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I have pity for the Harrah’s General Managers that must contend with old and uncompetitive slots and thinning carpets.  Unkempt casinos wear pretty quickly with the tremendous volume of visitors.  This seems to be happening at an accelerated pace at Harrah’s casinos across the country.  Casinos should spend 5-6% of their revenues (including slots) in maintenance Capex.  I estimate Harrah’s is spending 1-2%.  Compounding the problem for Harrah’s is its (formerly) stellar reputation for well maintained properties.

Harrah’s competitors should continue to steal share.  The following chart details Harrah’s major competitors and the percentage of their EBITDA derived from properties competing with Harrah’s.  ASCA is the clear winner with 74% of its property EBITDA generated at properties in direct competition with Harrah’s.  PNK, BYD, and PENN also maintain significant exposure to Harrah’s at 44%, 34%, and 33%, respectively.


Is China Advocating For The Bancor? Could Be BIG For Commodities

Keith and I spent the last few days talking Macro with some of the big boys in Boston.  Not surprisingly, and as usual, the large Boston funds are ahead of the curve and asking many of the right questions.  China was a focus, particularly as it relates to her need, or want, for commodities. Specifically, there was a good deal of discussion about copper, or Doctor Copper, as we like to call the industrial metal.


We noted the increased demand for copper from China this year in a note earlier this week, entitled “The Good Doctor Copper”:


“Coincident with this increase in copper prices are data points supporting improving fundamentals from The Client (China).  Preliminary reports out of China suggest that Chinese copper scrap supply may drop 700,000+ tons this year.  The implication of this is that copper imports will have to increase, and perhaps dramatically, to offset the decline in copper scrap.   March Chinese copper imports jumped to a record high of 374,957 tons, which could be the beginning of a longer term trend of increased imports from The Client.”


In the chart below, I’ve outlined the Chinese import data for the last 12-months.  In aggregate the last four months have seen a real spike in imports.


Is China Advocating For The Bancor? Could Be BIG For Commodities - aaadddd


As we were discussing the case for copper on our trip earlier this week, the key debate on the copper bull case was in trying to determine the key source of demand for copper.  Was it physical demand, financial demand, or an emerging view of how the Chinese believe, or are advocating, the world financial system be ordered in the future?  Daily we get more evidence that Chinese demand for copper, and other commodities, may be driven by motives other than intermediate term needs for the physical commodity.  Specifically, Dr Zhou Xiaochuan, who is in charge of monetary policy for China, recently wrote the following in an essay that was posted on the website of the People’s Bank of China:


“Though the super-sovereign reserve currency has long since been proposed, yet no substantive progress has been achieved to date. Back in the 1940s, Keynes had already proposed to introduce an international currency unit named “Bancor”, based on the value of 30 representative commodities. Unfortunately, the proposal was not accepted.” (Emphasis is Research Edge’s.)


The Bancor was a world currency unit proposed by John Meynard Keynes in the negotiations establishing the Bretton Woods Agreements.  The idea was that the Bancor was to be fixed to 30 commodities, of which gold was one.  Keynes’ believe was that such a currency would stimulate domestic demand and promote global trade balances.  Ultimately, Bretton Woods took a different path and used gold, solely, as the basis by which countries pegged and valued their currencies.  As we know, Bretton Woods collapsed in 1971, after the United States acted alone to terminate conversion of dollars to gold.  The result of this was that the U.S. dollar effectively became the world’s reserve currency for those countries that were signatories to Bretton Woods.


Obviously there was a series of events that led to the Bretton Woods agreement, most notably a global economic depression and World War 2.   Additionally, as the only true global superpower, the U.S. was able to take the lead in these negotiations and in managing global monetary affairs.  While the US still has the role as a superpower, the world is in a much lower state of duress, so a complete overhaul of the global financial system seems unlikely.  Nonetheless, the Chinese are clearly stockpiling copper well beyond their immediate term physical needs and in a world where copper, and other metals, are the basis for the valuation of world currency, financial demand for copper could continue to increased dramatically.


