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Flight To The 10-Year

The 10-year Treasury yield is currently hovering around 1.58%, nearing the August 2012 low of 1.48%. As growth continues to slow and the stock market weakens, investors are buying up Treasuries like it's going out of style. If the S&P 500 can't hold 1364, look for the 10-year to get pushed even lower.

 

Flight To The 10-Year - 10yearust


KORS: Freight Train Keeps Rolling

Takeaway: Growth like this is tough to find in retail. KORS may look expensive, but we would argue that 25x next year’s earnings is cheap.

Growth like this is tough to find in retail. 2Q results were solid across every line of the P&L again this quarter. Most notably, underlying 2yr sales growth accelerated both in retail comps (+45%) and at wholesale (+75%) with Europe (+97%) a source of strength (yes, not a typo) outpacing domestic growth (+45). 3Q guidance had some concerned pre-market, but the company has established a track record since the IPO of setting a reasonable bar, issuing a positive preannouncement intra-quarter, and then topping higher expectations. We think KORS’ 2H outlook suggests much of the same and expect this one to keep working higher into year-end.


The longer-term growth story predicated on store growth, wholesale conversions, handbag and accessories mix shift, and e-commerce and international penetration is still very much intact. Store rollouts and wholesale conversions continue to track ahead of plan and are likely to drive continued outperformance over the near-term. We still don’t love the inventory levels (+90%), but the sales/inventory spread improved sequentially by +16pts to -15% in the quarter – notable and favorable for gross margins. With the sales/inventory spread negative for the third consecutive quarter now, we think it reflects KORS' aggressive store rollout, but is a risk worth noting as we head into holiday shopping season. With gross margins coming in well ahead of expectations, improved inventory levels, mix, and decision not to engage in competitor promotions, we think outlook for a contraction in 2H gross margins will prove conservative.

 

All in, we’re shaking out 10% above the high-end of initial Q3 and FY EPS guidance at $0.44 and $1.65 respectively and $2.15 for FY14. That’s over 100% EPS growth this year and +28% growth next year. KORS may appear expensive, but for a high end brand with this kind of share gain and growth trajectory, we would argue that 25x next year’s earnings is cheap.


Accountability and Outlook: Here’s a look at KORS’s variance between guidance and actual, as well as outlook for F13 vs expectations:

 

KORS: Freight Train Keeps Rolling - KORS OUtlook table

 




SINGAPORE STILL BLEEDING

A victim of its early success: most metrics down YoY 

 

 

Singapore’s gaming metrics continue to decline in Q3 as gross gaming revenues fell to the lowest level since 2Q 2010.  For comparison, Macau hit a new quarterly record in 3Q.  Q3 hold in Singapore was 2.27%, the lowest quarterly hold rate ever and way below Singapore’s historical hold rate of 2.99%.  Hold in 3Q 2011 was 2.90%.  If we use 3% to normalize VIP revenues in 3Q 2012 and 3Q 2011, GGR would have been S$1.77BN, which is down 14% YoY and 3% QoQ. 

 

3Q gross gaming revenues fell 23% YoY and 9% QoQ to S$1.57 billion.  Not since MBS’s grand opening has revenues been this low.  RWS GGR share rose 1.6% QoQ to 50.8%.

 

SINGAPORE STILL BLEEDING - s1

 

RWS gained 3% points in net gaming revenue share to 47.3%.  This is the 2nd consecutive quarterly gain for RWS.

 

SINGAPORE STILL BLEEDING - s2

 

Total property EBITDA experienced its 2nd consecutive YoY and QoQ decline to S$629 million, falling 29% YoY and 14% QoQ.  RWS’s EBITDA share jumped 5.6% points to 48.3%.

 

SINGAPORE STILL BLEEDING - s3

 

For the 4th consecutive quarter, RC turnover declined YoY.  RC turnover was S$27.6BN, down 25% YoY and 1% QoQ.  RWS’s RC share was 46.6%, down 0.8% points QoQ, marking the 3rd consecutive quarter of declines.

