Be Careful: SP500 Levels Into The Close...

I’ve modeled this 3 separate times in the last 24 hours. The math is telling me that this bottoming process will be a slow motion version of what we’d have sans the Keynesian intervention – otherwise known as a train wreck.

In terms of modeling price momentum, Monday’s move to the downside was more important than yesterday’s reversal to the upside. Now my downside target for the SP500 moves all the way down to 729. In the chart below I have lined up where the sharks will be jumping. There are 2 important lines of immediate term “Trade” resistance to keep your eyes on - SPX 785 and 822 (dotted red lines). In the next few days, if we can’t close above that 785 line, the probabilities of seeing 729 go up.

Intermediate Trend line resistance is a long way from here, up at 865 (solid red line).

Keith R. McCullough
CEO & Chief Investment Officer

DIN - Masking the Truth – Part 2

DIN CEO Julia Stewart said today on the company’s Q4 earnings call that despite the difficult environment that the company’s fiscal 2008 results were in line with management’s key targets, particularly as it relates to its Applebee’s refranchising goals. This statement is a little deceiving because although the company did complete the sale of 103 company-operated Applebee’s to franchisees in FY08 (in line with management’s initial guidance of 100), the after-tax proceeds generated from these 103 sales and 5 subsequent sales in 1Q09 of $61 million fell significantly short of the company’s initial 2008 expectations of $90 million to $100 million and revised guidance of $70 million to $80 million.

DIN initially set out to refranchise a substantial majority of the Applebee’s company-operated restaurants to realize significant costs savings. In reaching its goal of refranchising over 100 units in 2008, the company is on track to reducing costs. In this environment, however, there is more risk associated with having such a leveraged balance sheet, and according to the company, DIN ended the year with a Debt/TTM EBITDAR ratio of 6.77x (relative to the average casual dining company at below 4x at the end of 3Q08). The 2008 refranchising proceeds which came in 32%-39% below plan were integral to allowing the company to pay down more of its debt and yet, Ms. Stewart maintains that the company achieved all of its key targets in 2008. This is just not a true statement relative to the after-tax proceeds the company set out to achieve at the beginning of 2008.

The final number on average proceeds per unit for the 108 restaurants refranchised thus far is $565K. Again, this compares to management’s initial guidance of $900K to $1 million per unit given in February 2008, the revised estimate of $700K to $800K per unit provided in July 2008 and the implied $573K per unit given in the company’s 3Q08 earnings release. We know the first 26 restaurants sold for about $1.04 million per unit, which implies that the remaining 82 units sold on average for about $415K each.

Going forward, DIN expects to refranchise an additional 200 units in 2009. Management did not provide any guidance as to how much these sales should generate in after-tax cash proceeds, but said it will disclose more details once the company has entered into purchase agreements. Apparently, management does not want to get caught having to continually revise down expectations as it did in 2008.

VIX: Charting Your Stress Levels...

Make no mistake, we are in a bear market and it is to be traded, aggressively.

Below I have drawn the “Trend” line for the VIX. Trend, in our models, means intermediate term. Intermediate term Trends matter in this market, especially when those Trends come under assault. On Monday, we took a good hard look at a breakout in volatility. Yesterday, the VIX faded right at its formidable Trend line of resistance. Stress levels came down and we found a real rally, on real volume, as a result.

The line in the sand here is at the 51.94. Today, the VIX is only up a percent to 46. On the margin, that’s relatively low stress given the down move we are seeing in equities. This could change however – and in a hurry – so stay in sync with me on 51.94, with the proactive plan to be covering/buying US stocks again on a breakdown in the SP500 below the 730 line, provided that this lower high in the VIX stays intact.

If the VIX closes above 51.94, those stress levels of 65-80 VIX of October/November will be in play.

Keith R. McCullough
CEO & Chief Investment Officer

the macro show

what smart investors watch to win

Hosted by Hedgeye CEO Keith McCullough at 9:00am ET, this special online broadcast offers smart investors and traders of all stripes the sharpest insights and clearest market analysis available on Wall Street.


Japanese export data for January registered at an abysmal -45.7% year-over-year. The decline in demand for Japanese products was felt hardest in the US, where the sequential decline exceeded 50% on a one, two, and three year basis. Imports declined 31.7% Y/Y for the month.

As job cuts pick up pace, Japan appears poised to submerge back into stagnation for a prolonged period as it waits helplessly for returning demand from abroad.

