“My own view is that he will speak eloquently, but that words are cheap, and that the record of an individual is the basis upon which you determine whether they should continue to hold on to their job.”
-Presidential candidate Mitt Romney
Since starting Hedgeye almost four years ago, many of our readers have a hard time discerning the political leanings of the firm. At times we’ve been accused of being Democrats and in other instances we’ve been accused of being Republicans. In reality, while individuals at Hedgeye have personal political leanings, and we encourage them to get involved in the process, as analysts we are completely objective about politics. Our job is to analyze the economic policies of politicians and come up with a view of their ultimate impact on asset classes and prices.
I highlight the quote above not because I necessarily agree with Romney, but rather because I want to highlight that the political debate is going to only accelerate in the coming months heading into the nominating conventions and ultimately the general election in November. Romney’s statement above is very accurate in one sense, this election, as they usually are, will be about the performance of the incumbent and the economy under the incumbent.
Later today President Obama will be giving a speech that will be the beginning of his campaign’s attempt at taking back the economic debate. Based on early previews, Obama is likely to focus less on the last three years, a time in which he will claim he shored up the economy, and more on the future prospects for the U.S. economy. As it relates to the future, Obama will attempt to juxtapose Romney, a wealthy private equity investor, with middle class Americans. The insinuation being that Romney’s policies will only enrich the wealthy, while Obama will help the middle class.
The challenge that Obama faces, especially if he uses only rhetoric and has no new tangible plans, is that the middle class has very much struggled under his Presidency. The two statistics that the Romney camp repeatedly cites, which are largely accurate, are that no net new jobs have been created under Obama and that median household incomes have declined somewhere in the range of $4,000 per annum under Obama.
In the Chart of the Day, we highlight our proprietary Hedgeye Election Indicator (HEI). The HEI is driven by real time economic price data that correlates closely with polls and ultimately establishes a probability of an Obama re-election. In line with Romney’s statement that talk is cheap as it relates to economic performance, the HEI bears this out as it has declined to its lowest level in five months at 54%. As the economy goes, so goes Obama’s re-election chances.
In Europe this morning, we are getting increasing evidence that not only is talk cheap, but action itself is cheap. Specifically, Spanish 10-year yields touched 7.0% overnight. This is a 91 basis point increase from Monday morning’s bailout lows. It seems the attempt at containing European sovereign debt issues by adding more debt, without long term structural reform, is actually now being perceived as mere talk by the market, even if the Eurocrats see it as action.
Later today we will be publishing a note on Italy. As much of the media attention is rightfully focused on the pressure points of Spain and Greece, Italy is the third largest economy in the Eurozone , so a much bigger problem than Spain, and its yields and CDS are starting to trade in line with Spain at 6.3% on the 10-year and 554 basis points on 5-year CDS. With a 120% debt-to-GDP, it should be no surprise that adding more debt in Europe to bail out Spain is not a positive catalyst for Italy.
The unintended consequences of failed European bailouts are not only being seen in Italy’s sovereign debt markets, but also broadly in European companies. This morning the Swiss banks are getting punished. Credit Suisse is down -8.0% after the Swiss National Bank said they need a “marked increase” in capital this year to prepare for possible escalation of Euro-zone risks. The Swiss National Bank also recommended that UBS boost capital.
On a more micro level, our Restaurant team led by Howard Penney will be hosting a call on the restaurant industry’s franchise model, and its latent risks, with restaurant finance expert John Hamburger (yes, that is his real name). The crux of the debate is as follows:
“The interests of franchisees and franchisors do not always align; in fact, in today’s environment of tight capital supply for small businesses and increasing competitiveness among restaurant companies, they can sometimes diverge. Through franchising, franchisors gain more stable cash flow, protection from swings in variable costs, and lower expenses. In turn, franchisees, ideally, gain operational expertise from companies and brand recognition while assuming much of the operational risk of the business. Most of the decision-making authority pertaining to the business remains with the company and, in difficult business conditions, this can be a source of contention.
As franchisors seek to grow royalty fees, decisions made by corporate restaurant executives in the past few years have tended to focus on promotional strategies and capital-intensive store and process alterations. Of course, as long as the consumer and financing environments cooperate, this behavior may not meaningfully impact the franchisee’s bottom line. However, with the backdrop of a fragile economy, volatile commodity costs, tight access to capital, and increasing labor costs, there is a potential for friction. The addition of any controversial business decisions that magnify franchisees’ difficulties all but guarantees disharmony between management and the franchise community. Examples over the past few years are numerous, from Kentucky Grilled Chicken at KFC to bun toasters at Wendy’s to 99 cent double cheeseburgers at Burger King.”
So, in effect are the perceived benefits to the franchisee really just talk? If you are an institutional investors and would like to join the call and trial our restaurant vertical please email .
As it relates to talk and action, I will leave you with one last quote from President Roosevelt:
“The man who really counts in the world is the doer, not the mere critic-the man who actually does the work, even if roughly and imperfectly, not the man who only talks or writes about how it ought to be done.”
Our immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar, EUR/USD, and the SP500 are now $1, $96.11-98.85, $81.91-82.46, $1.24-1.26, and 1, respectively.
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research