The Economic Data calendar for the week of the 3rd of December through the 7th 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.
In recent weeks, we’ve noticed an increase of short interest in Mednax (MD). Short interest currently sits at 6.3 million compared to the prior two peaks of 3.5 million. Short sellers have had considerable luck with Mednax in the past and it appears they're of the belief that their winning streak will continue. Hedgeye Healthcare Sector Head Tom Tobin suggests Mednax is nearing a point where you could go long. Says Tobin:
“The best time to be long MD has been when the growth in short interest peaks and begins to decelerate and when the 3M change begins to decline. So far the first condition has been met, but on a 3M sequential basis, short interest continues to climb higher.”
Another reason to consider going long is the recent re-acceleration in births. As it relates to our positive outlook for a birth recovery, we’ve notice a few positive datapoints in recent days that coincide with the same population that drives birth trends, the 20-35 year old age group:
1. Pier 1 Imports (PIR) posted better than expected same store sales (#1 purchaser of furniture)
2. Household formation accelerated to 1.8% in October (#1 source of new households)
3. MBA Mortgage Purchase Applications Accelerating (#1 source of first time home buyers)
Takeaway: We understand why people want proof that $NKE can deliver on ASP growth before getting bullish. But waiting for proof will be too late.
One point of pushback we got on the road recently about our Long NKE call is that the company will be unable to cycle its price increases in footwear. We think the argument is moot for several reasons.
We understand why people want proof of the company’s ability to deliver on the top line before they get bullish. But in this instance, and at this price, we think that waiting for proof will simply be too late.
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Takeaway: $NKE is our top idea in Retail, and now both quantitative and qualitative factors are converging to the upside.
We think that price and fundamentals are positively converging for Nike on both a quantitative and qualitative basis. We like the name on both a TRADE, TREND and TAIL basis, and added it to the Hedgeye Virtual Portfolio accordingly. Here’s our rationale…
TAIL: Nike’s growth algorithm over the next three year time period based on our model is unmatched. With a revenue CAGR of 10% leveraging to EBIT growth of 15%, EPS of 19%, and Free Cash Flow over 30%, it’s tough not to be impressed. Considering that this formula belongs to what is likely one of the top 10 brand names in the world, and the leader of a duopoly in a GDP plus industry (sports apparel) with a bullet proof balance sheet, it is tough to not be impressed. If we’re right, the Street is underestimating earnings by 10% over this time period. That’s enough for us to get excited about the name here – even at a seemingly lofty multiple.
TREND: We think that gross margins -- the biggest factor impacting NKE’s sentiment and performance – will turn up meaningfully over the next three quarters. As the chart below shows, Futures has always seemingly been the biggest stock driver.
But it’s clear that something has taken over in the past six quarters, and it is clear to us – both quantitatively and anecdotally based on discussions with big institutions – that this is Gross Margin. Others might argue that it is China, or the sustainability of the ‘sneaker cycle’. We see the logic, but don’t agree with it. Our strong view is that once Gross Margins turn, then the stock will follow.
Inventories have already started to move in the right direction, and we think that they’re cleaner today than they’ve been in two years. The relationship between inventories and margins is abundantly clear. FX also plays a big role, and at the current rate we’ll be back to yy parity within 2 months’ time.
Ultimately, the real delta to watch is ‘Futures less Inventories’ vs Gross Margins. That accounts for demand (Futures) as well as the company’s ability to manage those orders in the form of inventory. That’s something that we’ve started to see turn, and we expect to increasingly move to the upper right as soon as 2Q which is reported in 3 weeks.
TRADE: The company reports the quarter in late December. We think that the 2-quarter streak of EPS growth rolling over will finally come to an end, and the consensus expectation for a flat quarter will be proved wrong. We think that expectations for Europe, China and even Emerging Markets remain very grounded. We’re at $1.06 versus the Street at $1.00, and we think that the company will be bullish about its look into calendar 2013.
VALUATION: The stock is trading at about 17x NTM earnings, well ahead of the 13x market multiple. That might seem unreasonable, but a) the stock is closer to 15.5x our numbers, and b) the market does not have the same characteristics as Nike with a path for a 10% sales CAGR leveraging to 30%+ Free Cash Flow.
Yum! Brands (YUM) is selling off strong today after worse-than-expected preannounced China comps spooked analysts and investors last night. Several downgrades from the Street today have added to the fear, creating what we have seen time and again in this stock: the China scare buying opportunity.
YUM is geographically diverse from an operating income perspective (first chart, below) but not so much from a sentiment perspective. The perception among many investors is that this is a “China stock”. While China is important for YUM, we would highlight that previous sequential decelerations in China’s Real GDP Growth and YUM’s China comps have not resulted in corresponding deceleration in earnings growth (second chart, below). EPS growth has been remarkably consistent over the past number of years with economic growth rates in China and other markets varying over time.
With today’s sell off, a spate of downgrades, and what seems to be a full baking in of worse China growth expectations, we believe that YUM represents a very attractive opportunity on the long side.
We’ve already discussed the importance of the CBOE Volatility Index (VIX) hitting 14 and how it affects stocks, but what about other markets like energy? With volume and volatility moving lower, risk increases. Energy is a high beta sector, meaning that when the broader market sells off, energy sells off further and faster (and vice versa). The Energy Select SPDR ETF (XLE) is heading lower and when the VIX hits 14, it’ll likely take a beating.
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