The Economic Data calendar for the week of the 10th of December through the 14th 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 recent DRI press release stating the latest disappointment stopped short of dealing with reality.
A recent note we published highlighted the DRI Annual Report as an important document for investors given the primary takeaway which was: the growth ethos at Darden is an entrenched as ever. Against a backdrop of sustained traffic declines, it is jarring to read the following sentence: “Our brands have strong individual and collective growth profiles”. We believe that management has, and is continuing to, set itself up to miss expectations.
Unfortunately, the press release of December 4th did not address the most important issue that the company is facing: excessive growth.
Clearly, in light of the fundamentals at the company’s largest brands, the five-year growth plan outlined in the Annual Report needs to be reevaluated. The thesis of our Darden Black Book this past summer expressed our conviction that Darden’s continuing acceleration of new unit growth over the past couple of years has masked evidence of secular decline in Olive Garden and Red Lobster. Knowing what we now know about how FY13 to-date only adds to the need for management to address how its pace of growth can be sustained without further erosion to the financial health of the company.
The message from Darden’s management team highlights the economy as the biggest issue facing the company and, furthermore, sees weakness in trends at its core brands as being transitory in nature. We have suggested that the longer-term view, as defined by the data, suggests an altogether different story.
The traffic trends at Olive Garden and Red Lobster clearly are demanding significant action of management. The economy is undoubtedly a factor but the poor performance of the “Big Two” versus the Knapp Track casual dining benchmark is a clear indication that the company’s sluggish traffic trends are not entirely attributable to the macroeconomic environment. The data points – traffic trends – that we are pointing to as a primary reference for our thesis are indicative of, in no small part, self-inflicted wounds.
If the company has become dependent on growth as a drug for all ailments, management’s message is not indicating that Darden is facing up to its growth problem. Stating that the “core brands remain highly relevant to restaurant consumers” can be supported by pointing to the average unit volumes at Red Lobster and Olive Garden as being some of the strongest in the industry. We believe this statement to be misguided, however, when considering same-restaurant sales trends – a far more relevant metric when assessing relevance to the consumer.
Going back to the very first conference call announcing Clarence Otis as CEO of the company, the pervading theme throughout his tenure has been “growth”. Acquisitions of LongHorn Steakhouse and, more recently, Yard House, are testament to the unwavering loyalty Darden’s CEO has to his philosophy.
Now the numbers don’t add up. The balance sheet is levered up and margins are declining. The company is not generating enough cash to pay the dividend given the current rate of capex growth. The dividend has become a liability.
Will management admit its past mistakes or, at least, change course and slow growth? Or will reality continue to be ignored? The earnings call on December 20th will be the first chance for management to face the music. The sooner they do it, in our view, the better.
Takeaway: We think GDP estimates are just now getting closer to the pain the region has dragged itself into.
Asset Class Performance:
EUR/USD: Our TRADE range is $1.29 – 1.31 with a TREND resistance of $1.31.
The week’s news-flow was dominated by Greece’s sovereign debt buyback program (more below), however our eyes were drawn to growth forecasts that were greatly cut this week. The revisions came as no great surprise – and signal to us that despite all the market intervention (Draghi “unlimited” OMT), prices will (in time) reflect the underlying health (or lack thereof) of the region. While Greece may continue to maintain the spotlight, we’re focused on the underlying health of the region; we think estimates are just now getting closer to the pain the region has dragged itself into. Here are the notables:
The ECB staff’s Eurozone GDP projections fell for yet another reading for this year and next:
Eurozone 2012 GDP - DEC: -0.6% and -0.4% SEPT: -0.6% and -0.2% JUN: -0.5% and +0.3%
Eurozone 2013 GDP - DEC: -0.9% and +0.3% SEPT: -0.4% and +1.4% JUN: 0.0% and +2.0%
The Chancellor of the Exchequer George Osborne forecast 2012 UK GDP of -0.1% versus +0.8% in March and +1.2% in 2013 versus a previous estimate of +2.0%.
