated to -0.01% from -0.26% in Q4 of 2011

Ah, the elixir of a Keynesian life – Exports. Yes, in their textbook it says that if you devalue the currency of a country, you will “boost” exports. Ok, sounds good – but it has not and will not work in the United States of America if the broken promise is to keep doing this with the US Dollar testing 40 year lows.

 

Consumption and Investment drive the US Economy, not Government and Currency Devaluation. If you perpetuate spikes in price inflation, Consumption will fall. If you perpetuate economic volatility, Fixed Investment will slow.

 

US Consumption = 71% of US GDP. That’s why gas prices matter so much to real (inflation adjusted) US GDP Growth. Sure, Final Retail Sales Growth rose to +1.6% in Q1, but a lot of that simply has to do with prices at the pump going up. Mistaking inflation for growth has been, and will continue to be, the legacy of Keynesian economic forecasters in the Bush/Obama era.

 

In order to account for inflation adjustments, the US Government estimates what they call the “Deflator” and subtract that price from what you are paying at the gas station, grocery store, etc.

 

Look at what the US GDP Deflator has done in the last 2 quarters:

  1. Q4 2011 Deflator = 0.84%
  2. Q1 2012 Deflator = +1.5%

You don’t need a Ph.D in applied math to realize that (even if you believe these ridiculously low government “estimates” of inflation in your life) their estimates just almost doubled, on the margin.

 

On the margin is how real human beings live. It’s also how Globally Interconnected Risk is priced. Paycheck to paycheck, tick by tick – it’s real life for all of us who have to balance a family budget and firm payroll. It’s what most of these conflicted and compromised central planners have never been held accountable to in their working life.

 

The Fed’s “mandate” = Price Stability and Full Employment. US Jobless Claims just spiked +15% month-over-month (April versus March), and price volatility is plainly evident to anyone with live quotes. It’s time to get real about the credibility of the currency in this country, or we are going to see some serious Capital Flight.

 

My immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, France’s CAC40, and the SP500 are now $1, $118.94-120.17, $78.66-79.22, 3099-3321, and 1, respectively.

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Capital Flight - Chart of the Day

 

Capital Flight - Virtual Portfolio


THE M3: SINGAPORE UNEMPLOYMENT RATE

The Macau Metro Monitor, April 30, 2012

 

 

SINGAPORE'S JOBLESS RATE RISES TO 2.1% IN MARCH Channel News Asia, Bloomberg

S'pore's seasonally-adjusted overall unemployment rate increased from 2%, a 3-year low, in December 2011 to 2.1% in March 2012, missing estimates by economists in Bloomberg News surveys.


DNKN: ALL GLORY IS FLEETING

First and foremost, I want to acknowledge that Dunkin’ Brands had a strong quarter.

 

Dunkin’ Brands posted 1Q12 non-GAAP EPS of $0.25 ex-items versus consensus of $0.23, supported by revenues of $152 million versus consensus of $149 million.  Operating margins came in 130 basis points above consensus of 41.3%.  Total U.S. Dunkin’ Donuts points of distribution increased 3.8% versus a year ago, which was an acceleration from 4Q’s 3.6% year-over-year growth.   Mine is a humbling business and, as I was anticipating a weaker quarter than what the company ultimately reported, I hold my hands up and admit that.

 

Nigel Travis, as CEO of Dunkin’ Brands, is obviously a successful person but having been in this business for quite some time, I would hazard a guess that he, too, has had some humble moments in his career.  On the back of some strong numbers, DNKN’s CEO did not hesitate to put the boot in, attacking my thesis on the lack of evidence that the company can grow in line with its guidance and the Street’s expectations.  I stand by my prior assertions; as an analyst, it is my job to critically analyze the prospects of the equities I cover.  Management hyperbole abounds in the restaurant industry; I try to seek out facts.  Mr. Travis, however, described my thesis as “nonsense”.  Interestingly, his rant came in response to a question from a different analyst that was raising the same issues I have raised all along.

 

As clients will know, our view has been centered on a lack of actual, concrete evidence that the backlog of new unit openings is sufficient to support the White Space growth story that the company has been touting.  Either the company has the backlog or it does not.  Before the 1Q12 conference call, management’s guidance on this detail was limited to “the pipeline is really strong” and in my analysis I was fully transparent about where my numbers were coming from – announced Store Development Agreements (SDA’s) within the company’s press releases.   I wrote: 

 

“The evidence for our view is as follows: announced new unit openings are lagging actual openings, which is leading to a decline in the backlog of potential new units being opened.  Until we are proven wrong by greater disclosure from Dunkin’, we will continue to be bearish on the company’s growth prospects per the announcements of new contracted openings by the company.”

 

If Mr. Travis believes that this statement amounts to nonsense, that’s fine.  I believe that it demonstrated a transparent, sober and logical approach to a growth story that at that time had been deeply lacking in disclosure.  I understand that news flow about lock up restrictions being waived and continuous selling of stock does not necessarily point to fundamental weakness, but as an analyst dealing with unnecessarily limited information it does not instill confidence.  Without that confidence, I was unable to advise clients to get behind such a richly valued stock and I believed it to be overvalued. 

 

Nigel Travis’ dismissal of my thesis was most surprising in that it completely ignored his own company’s failure to adequately inform the Street of its backlog.  If 80% of the company’s new units last quarter were in new units, and agreements to open stores in new markets are marked with SDA’s, then perhaps my reasoning was not so off base.  Perhaps it was the best we could do with the disclosure that was made available.  Despite prior failed attempts, I did manage to get on the Dunkin’ call yesterday and asked, following his “nonsense” remark, why there is not greater disclosure about the growth rate of the company’s pipeline.  Mr. Travis’ response to me was that the decision was taken when the company went public, that the pipeline information was not to be released to the public because “it can be interpreted in all kinds of ways”.  Management is protecting the investment community from itself! 

 

Little by little, against management wishes, more information is surfacing and I am happy to continue to pursue it.  During the prepared remarks, Travis said that the company plans to “accelerate development over the next few years with the goal of 5% net new unit growth”.   This is about as positive as the proverbial piece of string is long.  The company has a goal of getting there and the string has length.  How soon the company can get there is going to be a much more important issue for investors.  

 

I am yet to see evidence that the growth rate can be achieved.  Sweetened up deals for franchisees in new markets and a clear preference for less disclosure as opposed to more on the part of management is not encouraging. 

 

Executives gushing about “future demand” is not going to cut it (no offense to any individual CEO).  Looking at the comparable-store sales trend, the two-year average is declining.  High single-digit same-store sales growth is impressive but the change on the margin is not, as it stands, pointing higher.  Despite the lack of importance of comps for a franchised business, it is likely that a continuation of this trend would spur concerns more broadly about the company’s ability to grow.  If comps decline to 5% and bulls capitulate on that, but the pipeline and returns on new units are shown to be healthy, I will be the first to react by advising clients to take advantage of the selling.  As before, I will remain skeptical of this story until I see the data to convince me otherwise.  

 

 

Howard Penney 

Managing Director

 

Rory Green

Analyst


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