 

SINGAPORE STILL BLEEDING - s4

 

Mass revenue was flat QoQ as hold reached a new high of 23.52%.  Market shares were basically unchanged. 

 

SINGAPORE STILL BLEEDING - s5

 

Mass drop fell QoQ (6%) for the 1st time.  RWS gained 1.4% points in share to 46.8%.

 

SINGAPORE STILL BLEEDING - s6

 

Slot win slipped 4% QoQ and slot win per slot per day reached a record low of S$718.  RWS gained 1.1% QoQ in slot win share. 

 

SINGAPORE STILL BLEEDING - s7 


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Is Oil in a Bubble? Notes from Expert Call

On Monday 11/12, we hosted an Expert Call with Chris Cook, former Compliance and Market Supervision Director at the International Petroleum Exchange, [now the InterContinental Exchange (ICE)].  We summarize the key points from the call below.  Note that these bullets reflect Chris Cook’s views, and not necessarily ours.  To listen to call replay, use this link: Expert Call With Chris Cook (email us if you have log-in issues).

 

Thesis

  • Global oil markets are dysfunctional, manipulated by financial intermediaries to the point where prices do not reflect the fundamentals of physical supply and demand. 
  • Currently, oil is in a bubble, inflated by colluding banks and producers, with passive investors shouldering the risk via oil-indexed funds and structured products. 
  • Eventually the bubble will burst and Brent crude will fall below $60/bbl; it is not a matter of if it happens, it is only a matter of when.

The Run-Up to the 2008 Bubble and Collapse

 

“The genius of the Goldman Sachs approach was to invent the marketing phrase ‘hedging inflation’ . . .  We have had billions of “inflation-hedging” dollars actually causing the very inflation that they aimed to avoid.” 

  • Over the long-term, the price for any finite resource is up.  There are boundaries between which the price will fluctuate – the level at which demand is destroyed and the level at which supply is locked in.
  • Producers want a high, stable price (near the level at which demand is destroyed); consumers want a low, stable price (near the level at which supply is locked in); the intermediaries want instability.
  • Seminal moment in the oil market: in 1992 Goldman Sachs invents the Goldman Sachs Commodity Index (GSCI).  This first introduced a new dynamic into the oil market: passive investors “hedging inflation.”  A long-only strategy, these investors are not seeking to make a profit, but to avoid a loss, a loss of purchasing power.  The banks offload their market risk onto these passive investors via such long-only products.
  • In the late ‘90s/early ‘00s, the banks (via these new passive investors), who are structurally long oil futures via long-only products like the GSCI, and producers, who are a routinely short oil futures to protect against a fall in the price, begin colluding.  For instance, BP begins leasing oil to GSCI investors, creating “dark inventory” as such transactions are held off-balance sheet.
  • The 2008 oil spike had nothing to do with “speculators,” it was a private sector bubble.  CFTC futures and options data shows no evidence of a “speculative bubble.” 

A New Bubble Builds (and is Bound to Burst)

 

“If producers can, they always will, keep the prices up.  The only question is who provides the leverage.  In tin it was the sovereigns moving the forward market in the 80’s and literally the price collapsed when the funds were no longer available.  The price collapsed in 1985 from $8,000/ton to $4,000/ton literally overnight.”

