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Corporate Earnings Slowdown


Hedgeye CEO Keith McCullough appeared on CNBC's Fast Money this evening to discuss the market and the pressure on corporate earnings.

Keith reiterated that the corporate earnings slowdown is a big issue; it's the one thing that Ben Bernanke can't take care of no matter what policies he implements. Norfolk Southern (NSC) was down 9% today, so you can clearly see that earnings are at risk. Growth is slowing on a global level and affecting corporations as factors like slowing exports and rising inflation take hold.

Also discussed was energy and oil. Demand is down and supply is up in the US. But the real question is: how will Bernanke's policy of further easing affect energy prices in the long run?

As QE3 continues, commodity prices will continue to drive higher. Eventually, the cycle will turn and prices will come down, especially when the US dollar stops heading lower (keep in mind the USD has been falling for 6 consecutive weeks now).


Takeaway: Coffee prices remain a tailwind for $SBUX, $PEET, $GMCR, $CBOU, $THI, and other coffee retailers.

Over the past week, cheese prices gained the most of the soft commodities that we track.  Coffee declined almost 6% after strong gains last week.  Currently, Arabica prices are down 35% versus last year and almost 30% YTD.  This year-over-year decline is a benefit to SBUX, PEET, GMCR, CBOU, THI and other coffee retailers.  Grain prices declined week-over-week as corn, wheat, and soybean saw declines of -3.5%, -2.4%, and -7.1%, respectively. 



General Overview





Macro Callout


Elevated gasoline prices are slowing growth in the U.S.  Commodity inflation during the last few years of quantitative easing has been staggering.  Copper, oil, gold are up in the region of 80% in the last three-and-a-half years while beef is up 50% over the same period.  Gasoline prices are a major factor for the consumer at the moment and we fully expect Darden management to mention gas prices tomorrow on their earnings call.
























WEEKLY COMMODITY CHARTBOOK - chicken whole breast














Howard Penney

Managing Director


Rory Green






HSIC: Down With Dental

Takeaway: Decelerating growth in dental in 2H12 in the US and Europe will put continued pressure on $HSIC going forward.


This week we initiated a short position in Henry Schein (HSIC) based on two factors: decelerating growth in dental and issues regarding Europe. We’ve been negative on the stock for the past 5 months or so due to the pressures outlined below.


US dental consumption is slated to decelerate in the back half of 2012 due to a combination of lackluster employment gains and rising inflation. This doesn’t bode well for what is largely a discretionary healthcare service. The chart below says it all.


With regard to Europe, we know that most of the EU has some version of Universal Healthcare. The problem is that not all procedures are reimbursed equally. The more discretionary (i.e. higher-cost) procedures will likely slow overall growth.



HSIC: Down With Dental  - hedgeye dental


Takeaway: To know where you’re headed, you’ve got to know where you’re coming from.



  • We are now fundamentally bearish on Indian equities with respect to the intermediate-term TREND duration and view the current price setup in the SENSEX as asymmetrically stretched relative to India’s economic fundamentals.  
  • From a GROWTH and INFLATION perspective, India’s economic outlook looks quite poor when applying a forward-looking (3-6 months) analytical lens. Moreover, India’s POLICY outlook is rapidly deteriorating and we believe this risk is not being appropriately discounted by the market – no doubt a side-effect of the global yield chasing born out of QE3.
  • From a long-term perspective, we think the Indian economy represents a classic turnaround opportunity, as policymakers there have quite a few POLICY levers that they can pull that would be positive for sustainable organic economic GROWTH. In the interim, however, there will have to be some short-term economic pain as it relates to quashing structural INFLATIONary pressures and reigning in the fiscal deficit. Unfortunately for anyone currently buying what we view as a cyclical top in Indian equities, the India of today is not the “India of tomorrow” just yet.


