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Replay: Consumer Staples Launch

I am very excited to be a part of the Hedgeye team and adding to the process with my launch on consumer staples this afternoon.

 

If you missed the call, or would like to review it, you will find links to the call and presentation below.

 

Call Replay: CLICK HERE

Presentation: CLICK HERE

 

I look forward to rolling up my sleeves across the space in the weeks and months ahead. More importantly, I'm excited to open up a dialogue with you all.  

 

Wishing a happy and restful Holidays!

 

-Rob

 

 

Robert  Campagnino

Managing Director

HEDGEYE RISK MANAGEMENT, LLC

 

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BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100?

Takeaway: We continue to see risk that Japan experiences a currency crisis (peak-to-trough decline > 20%) over the intermediate term.

SUMMARY BULLETS:

 

  • Could the USD/JPY cross approach 100 or beyond? Most definitely, assuming a scenario in which most of our pending POLICY and PRICE catalysts materialize. As we outlined on our 11/15 firm-wide Best Ideas conference call, we think there is risk of Japan experiencing a currency crash (i.e. a peak-to-trough decline > 20%) over the intermediate term. For the record, a -20% decline in Japan’s currency from the 11/15 closing price of ¥81.17 on the USD/JPY cross puts the yen at ¥101.4625 per USD. That would be a sight to see, as the yen hasn’t traded sustainably above ¥100 per US dollar since 2008.
  • To detail the aforementioned POLICY and PRICE catalysts, we view each one of the following risks as probable over the next 12-18 months:
    • A +2-3% joint Diet-BOJ INFLATION target;
    • A stimulus package introduced by Prime Minster-elect Shinzo Abe;
    • A VAT hike delay;
    • The LDP wins a  majority in the Upper House pending elections in JUL or AUG;
    • An erosion of BOJ independence, with the BOJ governorship and two deputy governorships eventually assumed by LDP puppets;
    • Experimental monetary POLICY – particularly a foreign asset purchase program; and
    • The UST 2Y-JGB 2Y yield spread widens in any meaningful way.
  • As we explicitly stated in our 11/9 note titled, “THINKING THOUGH A POTENTIAL CURRENCY CRISIS IN JAPAN”, sustained yen depreciation and expectations for that to continue is bullish for Japanese equities until it isn’t (i.e. until the JGB market cracks in a material way). Despite the Nikkei 225 Index having appreciated +12.2% since then, our fear of a DEVALUATION and/or INFLATION-induced Japanese sovereign debt crisis will continue to keep us on the sidelines here. If you are, however, inclined to play our bearish bias on the yen via the Japanese equity market, we strongly caution against overstaying your respective welcomes. For a deeper discussion of the drivers behind such a move in the JGB market, please refer to our 7/27 note titled: “ARE JAPANESE GOVERNMENT BONDS POISED TO MAKE SOME NOISE?”.
  • One key risk to consider at the current juncture is the fact that our call has become somewhat consensus, though we counter that there is room for the market to get a lot more bearish here and that the market’s commercial players are still ragingly bullish on the yen to the tune of +3.5x standard deviations relative to the trailing 52-week average. Moreover, investors would be highly remiss to forget the #1 reason why there exists a political will to devalue the yen in the first place – Japan’s secular erosion of competitiveness. We are making an explicit call that POLICY, not sentiment/positioning will increasingly drive the boat here, leaving behind a much lower JPY in the process.

 

Over the weekend, we received confirming data to support our bearish intermediate-term bias on the Japanese yen – specifically in that the Liberal Democratic Party of Japan (LDP) is projected to capture 296 seats in the 480 seat Lower House of Japan’s parliament (Diet). Combining with the New Komeito Party’s (NKP) projected 32 seats, Japan’s new ruling coalition has garnered an omnipotent two-thirds majority needed to overturn any bills that are rejected in the Upper House, which is still controlled by the DPJ (elections likely in JUL or AUG ’13).