  • Beginning in late ’08, loads of passive investment dollars again flood into commodity and equity markets due to interest rates at 0% and massive money printing.  Financial purchasers of oil (passive investors via banks) begin looking for producers that will sell/lease oil to them. 
  • Saudi Arabia begins entering into large-scale pre-pay agreements with banks, likely JP Morgan (Saudi Arabia’s banker since the 1930s).  The market moves into a super-contango on this pre-pay activity (increased demand for forward contracts).
  • Oil prices move beyond the point at which demand is destroyed; physical demand for crude oil begins to fall at the same time as new, more expensive supplies (like US shale) are brought on due to the high price.
  • By Sept 2011, index fund money (aka the “inflation hedges”) has begun to come out of the oil markets, prices begin to decline, and the market moves into backwardation.  This backwardation is misinterpreted/misconstrued by speculators/banks as a bullish demand signal.  But in this false market, it signifies only the collapse of forward demand (no more pre-paid activity).
  • “Shocks” of Libya, Fukushima, and Iran keep bubble propped up, but are temporary events.
  • Bubbles, like this one, burst; it is only a matter of time.  The supply-demand dynamics in the physical market will overwhelm market manipulators.
  • We are seeing signs that the bubble is now faltering – waves of Saudi tankers arriving to the US is a sign that they can no longer roll over pre-paid contracts profitably.
  • When the bubble bursts, fundamental support is around the $60/bbl level, but could fall below that depending on how precipitous the correction is.

The Illusion of the Iran Risk Premium

 

“I think there is zero chance of any violence between the two nations [of Iran and Israel].”

  • Two types of sanctions on Iran: physical sanctions are “dumb,” while financial sanctions are “smart.”
  • Dumb sanctions are the ones restricting physical crude exports.  In the short-run, these sanctions increase the commodity price, and hence, Iran’s revenues.  BUT, over the long-term, the sanctions should be bearish for oil prices, as it lowers the overall bid in the market.  Chinese and Indian buyers are happy to low-ball Iran below market prices.
  • Financial sanctions are “smart” sanctions.  The elite there with Swiss bank accounts are hurting.  The rial is clearly under pressure, making life difficult for all.
  • Very little risk of conflict between Iran and Israel.  Energy security is too important to the US and China to ever permit Israel to attack Iran.  It is a very useful bit of “noise.”  Iran actually wants to cut the subsidies on domestic gasoline, and can now do so and blame the US. 
  • It's likely that we see a settlement between Iran, Israel, and the US in the coming months.

Saudi Arabia - Watch What they Do

 

“I don’t believe a word the Saudis say on anything.”

  • Believes that Saudi has agreed to an acceptable trading range for crude oil with the US.
  • Saudi wants +$100/bbl prices.
  • Saudi is trying to maintain an oil price peg to the USD by entering into pre-pay agreements with JP Morgan.  That is the grand plan, but it is not sustainable.
  • Saudi sending increased shipments of oil to the US is a sign that the bubble is faltering.

A Natural Gas Solution

 

“When the price collapses, we will have a regulatory disaster on our hands, as passive investors were not told that their “inflation hedge” could collapse."

  • It is possible to come up with a global benchmark natural gas price, and crude oil could be priced as a function of natural gas (as opposed to the other way around today).  All oil benchmarks today are completely manipulated.  A new natural gas-based benchmark would not have financial intermediaries, but only service providers. 
  • Disintermediation is actually in the interest of the financial intermediaries, and that is why they are actually doing it via selling ETFs and structured products to passive investors.

Common Misconceptions and Other Tidbits

 

“Low stockpiles are not necessarily a bullish factor at all.”

  • Demand destruction sets in first on the product side – the independent refiners are the ones that have gotten hit hardest (Petroplus).  Refinery closures are never a bullish signal for oil prices.
  • Low product stocks are not a bullish factor.  There’s no incentive to store oil and products when the market is backwardated, as it is today.
  • The Qataris were hedging crude as low as $50/bbl in 2011.
  • The Brent price in euro terms has never been higher.
  • You would have to be mad to own oil ETFs and structure products as an inflation hedge because of the roll yield – “it is like playing a roulette wheel with 6 zeros.”
  • The Brent market is so illiquid than it only takes one or two players to manipulate it.
  • Land-locked oil prices (like WTI) are a better indication of actual fundamentals than the global Brent price.  That is where buyers and sellers of physical crude are actually coming together.

 

Kevin Kaiser

Analyst


Big Trouble In Little China

For months, pundits have claimed that China's economy and markets have bottomed. It’s a shame they keep doing this because, simply put: they’re wrong. China has continued to fall with stocks getting slammed this morning to the tune of a -1.5% drop.

