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JUST DO IT: Investing in NKE for the long haul

Nike has been the darling of both the retail and institutional crowd for some time now but with Wednesday’s sell off, we expect this stock to be bearish over the next two months or so. Too much volatility and the sell off hasn’t completed in full just yet.

 

JUST DO IT: Investing in NKE for the long haul - 2NKE EPS chart

 

But over the long term, specifically our three-year TAIL duration, there is much to get excited about. Hedgeye Retail Sector Head Brian McGogh thinks there’s a mismatch as to why the consensus owns Nike, versus why it should own Nike. Here are three important catalysts to keep in mind that will affect earnings to the upside:

 

  • European Football: While America isn’t too keen on “soccer,” Europe and the rest of the world go nuts over Euro 2012. It’s seriously the biggest sporting event in the world going on this year, save for the Olympics which are an unjustifiable catalyst.
  • FlyKnit Technology: People get excited over new technologies in apparel. This is an excellent new product and platform for Nike and they’ve got the manufacturing process down solid. It hits stores next month and people are ready to buy. But the hype shouldn’t be factored into a near-term position. This is an investment that will matter over the next two to three years. 
  • The NFL Deal: Though the news is a bit old by now, it’s still a very important win for Nike. They reap the benefits at an accelerating rate and come football season, you’ll be seeing a lot more swoosh.

QUANTIFYING THE INFLATION TRADE ACROSS ASIA AND LATIN AMERICA

CONCLUSION: Our analysis shows that the post-QE/OpTwist returns of USD-based investors in Asian and Latin American equity markets were neither a function of that index’s/economy’s exposure to rising commodity and/or asset prices; nor were those returns a function of performance in past iterations of Fed easing. Thus, we would argue that outperformance in the next iteration of Fed easing (if any) will come down to identifying and taking advantage of idiosyncratic factors across the individual economies.

 

Dollar down; stocks, commodities and EM FX up. That’s the consensus reflation trade that has suddenly become the predominant bull case throughout the global investment community. As we have been saying since 1Q11, the reflation trade becomes the Inflation Trade as rapid commodity price gains perpetuate faster rates of reported inflation and slower growth across the global economy.

 

As completely detrimental as that is to any “long term” investment strategy, the reality of the situation is that most institutional investors have to chase short-term performance in one form or another. As such, if the Fed uses the recent string of anemic domestic employment growth and slowing [headline] inflation to signal or implement QE3-4 (it’s hard to keep track) next week, we would not be surprised to see another short-lived “risk” rally to another lower long-term high across global equity and commodity markets.

 

Turning to Asia and Latin America, we’ve taken the liberty to quantify the effects of the last three iterations of the Federal Reserve’s Policies to Inflate on their financial markets for any investors who may be looking to hit up the ol’ well once more. Our hypothesis was that those countries whose benchmark equity index was most exposed to the Inflation Trade would experience outsized returns relative to the group in both their stock market (faster earnings and economic growth) and local currency vs. the USD (capital flows; policy tightening speculation) on a S/T TREND duration (3MO). Moreover, we expected performance during these periods of reflation to be both positively and tightly correlated to the aforementioned exposure.

 

Using a simple linear regression analysis, we were able to dispel both components of our hypothesis, as outperformance of a given country’s stock market and local currency was not necessarily a function of its index’s (an admittedly loose surrogate for “economy”) exposure to the Inflation Trade; nor were returns always positively correlated across iterations.

 

QUANTIFYING THE INFLATION TRADE ACROSS ASIA AND LATIN AMERICA - 1

 

QUANTIFYING THE INFLATION TRADE ACROSS ASIA AND LATIN AMERICA - 2

 

QUANTIFYING THE INFLATION TRADE ACROSS ASIA AND LATIN AMERICA - 3

 

The key takeaway here is that there is hardly any relationship to be derived, suggesting that either A) country-specific fundamentals (i.e. GROWTH/INFLATION/POLICY) were the key determinants of performance or B) returns were more a function of performance in past iterations (i.e. “going back to the ol’ well”). To test the latter theory, we regressed returns of QE2 against those of QE1 and the returns of Operation Twist with those of QE2. In short, our findings here would suggest that this wasn’t the case.