The German Bundesbank cut its forecast for economic expansion in Germany to +0.7% this year, down from its previous forecast of +1%, and revised 2013 projections to +0.4% versus +1.6% predicted in June.
Banking Union Blues
This week EU finance ministers came to no conclusion on establishing the framework for a single supervisory mechanism (SSM) – aka a banking union—by 1 January 2013. Ministers are expected to reconvene on December 12th in Brussels, but we have our doubts that anything concrete will come from it. At the heart of it is an issue that was raised in the Q&A of Draghi’s press conference on Thursday, along the lines:
“Given that the ECB’s stance on a Banking Union remains that it should include all 6,000 banks whereas the Germans believe it should only include its largest banks, if it is decided that a Banking Union does not include all 6K does it make sense to have it at all?”. To this Draghi dodged the answer and only said that a Banking Union needs a strong supervisor where the ECB doesn’t have reputational risk.
This is a clear signal to us that the ECB and Germans (in particular) will be at loggerheads over the formation of a Banking Union. Further we think there will be extensive push back on countries giving up their fiscal sovereignty to reach a Fiscal Union.
For more on the ECB’s decision to keep rates on hold see Thursday’s note titled “December ECB Presser: Only Growth Cut, Happy Holidays!”
Greece Buyback, continued
Official results have not yet been released (and may not until next week) but Greece met today’s deadline to use a 10 billion EUR loan from Europe’s bailout fund (EFSF) to buy back some of the 62 billion EUR of new bonds issued when Greece restructured its privately held debt in March and unblock its next aid tranche (34.5B EUR) as part of a package approved from the European Union and International Monetary Fund to cut the nation’s debt to 124% of GDP in 2020 from a projected 190% in 2014.
Note: Greek banks held about 15 billion EUR of the bonds, while the country’s pension funds had 8 billion EUR, according to a Nov. 27 draft report by the troika of the European Commission, European Central Bank and IMF. According to Royal Bank of Scotland Group, hedge funds held as much as 22 billion EUR of Greek government bonds.
Despite uncertainty over bank participation earlier in the week, just today Greece’s three largest banks (National Bank of Greece SA, Alpha Bank SA, and Eurobank Ergasias) agreeing to participate, with Finance Minister Yannis Stournaras saying that the banks would have legal indemnity from potential shareholders who might file lawsuits against losses suffered.
Based on information in a statement from the Athens-based Public Debt Management Agency on Dec. 3, the prices offered for bonds maturing from 2023 to 2042 averaged 33.1% of face value, which compares with the average price of 28.1% of face value on Nov. 23.
We have no further comment on Greece or the buyback beyond reporting the developments. We continue to view Greece as a shell game that Eurocrats are running.
If Italy didn’t have enough on its hands with its outsized sovereign debt, political tensions flared this week when on Thursday, former Prime Minister Berlusconi's centre-right PDL abstained from a vote in the Senate on stimulating economic growth and a vote in parliament on cutting regional spending. Despite the move, Prime Minister Monti had a quorum, and the measures still passed in both chambers. In addition, the PDL said that the abstentions were intended to signal its disapproval of Italy's economic policies and not a move to topple the Monti government.
While tension appear to have calmed, speculation around Berlusconi running in next year’s election (set for early March) remains a destabilizing force. However, it’s worth noting that Berlusconi and the PDL are trailing badly in the opinion polls. According to a poll by Demos & Pi published in La Republica today, support for the PDL has fallen to 18.2% from 23.5% in March. In addition, the centre-left PD has seen its support jump to 37.8%, the highest since its founding in 2007.