Although it is anticipated that Prime Minister Aso’s government will introduce new stimulus plans as the fiscal year draws to a close in March, internal data points like domestic auto sales (Toyota registered January sales at home that are the lowest since they began releasing data in 2001) and anecdotal media reports suggest that the Japanese consumers have begun to hoarding cash as they did during the “lost decade”, leaving the odds heavily stacked against any attempt to kick start internal demand.

The USA better be very careful in letting her Dollar reflate. The output of the Japanese Yen reflating in January is as ugly as it gets.

Andrew Barber

CROX: Consider the Bone

In answer to the title, a bone = a stock near a buck. I realize that many institutions can't even consider a name like this. But that does not mean that I ignore it. The institutions that will end up caring the most are the strategic buyers.
Let’s accept a hard reality about Crocs. It is a brand. Period. Is it overdistributed, overhyped, and is the core product super ugly??? Yes, yes and yes. But where this company got itself into trouble is by not appreciating the core customer/business, and trying to grow it into fashion areas. Make no mistake – this is not like Ugg (which is better than Crocs). We don’t have to watch trends with the teenybopper crowd. They never wore Crocs anyway. Will a whole host of 8 year olds be wearing them this summer? You bet. Will a good international brand manager (the new CEO comes from Reebok Int’l – one of the few businesses at Reebok that worked) leverage that on a global scale? Why not?

I’m not saying that Crocs is a growth company. In fact, let’s assume the opposite. Let’s say that either the new CEO or a strategic buyer scoops up this company, takes the top line from the $847mm peak down to a core of $400mm and runs at an 8% margin (I can defend this rate six ways til Sunday). At $1.40, it suggests that this thing is trading at less than 2x EBITDA. Each 1x turn by that math is about $45mm in Enterprise Value. Not bad off a base of $86.

Is it scary to buy a name like this whose product is in a decline, management is in question, and 4Q financials have yet to be finalized? You betcha. Could there be accounting adjustments and charges under the new CEO? Probably. But this is a tough business to commit all-out accounting fraud to the extent that it will take an established brand with net cash and put it into bankruptcy.

I remain floored that no one has bought this at an $86mm EV.

If it’s not going bust, BUY THE BONE!

EYE ON GERMANY: More Negative Data Points with a Pinch of Optimism

Today the Federal Statistics Office in Germany reported the following Q4 ‘08 data on a quarterly basis:

-Exports declined 7.3%
-GDP fell a seasonally adjusted -2.1%
-Consumer Spending dropped -0.1%

Additionally, IFO sentiment data released yesterday was marginally worse, yet in line with estimates.

IFO Sentiment data for February registered a tick downward with the Business Climate index (based on a survey of 7,000 executives) at 82.6, down from 83 in January, in line with expectations that the index wouldn’t move dramatically. The Ifo’s gauge of current conditions also fell, declining to 84.3 from 86.8, while the measure of expectations rose to 80.9 from 79.5. A separate survey, the ZEW, reported that German investor confidence rose to -5.8 in February from -31 in the previous month, the biggest jump in 15 years.

German data remains a primary focus for us, as it is the country with the largest European economy and the strongest credit (based on yield). Germany provides an important pillar for which to compare the relative health of Europe against.

The DAX has had numerous nasty closes in the last two weeks and is down -19.01% YTD. That’s worse than the YTD performance of the SP500. Despite the anticipation of Chancellor Merkel’s stimulus program, which at 1.6% of GDP is the biggest spending package in Europe, the economy cannot recover from domestic tax cuts and infrastructure investments alone. In Keynesian economic policy does anyone trust?

Germany, as an exceptionally export dependent economy, is equally levered to the health of the global economy. As the global recession continues so too wane, so does the world’s appetite for German goods. GDP slumped 2.1% in Q4 ’08 on a quarterly basis (the biggest drop in 22 years) and the economy is estimated to contract 2.5% this year according to the IMF.

We expect the ECB to reduce its benchmark at least 50bps to 1.5% at its next policy meeting on March 5, which will in part benefit countries like Germany by weakening the Euro to make exports more attractive. Despite the bearish data points from Q4, the jump in investor confidence is bullish on the margin, and one of the many factors we’ll have our Eye on.

Matthew Hedrick

get free cartoon of the day!

Start receiving Hedgeye's Cartoon of the Day, an exclusive and humourous take on the market and the economy, delivered every morning to your inbox

By joining our email marketing list you agree to receive marketing emails from Hedgeye. You may unsubscribe at any time by clicking the unsubscribe link in one of the emails.