 

The two-thirds majority will allow LDP president and Prime Minster-elect Shinzo Abe to push forth with his reflationary campaign unabated. Per the LDP’s recently-released manifesto, he plans to pursue nominal GDP GROWTH of +3% by:

 

  1. Setting a joint INFLATION target with the BOJ of +2-3 and having the BOJ pursue “unlimited easing” until the target is sustainably reached;
  2. Implementing economic stimulus via a “large-scale” extra budget; and
  3. Delaying the 2014 VAT tax hike if necessary.

 

In addition to these steps, Abe has also supported altering Japan’s pacifist constitution to increase defense spending and the number of military personnel in order to enforce a harder stance towards China with regards to the Senkaku/Diaoyu Islands dispute. As we called out in our 9/27 note titled: “IDEA ALERT: SHORTING THE YEN AS SINO-JAPANESE TENSIONS ESCALATE”, any foreign POLICY maneuvers that exacerbate Sino-Japanese tensions will equate to lower Japanese GROWTH (China is far and away Japan’s largest export market at 19.7% of shipments). That will ultimately force Japanese policymakers to do more of steps #1-3 to shore up the Japanese economy.

 

FYI, Japan is currently mired in its 2nd recession in as many years (third in the last four), so Abe & Co. definitely have a lot of “shoring up” to do with regards to the Japanese economy. Our bearish thesis on the Japanese yen is deeply simple: the more they do, the steeper the JPY is likely to fall vs. the USD – especially in a Global Macro environment where US monetary POLICY isn’t getting incrementally dovish and US fiscal POLICY is poised to get directionally hawkish.

 

BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100? - 1

 

BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100? - 2

 

Could the USD/JPY cross approach 100 or beyond? Most definitely, assuming a scenario in which most of our pending POLICY and PRICE catalysts materialize (more on the latter later). As we outlined on our 11/15 firm-wide Best Ideas conference call, we think there is risk of Japan experiencing a currency crash (i.e. a peak-to-trough decline > 20%) over the intermediate term. For the record, a -20% decline in Japan’s currency from the 11/15 closing price of ¥81.17 on the USD/JPY cross puts the yen at ¥101.4625 per USD. That would be a sight to see, as the yen hasn’t traded sustainably above ¥100 per US dollar since 2008.

 

BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100? - 3

 

Make no mistake, Japan is likely at the cusp of experiencing a major delta in monetary POLICY – not dissimilar in magnitude to what the US experienced under the transition from Arthur Burns to Paul Volcker. Only this time, Japan is doubling down on its largely-failed Keynesian POLICY experiments, whereas the US took that opportunity to rightfully stifle the center-left leanings across its monetary POLICY landscape.

 

Jumping back to the aforementioned PRICE catalyst, we see heightening risk that the US sovereign debt market starts to make lower-highs over the intermediate term, as the yield on the 10Y UST has broken out above our 1.69% TREND line. If prices on the long end of the Treasury curve in any way start to leads the short end lower, we could see a potential widening of the UST 2Y-JGB 2Y yield spread – much to the detriment of the Japanese yen. If our Macro team is right on the US consumer (via Bubble #3 popping) and Josh Steiner is appropriately the bull on US housing, there’s little reason to believe the bond market won’t front-run any marginal changes in US monetary POLICY.

 

BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100? - 4

 

One key risk to consider at the current juncture is the fact that our call has become somewhat consensus. When we introduced our bearish TREND and TAIL bias on the JPY on 9/27, the speculators in the futures and options market were net long the yen to the tune of 21.9k contracts. Now they are over two standard deviations net short (on a trailing 52-week basis) per the latest reported data (-95.1k contracts). While sentiment/positioning do score positive for the yen from a short-term perspective, we counter that there is room for the market to get a lot more bearish here (-191.4k contracts in 2007) and that the market’s commercial players are still ragingly bullish on the yen to the tune of +3.5x standard deviations relative to the trailing 52-week average.

 

BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100? - 5

 

BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100? - 6

 

Not to mention, investors would be highly remiss to forget the #1 reason why there exists a political will to devalue the yen in the first place – Japan’s secular erosion of competitiveness. We are making an explicit call that POLICY, not sentiment/positioning will increasingly drive the boat here, leaving behind a much lower JPY in the process. It would be a gross understatement to suggest Abe is sick and tired of the Shirakawa-led BOJ consistently losing battles to Ben Bernanke amid the global “Currency War”.