 

Our macro team notes that China’s economy is in the process of bottoming, but has yet to hit the floor. Land sales by area are down mid-teens percentages on a year-over-year basis and the spot price of Chinese Rebar (see below) is well below 2009 lows with the ability to go lower. Rebar is a unique yet useful barometer of China's economy which is why we've monitored it so closely over the last few years.

 

Big Trouble In Little China - chinaREBAR


BLMN TOP LINE TRUMPING BEAR CASE

Takeaway: We remain bearish on casual dining but, at this point, do not see BLMN as the best way to play that theme.

Last week, Bloomin’ Brands reported a strong 3Q12 with some of the more impressive same-restaurant sales trends in the industry.  The company also raised 2012 earnings guidance to at least $0.95 and SRS guidance of “in excess of 3%.

 

We have been cautious on Bloomin’ Brands for the following reasons:

  • We were not convinced of the potential of adding lunch for top line or margins
  • Margin accretion was doubtful given top-line and inflation outlook
  • Long-term demographics unfavorable for the industry

While we remain cautious on casual dining, as a category, we think that BLMN is likely to buck the trend over the near-term given traffic trends in excess of 400bps above industry at Outback during the third quarter.  The lunch initiative, along with enhanced marketing and an aggressive four-course-for-$15 promotion, drove same-restaurant sales in excess of our expectations. 

 

We believe that the stock, at these levels, has given the company credit for the margin story (300bps improvement in adjusted EBITDA margins) and has adequately discounted the potential for slowing sales.  From a consensus perspective, we believe that the Street may be too pessimistic in its same-restaurant sales projections over the next 3-4 quarters.  While we do not believe that the stock is going much higher from here, the downside is also limited if top-line trends remain at these levels.  We would look elsewhere (TXRH, BWLD) for opportunities to short casual dining.

 

 

Top-Line Strength

 

During 3Q12, Outback Steakhouse and Carrabba’s beat consensus same-restaurant sales estimates by 270bps and 30bps, respectively.  Even with difficult comparisons, every concept under the Bloomin’ umbrella, with the exception of Carrabba’s, accelerated top-line sales on a two-year average basis.   Outback’s outperformance was likely driven by an effective four-course-for-$15 promotion, expanded lunch service, and continued remodels. 

 

Any slowdown in trends from 3Q, at Outback, will be a red flag given the current initiatives that the company is implementing to drive sales.  Over the next two quarters, the Street is modeling a slowdown in same-restaurant sales at Outback.  Carrabba’s is operating in a particularly difficult segment of the casual dining industry, given that the chain competes directly with Olive Garden and its value-focused marketing message. 

 

BLMN TOP LINE TRUMPING BEAR CASE - outback SSS

 

BLMN TOP LINE TRUMPING BEAR CASE - Carrabas SRS

 

BLMN TOP LINE TRUMPING BEAR CASE - bonefish SRS

 

BLMN TOP LINE TRUMPING BEAR CASE - Flemings SRS

 

BLMN TOP LINE TRUMPING BEAR CASE - roys SRS

 

 

Margin Outlook Uncertain

 

The long BLMN investment thesis depends heavily upon the margin story materializing.  There is a basis for skepticism: if the expansion is so attainable, why was it left on the table prior to the initial public offering?  That aside, there was little progress made in 3Q12, from a margin standpoint, as COGS and labor expenses gained as a percentage of sales.  Labor costs were impacted by deferred comp expense. 

 

Management guided to 3-5% inflation in FY13 with the risk, in our view, to the upside given the ongoing supply concerns around beef supply in the United States.  

 

Over the next two quarters, Bloomin’ Brands and its peers face difficult top-line compares.  For BLMN, the COGS comparison is particularly daunting; we believe that lower labor costs are essential for the company to drive $0.20 in EPS for 4Q. 

 

 

Howard Penney

Managing Director

 

Rory Green

Analyst


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