The European Week Ahead:
Sunday: Nov. UK releases Lloyds Employment Confidence
Monday: Dec. Eurozone Sentix Investor Confidence; Oct. Germany Exports, Imports, Trade Balance, Current Account; Nov. UK RICS House Price Balance; Nov. France BoF Business Sentiment; Oct. France Industrial Production, Manufacturing Production; Oct. Italy Industrial Production; 3Q Italy GDP – Final; Nov. Greece CPI; Oct. Italy Industrial Production\
Tuesday: Dec. Eurozone ZEW Survey Economic Sentiment; Dec. Germany ZEW Survey Current Situation and Economic Sentiment; 3Q France Non-Farm Payrolls - Final
Wednesday: First public consultation between the Russian government, B20 Coalition and international civil society representatives on G20 agenda for 2013 (in Moscow); Oct. Eurozone Industrial Production; Nov. Germany CPI – Final; Nov. UK Jobless Claims Change, Claimant Count Rate; Oct. UK Average Weekly Earnings, ILO Unemployment Rate, Employment Change; Nov. France CPI; Oct. France Current Account; Oct. Spain House Transactions
Thursday: Dec. Eurozone Bloomberg Economic Survey, ECB Publishes Monthly Report; 3Q Eurozone Labour Costs; 1Q13 Germany Manpower Employment Outlook (Dec. 13-15); Dec. Germany Bloomberg Economic Survey; Dec. UK Bloomberg Economic Survey, CBI Trends Total Orders and Selling Prices; Dec. France Bloomberg Economic Survey; Dec. Spain Bloomberg Economic Survey; Nov. Spain CPI – Final; Dec. Italy Bloomberg Economic Survey; Nov. Italy CPI – Final; 3Q Greece Unemployment Rate
Friday: Dec. Eurozone PMI Manufacturing - Advance; Nov. EU27 New Car Registrations; Dec. Germany PMI Manufacturing and Services – Advance; Dec. France. PMI Manufacturing and Services - Preliminary; 3Q France Wages – Final; 3Q Spain House Prices, Labour Costs
ESM - Moody’s downgrades ESM to Aa1 from Aaa. It said the decision was driven by the recent
downgrade of France to Aa1 from Aaa and the high correlation in credit risk which it believes is present
among the entities' largest financial supporters.
Spain - PM Rajoy says it may be “very complicated” to achieve 6.3% deficit to GDP target in 2012 given revenue problems and high financing costs. Rajoy reiterated that if an intervention request is in Spain's interest in the future, he would not have any doubts about turning to the ECB for help.
Greece - S&P puts Greece in “selective default” following the launch of their debt buyback.
Germany - Chancellor Merkel Begins Election Drive after her party nearly unanimously re-elected her as party leader.
Eurozone banks - The WSJ said that after borrowing more than €1T from the ECB nearly a year ago, some of Europe's biggest banks are preparing to repay the three-year loans early (they can start next month). The paper added that while the push to repay the loans highlights the partial recovery in the industry, it has also generated some concerns that banks are moving too fast and could be exposed if the crisis flares up again. According to the article, a poll conducted by Morgan Stanley found that European banks are expected to repay a total of ~€80B of the ECB loans in early 2013, with the bulk of the funds coming from the northern European banks. The Journal also discussed how repayment speeds may be influenced by the lack of opportunities to deploy the borrowed funds to businesses and individuals.
Italy - Italian banks held a total of €273B in funds from the ECB at the end of November, down from €276.5B in October, according to ECB data. Italian lenders took down a total of €255B in three-year funds from the ECB's LTROs in December 2011 and February 2012.
Eurogroup - Jean-Claude Juncker said he plans to step down at the end of the year. No replacement named.
