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QE3? Yah You Know Me

Takeaway: The Fed pulling the trigger on QE3 is bullish for gasoline and, historically, prices north of $4 per gallon have led to equity sell-offs.

This note was originally published September 13, 2012 at 14:35 in Macro

It seems 99% of Wall Street was correct as QE3 was extended.  Usually fading consensus is a great strategy, although perhaps not as it relates to the Fed, at least yet.  But for starters, let’s look at the Fed’s statement from earlier today, the key points are as follows:

 

“Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.”

 

That’s actually not a key point, although it does emphasize, as we will touch on shortly, the mandate that the Fed has struggled to fulfill.

 

First on QE, the Fed effectively, as Keith would say, extended QE to infinity and beyond with this statement:

 

“If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.”

 

On a basic level, this will start with increasing purchases of longer-term securities by about $85 billion each month through the end of the year, included in this will be $40 billion of mortgage paper.  As it relates to interest rates, the Fed indicated that a zero to 0.25% federal fund rate is likely to be warranted at least through mid-2015.

 

In the chart below, we show the aggregate growth of the Federal Reserve balance sheet.  The first chart shows the massive growth in the Fed balance sheet since 2008 with close to $3 trillion dollars being printed over the course of that period.  As a ratio of nominal GDP (just shy of 20%), this is a meaningful quantity as the following chart highlights.  Unfortunately, we have not seen a corresponding increase in economic activity.

 

QE3? Yah You Know Me - 2

 

The broader issue with extending QE is that it has been largely ineffective at fulfilling the Fed’s dual mandate.  Ironically, or not, the key economic data out this morning before the Fed’s statement enforced this.  On price stability, August’s producer price index came in at +1.7%, versus last month’s +0.3%.  This is near a three year high in terms of MoM acceleration.  Jobless claims also came in higher than expected at +382K versus +370K consensus, and +367K in the prior month.

 

QE3? Yah You Know Me - PPI.claims

 

While the employment data is only marginally bearish, the PPI data point is far more critical.  At +1.7% MoM growth in producer prices, this is the largest increase in PPI since June of 2009.  Our key issue with QE / money printing is that it is bearish for the dollar, which conversely inflates key commodities that are priced in dollars.  As Keith noted in the Early Look today, the CRB index currently has a -0.94 correlation to the dollar over the past month.

 

Obviously, the most relevant commodity to the U.S. consumer is crude oil and the derivative price of gasoline.  Given that there are 254 million registered vehicles in the U.S., the relevance of gasoline costs to consumer spending and growth should not surprise anyone.  That question, as always, though, is when does increasing commodity inflation start to matter? 

 

In the chart below, we show that prices at/north of $4 per gallon at that the pump have had a definitively negative impact on growth and the stock market over the last few years. Gasoline exceeded $4 per gallon in mid-2008, mid-2011, early 2012, and now.  In each instance there was a corresponding sell off in equities.  Perhaps this time is different, though we have our doubts.

 

QE3? Yah You Know Me - 1

 

Daryl G. Jones

Director of Research


THE WEEK AHEAD

The Economic Data calendar for the week of the 17th of September through the 21 is full of critical releases and events. Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.

 

THE WEEK AHEAD - Week


AUGUST CPI DATA BEARISH FOR CASUAL DINING (DRI) COMPS

Takeaway: There is a lot of risk in assuming a rebound in casual dining comps any time soon $DRI, $ BLMN, $DIN, $EAT,

The Bureau of Labor Statistics released CPI data for the month of August this morning.  The spread between CPI for Food at Home versus Food Away from Home continues to grow.  Inflation in the restaurant check is far-outstripping inflation in the grocery aisle. 

 

We have long been calling out this trend; the advantage that restaurants enjoyed over grocers in 2011, in terms of lower price increases year-over-year, continues to fade.  Grocers were forced to raise prices in line with inflation to protect margins during 2011; we believe that restaurants benefitted from that.  Last year, restaurants’ strong top-line trends helped the industry mitigate the impact of inflation on margins but, it seems, this year pricing power is much-diminished.  Even McDonald’s is running price at roughly 3% in the United States. 

 

AUGUST CPI DATA BEARISH FOR CASUAL DINING (DRI) COMPS - food at home spread vs food away spread

 

 

Casual Dining

 

Using a “Restaurant Value Spread”, which is the basis point spread between CPI for Food at Home and CPI for Food Away From Home, we believe we have a good indicator of the traffic cycle for many casual dining brands.  This is not a complicated theory; when inflation at the grocery store is far in excess of inflation at the restaurant, people are more likely to skip the grocery store and eat at a restaurant.  We will be publishing on this in more detail over the weekend/early next week but our initial take is that the collapsing Restaurants Value Spread is bearish for casual dining traffic and comps (Knapp).  The relationship is quite strong. 