It would be a remarkable understatement to say the YTD has been a volatile year for Indian equity investors. At the start of the year, the SENSEX ramped up +19.2% to a then-cycle peak on FEB 21. That was followed by a -13.5% drop to a then-cycle trough on MAY 23. Since MAY 23, the SENSEX has ramped +15%, making a new YTD high in the process. As a point of reference, we helped clients reorient their fundamental bias on Indian stocks in an appropriately-bearish manner ahead of the FEB highs and did the inverse of that right around the YTD lows:


  • TRIANGULATING ASIA – IS IT TIME FOR INDIA TO TAKE A BREATHER? (2/17): “While the fundamentals would suggest that India is not necessarily a top short idea, the risk of a short-to-intermediate-term correction in Indian assets is inflated, given that monetary easing might be farther out in duration than consensus hopes. We point to a developing trend of incrementally-less pricing in of monetary easing into Indian rate markets as supportive of this view.”
  • BACKING OFF OF INDIA – AT LEAST FOR NOW (6/4): “We are suspending our bearish bias on rupee-denominated assets – particularly Indian equities – on the event that INR-supportive inflows pick up in the immediate-term ahead of a potential rate cut. Further, higher lows in the rupee has the potential to develop into a sustainable TREND, making the risk/reward on shorting India from here a lot less asymmetric than it has been recently.”


To the latter point, INR-supportive capital inflows into India's debt and equity markets did in fact rebound from their mid-summer lows, with foreign PDI stock in Indian equities currently at an all-time high.




Our neutral, but directionally-bullish bias on Indian equities and the Indian rupee (relative to prior bearishness) was also supported by what we viewed as probable upside for the Indian sovereign to push through much-needed fiscal and economic reforms, as outlined in our AUG 6 note titled, “DO INDIAN EQUITIES HAVE ROOM TO RUN?”:


“Indian equities may be on the verge of a sustainable quantitative breakout driven largely by improving POLICY fundamentals (namely the passage of key economic reforms). Conversely, a failure at the SENSEX’s TREND line of resistance would likely be a leading indicator for Indian policymakers running into the proverbial wall – again. As such, we’ll be keeping a close eye on the Indian political landscape over the intermediate term.”


On the heels of a disastrous month-long parliamentary session that was India’s least productive in 17 months and saw opposition-led protests wipe out the last 13 days of the session, we subsequently reduced our expectations for an upside surprise(s) to Indian fiscal policy over the intermediate term. As such, we too were pleasantly surprised by the recent Congress Party-led push to approve the previously-stalled multi-brand retail and airline FDI initiatives, as well as the recent +14% diesel price hike.


To the casual investor or asset allocator, Indian policymakers pushing through these crucial reforms at such a critical juncture is quite positive and evokes memories of a young Monmohan Singh (current prime minister) who was very active in implementing reforms early in his career as finance minster in the early 90s. Additionally, the confluence of these latest measures is likely to contribute to India maintaining its sovereign rating (as opposed to being downgraded to junk status, which Standard & Poor’s and Fitch have both threatened to do via “negative outlooks”) – at least for now.


Looking past these positive headlines, which should also include a -25bps cut to Indian banks’ cash reserve ratios on Monday, all is not well beneath the surface of Indian POLICY. In fact, we’d argue that conditions are rapidly deteriorating and are not being appropriately discounted by the market – no doubt a side-effect of the global yield chasing born out of QE3. On Tuesday, the largest ally of Singh’s Congress Party’s ruling coalition defected, leaving them 24 seats shy of a majority in the lower house of parliament (assuming the move is not reversed). Trinamool, the defecting party, followed its president’s lead in protesting the aforementioned reforms – which, of course, were pushed through amid heightened resistance. That resistance led to a very loose version of the policy being announced, as Singh conceded sovereignty to India’s State governments with regards to deciding if and when they implement the FDI initiatives.


Trinamool’s defection from the ruling coalition does come at a political cost for its leader Mamata Banerjee, who is seeking a federal bailout of her State (West Bengal). On the flip side, she may be choosing to preemptively realign her party with a perceived new ruling coalition if the opposition parties are able to force Singh and his Congress Party to a vote of no confidence. To that tune, a recent Pew Research Center study found that only 38% of Indians felt satisfied with the country’s direction, down from 51% in the year prior and good for the sharpest YoY decline in their 17-country sample. Sluggish growth and persistently high inflation have weighed on the Congress Party’s ability to govern and connect with Indian voters – 75% of them living on less than $2 per day.