Eurozone Prelim. Q3 GDP -0.1% Q/Q (UNCH) [-0.6% Y/Y (UNCH)]
Eurozone PPI 2.6% OCT Y/Y vs 2.7% SEPT
Eurozone Retail Sales -3.6% OCT Y/Y (exp. -0.8%) vs -1.6% SEPT [-1.2% OCT M/M (exp. -0.2%) vs -0.6% September]
Germany Factory Orders -2.4% OCT Y/Y vs -3.9% September
Germany Labor Costs 3.3% in Q3 Y/Y vs 2.7% in Q2
Germany Industrial Production -3.7% OCT Y/Y vs -0.8% September
France ILO Unemployment Rate 9.9% in Q3 vs 9.8% in Q2
UK PMI Construction 49.3 NOV vs 50.9 OCT
UK Industrial Production -3.0% OCT Y/Y vs -3.2% September
UK Manufacturing Production -2.1% OCT Y/Y vs -1.7% SEPT
UK BoE/GfK Inflation Next 12 Months 3.5% NOV vs 3.2% OCT
UK Halifax House Prices -1.3% NOV Y/Y vs -1.7% OCT
UK New Car Registrations 11.3% NOV Y/Y vs 12.1% OCT
Switzerland Retail Sales 2.7% OCT Y/Y vs 5.0% SEPT
Switzerland Unemployment Rate 3.1% NOV vs 2.9% OCT
Switzerland CPI -0.1% NOV Y/Y vs -0.1% OCT
Spain Industrial Output WDA -3.3% OCT Y/Y vs -7.5% SEPT
Portugal Final Q3 GDP -0.9% Q/Q vs initial estimate -0.8% [-3.5% Y/Y vs initial estimate -3.4%]
Netherlands CPI 3.2% NOV Y/Y vs 3.3% OCT
Netherlands Industrial Production -1.7% OCT Y/Y vs -0.2% September
Norway Industrial Production 2.5% OCT Y/Y vs -5.0% September
Finland Q3 GDP -0.1% Q/Q (exp. 0.3%) vs -1.1% in Q2 [-1.2% Y/Y (exp. -0.8%) vs -0.3% in Q2]
Ireland Unemployment Rate 14.6% NOV vs 14.7% OCT
Ireland Industrial Production -16.7% OCT Y/Y vs -12.6% SEPT
Austria Wholesale Price Index 2.8% NOV Y/Y vs 4.2% in OCT
Iceland Q3 GDP 3.5% Q/Q vs -6.5% in Q2 [2.1% Y/Y vs 0.5% in Q2]
Greece Final Q3 GDP -6.9% Y/Y vs initial estimate -7.2%
Greece Unemployment Rate 26.0% SEPT Y/Y vs 25.3% AUG
Russia CPI 6.5% NOV Y/Y vs 6.5% OCT
Czech Republic Retail Sales 2.2% OCT Y/Y vs -2.9% SEPT
Romania Producer Prices 6.8% OCT Y/Y vs 6.6% SEPT
Romania Retail Sales 0.7% OCT Y/Y vs 5.1% September
Turkey Consumer Prices 6.37 NOV Y/Y vs 7.80% OCT
Turkey Producer Prices 3.60% NOV Y/Y vs 2.57% OCT
Malta Q3 GDP 4.3% Y/Y vs 3.8% in Q2
Cyprus Q3 GDP -0.4% Q/Q vs -0.5% in Q2 [-2.0% Y/Y vs -2.2% in Q2]
Interest Rate Decisions:
(12/5) Poland Base Rate Announcement CUT 25bps to 4.25%
(12/6) ECB Interest Rate on HOLD at 0.75%
(12/6) BOE on HOLD at 0.50% and asset purchase at 375B GBP
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Takeaway: More of the same. Credit card debt growth remains virtually non-existent, while student loan growth is incredible.
Credit card debt grew 1.1% year-over-year in October. This was a slight acceleration from the 0.8% year-over-year growth posted in September, but industry growth remains extremely lackluster. On a month-over-month annualized basis the growth was 4.7%, which is an improvement over September's -3.1% month-over-month annualized change.
Student loan growth accelerated again in October, growing 28.4% year-over-year up from 27.8% in September. We continue to view the bubble in student lending as entirely unsustainable, but as long at it's accelerating it is way too early to call for it to pop. Total nonrevolving credit, which includes auto loans and installment lending alongside student loans, rose 6.9% month-over-month annualized in October. This is weaker than the September change of 9.2% month-over-month annualized.