 

QUANTIFYING THE INFLATION TRADE ACROSS ASIA AND LATIN AMERICA - 4

 

QUANTIFYING THE INFLATION TRADE ACROSS ASIA AND LATIN AMERICA - 5

 

All told, our analysis shows that the post-QE/OpTwist returns of USD-based investors in Asian and Latin American equity markets were neither a function of that index’s/economy’s exposure to rising commodity and/or asset prices; nor were those returns a function of performance in past iterations of Fed easing. Thus, we would argue that outperformance in the next iteration of Fed easing (if any) will come down to identifying and taking advantage of idiosyncratic factors across the individual economies.

 

Below is a full performance table of the countries included in our sample.

 

Darius Dale

Senior Analyst

 

QUANTIFYING THE INFLATION TRADE ACROSS ASIA AND LATIN AMERICA - 6


CHART DU JOUR: BYD DOUBLE DIPS ON LOWER OIL

The positive impact of lower gas prices on regional gaming revenues is well-known but BYD benefits from low jet fuel costs too.

  • BYD’s Hawaiian travel business (rolled up in the Downtown LV region) benefits from lower jet fuel costs – downtown EBITDA margins and jet fuel at -0.55 correlation
  • Q2 to-date jet fuel is down 8% sequentially and YoY
  • We calculate $0.01 per share positive impact each quarter for the next 4 quarters if jet fuel prices stay at current levels, beginning with Q2

 

CHART DU JOUR: BYD DOUBLE DIPS ON LOWER OIL - BYD


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IDEA ALERT: LONG SAFM

Sanderson Farms is a company with long term top line tailwinds, easing input costs, and a best-in-class balance sheet operating in an industry that is consolidating.  Keith just bought the stock in the Hedgeye Virtual Portfolio. Please refer to our note “IDEA ALERT: LONG SAFM” from 6/7/12 for the thesis.  The levels are below; Keith sees it as a good spot to buy it here on red.

 

IDEA ALERT: LONG SAFM - SAFM levels

 

 

Howard Penney

Managing Director

 

Rory Green

Analyst

 


SPAIN: Burning down the house

Perhaps the Talking Heads originally predicted the fate of global housing markets once upon a time, but we’ll leave that up to you. Spain has BIG problems on its hands, including the cost of borrowing (10-Year bond yield just hit 7%), stagnant growth and a high unemployment rate that’s fast approaching 25%.

 

SPAIN: Burning down the house - spanish housing prices

 

But perhaps one of the more overlooked concerns about Spain is – wait for it – its housing market. Yes, similar to the United States in 2007-2008, Spain has a rapidly deteriorating housing market. Another leg down in Spanish home prices sees very likely. Hedgeye Director of Research Daryl Jones lays out why Spain is following the lead of the US:

 

Spain actually had two bubble periods with the first beginning in 1985.  From 1985 – 1991 home prices basically tripled, from 1992 – 1996 they basically remained flat, and from 1996 – 2008 prices more than doubled.   So far, from the peak, Spanish home prices are in aggregate only off about 20%.” 

 

As recently as February 2012, Spanish housing transactions were down 30% year over year. If you think that isn’t slowing growth, then we don’t know what else to say. The pressure on Spain is already here and it’s about to get a lot worse as we move into the summer.

 

 


WEEKLY COMMODITY CHARTBOOK

Despite the dollar trading down over the last week, many of the commodities we monitor continue to decline in price as economic concerns impact demand expectations. Softer top line trends due to economic weakness are obviously a negative for restaurants but when those softer top line trends are accompanied by all-time high cost of sales growth, the impact on the bottom line can exceed expectations.