All that being said, no election has to be called until early 2014, so all this political wrangling is likely to merely perpetuate political stagnation in India with respect to implementing much-needed economic and fiscal reforms. It’s worth noting that the Indian government passed the 2nd fewest bills since 1952 last year amid elevated political infighting. Moreover, that infighting appears poised to actually accelerate over the intermediate term as parties increasingly jockey for political position.


From a GROWTH and INFLATION perspective, India’s economic outlook looks quite poor when applying a forward-looking (3-6 months) analytical lens. The recent diesel price hike and QE3-inspired run-up in world food price inflation is in support of our view that India’s reported WPI and CPI measures are poised to continue accelerating over the intermediate term. That will likely contribute to tighter credit conditions domestically – which had improved in recent months – that ultimately weigh on Indian economic growth – especially in an environment of prudence out of an RBI that officially wants to see YoY WPI readings ~250bps lower. Layer on the potential for a reversal of capital flows – which India needs to grow via supplementing its elevated current account deficit – and it’s not difficult to get to a scenario whereby Indian real GDP growth resumes its downward trend in 4Q12E and heading into next year.










From a long-term perspective, we think the Indian economy represents a classic turnaround opportunity, as policymakers there have quite a few POLICY levers that they can pull that would be positive for sustainable organic economic GROWTH. In the interim, however, there will have to be some short-term economic pain as it relates to quashing structural INFLATIONary pressures and reigning in the fiscal deficit. As it stands currently, Indian equities are in a Bullish Formation, which we’d argue is discounting India’s potential rather than its likely path - though, to be fair, QE3 has had large role in perpetuating SENSEX and INR strength. Unfortunately for anyone currently buying what we view as a cyclical top in Indian equities, the India of today is not the “India of tomorrow” just yet.


Stay tuned.


Darius Dale

Senior Analyst



JCP: Slapping the Tail in TX

Takeaway: $JCP TX store tour provided plenty of eye candy, but was focused too much on sales and too little on costs.

Texas was a certified circus with nearly 400 attendees requiring 7 buses for transport. The Shops looked good as expected though the Street element of their concept was the primary focus and ultimately what Ron wants JCP to be known for, not its Shops. That’s fair and could very well ultimately change the department store experience across much of retail, but these iPad stations, lego tables, checkout bars, etc. as well as free services in Town Square (haircuts, holiday portraits) cost money.

This is an execution story, which requires trust something RJ has little of following recent results as well as one of transformation, which costs money and JCP doesn’t have it.

The real fireworks came during his commentary when he noted that the new Shops were comping up +20% since launch. To put this into perspective they launched Sephora (Penney’s most successful brand) and Levi first, which are outperformers already and then the others during BTS so there’s been a healthy combination of tailwind, selection, and timing at play here. At 12 Shops it’s also a small sample to be pegging growth potential on, which Ackman looked to amplify with his statement rather than question in Q&A suggesting that RJ highlight the performance of the StoneBrier store, which he had shared with the Board the day prior. Needless to say the figures are north of 20%, but RJ declined to offer it out at risk of setting unrealistic expectations.

The closest thing to a mention of costs came shortly after highlighting comps with RJ noting that management is planning for 2H performance to be the same as 1H and the first two weeks of September have been tougher than expected – a little dose of reality.

With these initiatives driving costs higher, the hurdle for leveraging comps is going up not down and will require comps that are not only substantially higher, but also sustainably so. This gets increasingly more challenging as Ron starts running out of tricks at Town Square.

After slapping Keith’s TAIL line of resistance up at $32 yesterday, the sharp reversal strongly indicates that this is indeed a broken tail risk call with no TRADE resistance until the low $20s.