 

BEST IDEAS UPDATE: IS THE USD/JPY CROSS GOING TO 100? - 7

 

All told, we continue to see risk that Japan experiences a currency crisis (peak-to-trough decline > 20%) over the intermediate term. That’s a critical Global Macro risk to manage accordingly – irrespective of your primary asset class focus. For example, anyone long domestic exporters with outsized exposure to Japan from a currency translation risk perspective would be best served stress-testing their models for meaningful USD strength over the intermediate term. Email us if you’d like to arrange a deeper discussion of our call and the implications therein.

 

Darius Dale

Senior Analyst


FINL: Knock to FINL’s Credibility

Finish Line revealed cause for recent weakness in an 8K out Friday confirming a disappointing launch of its new website platform on November 16th and has migrated back to its legacy site for the balance of the holiday shopping season. Sales disruptions are never a positive development, particularly this time of year compounding investor concerns over slowing industry sales trends in the first two weeks of December headed into year-end. But the financial implications of this change are less relevant to us as management credibility is.  FINL is already a company that lacked credibility over how it reversed course in early 2012 noting how it would all of a sudden be an ‘investment year’. And now the fact that the stock is down 12% in a flat market in the two weeks since website problems have presumably arisen is the icing on the cake. We still like so much of what FINL is doing, but at this point, we think that it is cheap and built to stay that way until earnings dictate otherwise.


Some Other Thoughts To Consider...

 

We expect the impact of these site disruptions on November sales and upcoming Q3 EPS to be modest simply due to the fact that its FINL’s seasonally lightest quarter, but near-term implications to consider for 4Q and beyond include:

  • As with most retailers, December is the most significant revenue month of the year typically accounting for more than October and November combined. As seen in the chart below, December accounts for nearly 13% of annual footwear sales.
  • FINL confirmed that it had migrated back to its legacy platform on December 6th suggesting online sales underperformance was isolated to the first week assuming no additional disruptions transitioning back. December accounts for roughly 45% of FINL’s 4Q. For perspective, if we assume ALL online sales were lost during this first week and that the first week accounts for 12-15% of FINL’s 4Q with online at ~11% of total sales at higher profitability, then we’re looking at a $4-$8mm hit to sales, or $0.01-$0.03 in EPS.
  • We also have to take the costs related to this initiative into consideration relative to FINL’s $90mm capital spending plan. Up to $30mm was spent on upgrading IT infrastructure including various supply chain and merchandise systems as well as technology to support digital growth. While it’s unclear how much was allocated to Demandware and its new website, there is no indication that the ‘plug has been pulled’ altogether on the new platform.
  • The launch of the platform just 7-days prior to the busiest shopping day of the year gave both parties little time to work through typical transition adjustments. There’s no indication of when or if FINL plans to migrate back to the new platform. However, in an 8K released by Demandware Friday the company noted that FINL “concluded that it would suspend operation of the site” suggesting the move back to the legacy platform is not permanent. As such, related investments should not be considered sunk costs unless otherwise noted.
  • Lastly, the potential impact on FINL’s recently announced partnership with Macy’s. We think the risk is modest given that this is a front-end consumer interface issue with FINL’s site and the Macy’s deal is more of a back-end inventory and assortment management agreement. The two are largely if not completely unrelated. We think the concern is more one of operational reputation risk. In all likelihood, management made the move to transition again at a less critical time to avoid any such issue. As a reminder, the deal with Macy’s is slated to start April 1st.

 

We have adjusted our estimates to reflect the loss in higher profit online sales taking FINL EPS down a penny to $0.10 in 3Q and $0.03 to $0.82 in 4Q. While FINL is trading at a modest 9x our $1.97 FY13 estimate, the absence of positive catalysts over the near-term suggests a meaningful move higher before year-end is unlikely. In fact, we’re not convinced FINL’s 3Q earnings call scheduled for January 3rd is going to be much of a catalyst given the that the name is in a ‘show me’ mode. In addition, management will be absent at ICR in mid-January due to annual board meeting scheduling conflicts. To that end, with 4Q results and the Macy’s launch slated right around the same time (April 1st), we expect FINL to be largely range-bound over the next two months.