We normally look at consumer credit based on the trends within its individual components, but it is also worthwhile to sometimes look at what total consumer credit is doing. To that end, total non-mortgage consumer credit grew 6.0% year-over-year in October, which is up from 5.6% year-over-year growth in September. Generally speaking, consumer credit trends are pro-cyclical, as consumers tend to lever as a reflection of their own personal confidence. However, because most of the growth is being driven by student loans we are not as sure that the confidence argument holds water since student loan debt is arguably less of a reflection of economic confidence than is auto debt or credit card debt. Remember, higher education enrollment rises alongside rising unemployment.
Joshua Steiner, CFA
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Takeaway: Commodity deflation has provided and may continue to provide a stimulus to the still-fragile global economy.
Be it Deflating the Inflation (2Q11), Bernanke’s Bubbles (2Q12) or Bubble #3 (4Q11), we have been consistently and appropriately making bearish cyclical calls on the commodities complex over the past 18-24 months, with the latter theme extending our view to the TAIL duration as well. For the record, the CRB Index is down -17.7% since the start of 2Q11 and down another -4.3% quarter-to-date.
From the right PRICE, pending our quantitative signals, you could see a positive revision(s) to our global GROWTH expectations with respect to the intermediate-term TREND, as further deflation of food, energy and raw materials prices provides an economic stimulus via disinflation in actual consumer and producer prices.
Additionally, it just so happens that our baseline GIP model (driven by predictive tracking algorithms) is now pointing to a directionally positive economic environment over the intermediate term as new global GROWTH data has rolled in over the past few weeks.
You’re seeing this potential GROWTH pickup confirmed across a large swath of PMI readings (we track 31 in total). For the month of NOV, the median PMI reading came in at 51.4, up from 50.4 in OCT; the median sequential delta for the month came in at +0.5 percentage points. Broadly speaking, the service sector continues to outperform manufacturing, as it has done since mid-2011. We portend this is largely a function of the decline in commodity prices over that period (consumption tailwind and commodity-related capex declines).
Aside from the necessary PRICE, VOLUME and VOLATILITY signals, what would get us really bullish on “risk assets” from here? More of the same. The less global financial markets have to react to the conflicted and compromised whims Bernanke, Geithner, Obama, Pelosi and Boehner, the more we are likely to see further upside in the USD and further downside across the commodities complex.
That’s a better, more sustainable bull case than the current one which largely consists of corporate management teams [potentially] levering up to pay “special dividends” and mass layoffs.
That being said, it remains to be seen whether or not an arrest of central planning is possible – especially with the Keynesian Cliff (Fiscal Cliff and Debt Ceiling domestically) hanging in the balance. For our latest deep-dive thoughts on this topic, please refer to our 11/16 note titled: “DEBT CEILING UPDATE: WILL SANTA’S SACK BE FILLED WITH COAL?”.
Additionally, “VIX-15” and an asymmetrically stretched bull/bear sentiment spread (in favor of the bulls) remain key contrarian indicators to intellectually wrestle with at the current juncture. Investors are broadly bullish and/or complacent, so it’s likely that some degree of improving global economic fundamentals is priced in.
In grossly uncertain times like these, it’s best to double-down on your process (assuming it is effective); in that light, we will continue to manage the risk of the ranges across a variety of securities and asset classes, with an keen eye for potential breakouts in light of the aforementioned global economic scenario.
Takeaway: $CAT's recent results still reflect big *increases* in mining capital investment. Investors are not looking through what they haven't seen.
CAT Idea Alert: It Hasn’t Started, So It Isn’t Over
Levels: Long-term TAIL resistance = 89.74; TRADE support = 85.79
We have highlighted a number of the reasons that we are bearish on CAT’s share price. Some investors may think that the worst is over, but capital equipment cycles tend to be multi-year affairs. The resource investment down-cycle hasn’t even started yet for CAT, in our view.
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