JCP: Slapping the Tail in TX - JCP IntradayStockChart


JCP Store Tour Highlights/Takeaways (9/19/12):

  • Store at Valley View a 16-year old location taken over from Bloomingdales
  • 180,000 sq. ft. much bigger than JCP needs so turned entire 3rd floor into a 'shop lab'
  • Mocked up 3rd floor an example of what a remodel would look like (same old ceilings, etc), NOT how they would build out a new store
  • Mock up is ~30,000 sq. ft. build out with 17 shops and the Street (suggesting ~150,000 sq. ft. concept)

New Store Format Layout - Example of Baby/Kids Section:


JCP: Slapping the Tail in TX - JCP StoreLayout


Baby Battle:

  • Announced Disney is the latest baby/kids brand added to the stable (9/19)
  • Now have Carter's, Disney, and Giggle
  • Looking to fill out offering in the toddler-to-tween gap
  • Giggle: will be expanding apparel offering from what Giggle retail store mix
    • JCP will be manufacturing the goods themselves in order to meet demand (Giggle concept has only 13 retail stores)
    • Will be priced at ~15%-20% premium to CRI/Disney product - lower than at Giggle retail

RJ presentation:

  • Created the Street 5 ft wider than typical corridor
  • Checkout bars give more space for other shops (e.g. Carribou Coffee stand where cash wrap used to be)
  • Want consumers to think of JCP as the "Street" not necessarily the shops themselves
  • Expect 25 stores to turnover every year, will turn merchandise 2.5x typical department store
  • Town Square - offer haircuts, juice bar, will have holiday portraits and Santa - not about selling stuff, but transforming retail
  • Shop rollout:
    • 12 shops by Sept '12 (next year holiday will have ~40 shops)
    • Collective shops-to-date comping 20%
    • Sephora comping double-digit (adding ~75 Sephora stores/yr)
    • Levi running up double-digit
    • Dockers, Haggar, Disney (~580 store target - they have ~200 of their own), Levi - a few recent additions
    • Sephora, Joe Fresh, Bodum (in all 700 stores), Giggle(~700) - by next April
  • Model provides brands with an option to grow domestically at no rent, no buildout
  • Street additions include - Carribou Coffee, Sugar Shack, Paciugo (gelato), dpHUE (hair coloring)
  • Avg. 1.2mm sq. ft. mall has ~100 stores - consumers will have the same choice w/in 130,000 sq. ft.
  • Planning 2H to be same as 1H
  • +20% comps represent only 10% of sales so 2pt contribution to comp - not enough to offset down -20% - need critical mass
  • First two weeks of Sept tougher than JCP expected
  • Key will be to staff properly
    • AAPL had 50 employees originally, now running closer to 150/store

JCP: Slapping the Tail in TX - JCP TTT

Casey Flavin





Takeaway: We are bearish on DRI heading into earnings tomorrow.

Darden are reporting earnings tomorrow and, while we expect management to put as positive a spin on things as possible, we would not be betting on many positives emerging tomorrow.


Darden earnings are due out before market open tomorrow and we remain bearish on the stock as price action has decoupled from the fundamental reality that drives earnings.   Here is a quick update on our thoughts.  They have not meaningfully changed since our 8/30 post, “DRI: EXPECTATIONS ARE THE ROOT OF ALL HEARTACHE” but the price of the stock has.  We are expecting FY13 earnings to come in 3% below the Street’s expectations. 





Same-Restaurant Sales


We believe that the Street is far too bullish on the same-store sales recovery at Olive Garden and Red Lobster and, by implication, the casual dining industry.  As the Restaurant Value Spread continues to roll over and pressure the pricing power of the restaurant industry, we do not think the value proposition at Olive Garden and Red Lobster is appealing to consumers on an ongoing basis.  We expect Darden to lag the industry from a same-restaurant sales perspective in 1QFY13 and believe that, as bad as that would be for the stock, there is likely worse to come as the year progresses.


DRI EARNINGS TOMORROW - dri comps vs consensus



Quantitative Levels


This is a stock that will feel it as the US consumer feels the squeeze from higher gas prices and still-stagnant job growth.  We can only speculate as to the divergence between earnings expectations and the stock price, but our best guess would be that some safety- or dividend-seeking investors have been increasing exposure to Darden recently.  As our Black Book (email for a copy) argues, Darden's dividend is far from secure with the company burning cash to maintain its profile as a growing company with a best-in-category dividend yield.


As the chart below highlights, Keith's quantitative levels show TREND support at $52.34 and TRADE support at $53.61.






Howard Penney

Managing Director


Rory Green






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 80.48%
  • SHORT SIGNALS 78.35%