Citing Thursday’s note, we remain positive on NKE and FL here.

 

 

FINL: Knock to FINL’s Credibility - FW Monthly Dist

 

 


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Tracking Macau

Average daily table revenue (ADTR) in Macau was HK$775 million in the past week, down from HK$930 million in the first 10 days. ADTR actually fell 1% year-over-year. The first 10 days of the month were actually quite positive with hold percentage running high at most places sans Wynn. We predict that gross gaming revenue year-over-year growth will be in the range of 10-14%. Right now, Las Vegas Sands (LVS) looks to be the leader in terms of gaining market share while WYNN struggles.

 

 

Tracking Macau - m1


NEW TIME: U.S. Monetary Policy & Fiscal Cliff Expert Call with John Taylor

NEW TIME: U.S. Monetary Policy & Fiscal Cliff Expert Call with John Taylor - taylorcallNEW

 

We will be hosting an expert conference call tomorrow, December 18th, at 1:30pm EST featuring Professor John B. Taylor of Stanford University. Professor Taylor is a highly regarded scholar known for his research on the foundations of modern monetary theory and policy, which has been applied by central banks and financial market analysts around the world. In the call entitled, Will Monetary Policy Take Us Over the Fiscal Cliff?, Professor Taylor will discuss our nation's current fiscal situation and the policy actions that are essential to augment our economy.


Please dial in 5-10 minutes prior to the 1:30pm EST start time using the number provided below. A link to the presentation will be distributed before the call, if you have any further questions email .

  • Toll Free Number:
  • Direct Dial Number:
  • Conference Code: 485213#


KEY TOPICS WILL INCLUDE:

  • Economic problems still remain detrimental to the nation's economic stability following the Presidential Election    
  • Continued policy to not deleverage has hindered economic growth
    • Fiscal, regulatory, and monetary
    • A drag will continue even if the fiscal cliff is avoided
  • Risks are two sided
  • A change in policy will bring back strong growth and stability

  

ABOUT JOHN TAYLOR:

  • Currently a Professor of Economics at Stanford University and a Senior Fellow in Economics at the Hoover Institution
  • Formerly served on the President's Council of Economic Advisers and as a member of the Congressional Budget Office's Panel of Economic Advisers
  • Served as Under Secretary of Treasury for International Affairs from 2001- 2005
  • Oversight of the International Monetary Fund and the World Bank
  • Responsible for coordinating financial policy with the G-7 countries
  • Accredited author, his latest the winner of the 2012 Hayek Prize, entitled: "First Principles: Five Keys to Restoring Americas' Prosperity"
  • Received numerous awards for his work as a researcher, public servant, and teacher
    • Awarded the Alexander Hamilton Award for his overall leadership at the U.S. Treasury, the Treasury Distinguished Service Award for designing and implementing the currency reforms in Iraq, and the Medal of the Republic of Uruguay for his work in resolving the 2002 financial crisis 

 


CMG BOTTOMING PROCESS COULD TAKE TIME

We think there is modest downside to Chipotle’s share price.  That being said, our favorite short idea in the QSR space is BKW.  As far as the long side of CMG goes, we would possibly become more constructive on the stock closer to $250.

 

Below, we run through some fundamental, macro, and sentiment factors that we think are important for CMG going forward.  In particular, we would highlight new unit performance as a key metric to focus on when trying to get comfortable with the intermediate-to-long term outlook for the stock.

 

 

Top-Down View

 

Chipotle’s stock price has cratered since early 2012, declining almost 40% from its peak in April.  Picking the bottom is likely to be difficult, albeit not as difficult as picking the top, but we believe that the bottoming process is going to take several quarters as the fundamentals flush out.

 

CMG BOTTOMING PROCESS COULD TAKE TIME - CMG vs QSR Index

 

 

Macroeconomic growth is an important driver of Chipotle’s business.  The following chart shows that something clearly has gone awry with the Chipotle growth model; average unit volume growth has decelerated in recent quarters.   