 

General Overview

 

Clearly, “Softer top line trends and all-time high cost of sales growth” was referring to Buffalo Wild Wings.  Estimates are holding firm here, for 2012, even as wing prices are up 133% year-over-year.  Beef costs were down over the last week as demand concerns continue to weigh on prices.  Supply dynamics remain bullish for prices, but our view is that supply data points highlighting the shrinking herd size in the U.S. have been known for some time.  Coffee costs continue to come down which is a positive for SBUX, PEET, GMCR, and other coffee companies.  In line with the Hedgeye Macro team’s stance, for a broad overview of where commodity costs are going in our space, we pay particular attention to the US Dollar. As Keith likes to say, “get the US Dollar right, and you’ll get a lot of other things right”, and anchoring off our Macro team’s work on the dollar has helped us to better understand the commodity complex for the restaurant space.  Per the second chart, below, the inverse correlation between the dollar the CRB foodstuffs Index is quite strong at -0.81 over the past nine months.

 

WEEKLY COMMODITY CHARTBOOK - commod614

 

WEEKLY COMMODITY CHARTBOOK - usd crb food correl

 

 

Gasoline Prices


For the week ended June 8th, gasoline demand in the U.S. fell 0.5% to a five week low despite prices at the pump falling lower.  Fuel use over the four weeks prior to June 8th fell 1.9% below the same period in 2011, a record 64th consecutive drop in that measure.

 

WEEKLY COMMODITY CHARTBOOK - gas prices

 

 

Coffee

 

Coffee costs lead to the downside over the past week.  Here is a refresh on the most recent commentary, by company, on coffee costs.

 

SBUX: With the commodity markets today and again this is primarily dominated for us by coffee, it is clear that we have a tailwind coming certainly in fiscal 2013 as we've locked most of those prices in for coffee through 11 months of our coffee needs in our fiscal 2013 and directionally we expect tailwinds again in 2014, now we've not locked much of our coffee prices for 2014. We have done some buying for 2014 already, but directionally everything looks like we will face certainly 12 months and I expect 24 months or longer of now – of more favorable commodity cost environment.

 

HEDGEYE: This coffee tailwind should mitigate some of the dilution to EPS that is expected as a result of recent acquisitions.  However, FY12 and FY13 costs being largely locked and given that the company bought all the way down from the peak in coffee costs just over a year ago, the tailwind starting in FY13 should be modest.

 

 

Chicken Wings

 

BWLD [from the most recent 10-K]: “A 10% increase in the chicken wing costs for 2011 would have increased restaurant cost of sales by approximately $3.8 million.”

 

HEDGEYE: We estimate that a 10% increase in chicken wing prices would account for $0.14 of EPS pressure.  1Q inflation was 57%.  If we assume 120% inflation for 2Q and a possibly-conservative 70% for the year overall, that would imply $0.95 of FY12 EPS pressure.  We do not think that the Street's estimates have been adjusted accordingly.

 

WEEKLY COMMODITY CHARTBOOK - egg sets wing prices

 

Correlation Table

 

WEEKLY COMMODITY CHARTBOOK - correl table

 

Charts

 

WEEKLY COMMODITY CHARTBOOK - coffee

 

WEEKLY COMMODITY CHARTBOOK - corn

 

WEEKLY COMMODITY CHARTBOOK - wheat

 

WEEKLY COMMODITY CHARTBOOK - soybeans

 

WEEKLY COMMODITY CHARTBOOK - live cattle

 

WEEKLY COMMODITY CHARTBOOK - chicken whole breast

 

WEEKLY COMMODITY CHARTBOOK - chicken wings

 

WEEKLY COMMODITY CHARTBOOK - cheese

 

WEEKLY COMMODITY CHARTBOOK - imlk

 

 

Howard Penney

Managing Director

 

Rory Green

Analyst


Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.

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