 

 

Darden

 

Looking at the first chart in this note, above, it seems that the value spread has more room to decline.  Darden’s Red Lobster, in particular, could be facing a difficult environment if the current Restaurant Value Spread cycle has similar amplitude to the last.  In addition, consensus estimates (quarterly so not shown here) from Consensus Metrix suggest that the Street is anticipating a quick rebound for Red Lobster comps.  We do not think that is going to happen; the Restaurant Value Spread is likely to decelerate for another 6-9 months.

 

Please reach out if you want to discuss this in greater detail or in the context of other names within the restaurant space.

 

AUGUST CPI DATA BEARISH FOR CASUAL DINING (DRI) COMPS - RL Comps Rest Value Spread

 

 

Howard Penney

Managing Director

 

Rory Green

Analyst

 


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CHART DU JOUR: CONSUMERS FEELING GASSY BUT NOT BLOATED

Takeaway: QE = higher gas prices = lower casino revenues

  • Higher gas prices have a statistically significant negative impact on US gaming revenues
  • Both QEs contributed to higher gas prices and we expect QE3 to be no different
  • US gaming revenue growth has been stagnant even with flattish gas prices

 

CHART DU JOUR: CONSUMERS FEELING GASSY BUT NOT BLOATED   - cc


QE: The Unthinkable

QE: THE UNTHINKABLE

 

 

CLIENT TALKING POINTS

 

QE: THE UNTHINKABLE

It’s truly amazing what we witnessed yesterday. It’s clear the Federal Reserve can’t help the economy at this point. A cute short-term rally is what we’ll get from Ben Bernanke’s extension of 0% rates and MBS buybacks. After the rally? Higher fuel prices, higher food prices. No new jobs. Stagnant economy growth. Sounds great, doesn’t it? QE can save anything, anytime, right? 

 

 

GAS MONEY

Remember back when gas was $1 a gallon and you’d as your parents or friends for a couple bucks to fill up your tank so you could go out for the weekend? Those days are truly a relic of the past. We’re at an average of $4 a gallon gas right now and as if that weren’t bad enough, we’re going higher. As the S&P 500 climbs and as Ben Bernanke destroys the US dollar and juices commodity prices, we’ll no doubt see $5 gas, followed by $6 gas and so on. Aren’t central planner great?

 

_______________________________________________________

 

ASSET ALLOCATION

 

Cash:                Flat

 

U.S. Equities:   Up

 

Int'l Equities:   Flat   

 

Commodities: Flat

 

Fixed Income:  Down

 

Int'l Currencies: Flat  

 

 

_______________________________________________________

 

TOP LONG IDEAS

 

NIKE (NKE)

Nike’s challenges are well-telegraphed. But the reality is that its top line is extremely strong, and the Olympics has just given Nike all the ammo it needs to marry product with marketing and grow in the 10% range for the next 2 years. With margin pressures easing, and Cole Haan and Umbro soon to be divested, the model is getting more focused and profitable.

  • TRADE:  LONG
  • TREND:  LONG
  • TAIL:      LONG            

 

PACCAR (PCAR)

Emissions regulations in the US focusing on greenhouse gases should end the disruptive pre-buy cycle and allow PCAR to improve margins. Improved capacity utilization, truck fleet aging, and less volatile used truck prices all should support higher long-run profitability. In the near-term, Paccar may benefit from engine certification issues at Navistar, allowing it to gain market share. Longer-term, Paccar enjos a strong position in a structurally advantaged industry and an attractive valuation.

  • TRADE:  LONG
  • TREND:  LONG
  • TAIL:      LONG

 

LAS VEGAS SANDS (LVS)

LVS finally reached and has maintained its 20% Macau gaming share, thanks to Sands Cotai Central (SCC). With SCC continuing to ramp up, we expect that level to hold and maybe, even improve. Macau sentiment has reached a yearly low but we see improvement ahead.

  • TRADE:  LONG
  • TREND:  NEUTRAL
  • TAIL:      NEUTRAL

  

_______________________________________________________

 

THREE FOR THE ROAD

 

TWEET OF THE DAY

“Insiders knew Bernanke was going to go all in; they'll live large this weekend while you take it in the pump” -@KeithMcCullough

 

 

QUOTE OF THE DAY

“There is no fate that cannot be surmounted by scorn.” –Albert Camus

                       

 

STAT OF THE DAY

US Retail Sales increase by 0.9% for August.

 

 

 


CAT CALL AT 11AM: REVIEW OF BEARISH THESIS

Takeaway: $CAT: Call at 11AM to discuss our view of $CAT. Don't be the investor who holds CAT through peak margins...

CAT CALL AT 11AM: REVIEW OF BEARISH THESIS

 

 

Please join us for a quick review of our bearish thesis on CAT at 11AM this morning.  

 

MATERIALS: Follow the link CAT's Deep Cycle

 

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If you think that aftermarket parts will save CAT, so did these guys.  

 

CAT CALL AT 11AM: REVIEW OF BEARISH THESIS - parts

 (Picture from CAT's 1953 Annual Report)

 

Since then, CAT has cycled down a half dozen times.  



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