 

CMG BOTTOMING PROCESS COULD TAKE TIME - cmg AUV vs IndProd

 

 

Fundamental Outlook

 

Same-restaurant sales growth has come in meaningfully as the company is struggling to re-accelerate top line growth.  Average check has been negatively impacted by lower drink sales and the outlook for FY13 comps is flat-to-low-mid-single-digit growth.   Two further “difficult” top-line compares remain before we can start to expect higher same-restaurant sales growth numbers.  The favorable weather in 1Q11 added, by management’s estimation, contributed 100-200 bps to the quarter’s same-restaurant sales growth number. We believe that there is a stong possibility that CMG posts negative SRS in one or both of the next two quarters.  Consensus expectations are for the company to maintain positive SRS over the next two quarters.

 

CMG BOTTOMING PROCESS COULD TAKE TIME - cmg pod1

 

CMG BOTTOMING PROCESS COULD TAKE TIME - cmg comps detail

 

 

Total sales growth has been decelerating, sequentially, for the past couple of quarters.  As long as Chipotle is growing at a mid-teen percent-rate, we will focus on the growth in new unit volumes as a signal of likely improving sales growth for the company.

 

CMG BOTTOMING PROCESS COULD TAKE TIME - cmg sales vs auv growth

 

 

We believe that new unit average unit volume growth has, and will continue to be a critical metric for this stock. In terms of picking inflection points in growth, the performance of new units has been the one signal worth watching over the past few years.  For the stock to begin the bottoming process we must also see a stabilization in new unit volume performance.  If the new unit continue to underperform the real estate strategy and the accelerated pace of development will be called into question.

 

CMG BOTTOMING PROCESS COULD TAKE TIME - CMG AUV Growth vs New AUV Growth

 

 

Restaurant-level margins remain the wild-card of 2013, in our view.  Chipotle’s restaurant operating margins are vulnerable to swings in commodity prices as the company purchases its ingredients on the spot market.  Inflation is currently running at low-single-digit levels, driven by higher dairy and meat prices.  Ultimately, margins in 2013 are sensitive to more adverse weather conditions that impact protein prices.  Guidance is also baking in avocado prices remaining at current levels next year

 

Labor costs have been a source of margin expansion for CMG for years as the company’s efficient operating model has been complemented by strong traffic gains.  Now that traffic growth has decelerated considerably, we think that there is heightened risk in assuming continuing leverage to be driven through the labor line. 

 

CMG BOTTOMING PROCESS COULD TAKE TIME - CMG pod 2

 

CMG BOTTOMING PROCESS COULD TAKE TIME - cmg labor costs as   sales

 

In aggregate, the outlook for the company’s Return on Incremental Invested Capital is still uncertain and we believe that the company slowing growth, and cutting capex, could serve as a catalyst to take a long position in the stock at a lower price.  Currently, with capex growth far out-stripping sales growth, we would not sleep too well the night before Chipotle’s next earnings call if we were to buy in at this level.  Longer-term, we believe the company’s business model is likely to deliver strong returns for shareholders but our confidence in near-term ROIIC is less firm. 

 

CMG BOTTOMING PROCESS COULD TAKE TIME - CMG ROIIC

 

CMG BOTTOMING PROCESS COULD TAKE TIME - CMG capex growth sales growth

 

 

 

Sentiment & Valuation

 

The investment community’s view of CMG has changed drastically in 2012 but we would point to historical precedent as a suggestion that the Street can likely become more bearish from here.  Short interest has been rising since May.  It’s worth noting that, the last time this company’s growth model was encountering problems of the magnitude that it now seems to be facing, short interest as a percentage of the float was in the 30’s. 

 

We hold a similar view of the valuation outlook for CMG.  We believe that there is further downside risk to FY13 EBITDA and EPS estimates.  While the multiple has come in, it is possible that the bottoming process could take some time if we are right that there are negative revisions to estimates coming over the next few quarters.

 

CMG BOTTOMING PROCESS COULD TAKE TIME - CMG sell side sentiment

 

CMG BOTTOMING PROCESS COULD TAKE TIME - CMG valuation change

 

 

Howard Penney

Managing Director

 

Rory Green

Senior Analyst

 

 

 

 


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