Daryl G. Jones
Managing Director


YUM is scheduled to report Q1 earnings next week.  This is what we know:

2009 guidance of at least 10% EPS growth relies largely on a U.S. recovery.

The company is expecting U.S. operating profit growth of about 15%, or at least 5% excluding the impact of the planned $60 million in G&A savings.

U.S. operating profit growth has been flat to down for the last six years with YUM posting its largest decline in 2008 of down 6% so YUM definitely has easier comparisons working to its benefit in 2009, but this has not helped in the past.

KFC has been the biggest drag on U.S. operating performance as Taco Bell (60% of U.S. operating profit) and Pizza Hut both grew operating profit in 2008.  In the fourth quarter, KFC same-store sales declined 3% while Taco Bell increased 9% and Pizza Hut fell 1%. 

YUM needs both its Pizza Hut and KFC brands to perform in 2009 to meet its 15% operating profit growth goal.  And, as YUM management highlighted on its Q4 earnings call, both concepts were off to a slower than expected start in January “because these brands focus on the higher-end ticket dinner occasion, which are under the most pressure due to customers  doing more cooking at home.”  Management also said that KFC January sales were extremely poor.   The company has since launched its first ever nationally advertised value menu at KFC and expects its Kentucky Grilled Chicken launch in Q2 to turn things around for KFC in 2009.  I am still not convinced that this will happen.

Pizza Hut started the year out slow and although management seems convinced that its new focus on pasta and chicken wings “will totally transform the Pizza Hut brand over time,” for now, it is still called Pizza Hut and pizza sales/traffic matter.  That being said, according to NPD data, QSR pizza trends do not look good.  QSR pizza category traffic declined in both January and February.  This is not that surprising as traffic has declined on a YOY basis every month for the last two years, but the 2-year average trend steepened its declines in both January and February. This does not bode well for Pizza Hut in Q1. 

YUM – LOTS OF QUESTIONS - QSR Pizza Traffic Feb 09

Domino’s has said in the past that irresponsible industry price increases are largely to blame for pizza traffic declines, which is made evident by the chart below that shows that QSR pizza traffic generally falls off as average check increases.  The industry has apparently not yet learned this lesson as the large average check increases in January and February coincided with the accelerated traffic declines.  YUM management did say that it was not assuming any price increases at Pizza Hut in 2009, which could help its traffic trends somewhat relative to the industry…we will have to wait and see what impact this has on margins.

YUM – LOTS OF QUESTIONS - QSR Pizza Traffic and Check Feb 09

U.S. same-store sales at Pizza Hut and KFC will most likely extend their Q4 declines into Q1.  Management did its best to set the bar low for U.S. performance in Q1, however, saying that much of its U.S. plans are back-end loaded, the majority of full-year commodity inflation is expected in Q1, G&A restructuring benefits will not be fully realized until Q2 and the Kentucky Grilled Chicken launch, which it recognizes as a big catalyst for U.S. improvement, is not until Q2. 

I don’t expect YUM to miss numbers but as always the quality of EPS will be low.  Domestically, KFC is terminal; Pizza Hut is struggling (along with the category); that leaves Taco Bell to carry the day domestically.  With the USA representing more than 40% of operating income, I’m not going to take that to the bank.  Given the commentary from MCD and BKC, the international markets have slowed significantly, which suggests that YUM international will post some very punk numbers.  That leaves YUM’s Holy Grail, China, to save the day; China looks like it will be a challenge, too (please refer to yesterday’s post titled “YUM – China, Not Without Issues” for more details ).


US Consumer: Is it January or April?

Suffice to say, it would be very difficult for someone to convince me that we have not seen the low in intermediate term US Consumer confidence. A more interesting question is whether or not the final April reading will end up flashing a higher high for 2009 to-date versus the preliminary reading that we saw back in January. Clearly, the January preliminary reading was an early head-fake.


Ironically enough, this morning’s University Michigan Consumer Confidence Report (the preliminary, not final April reading) was dead in line with the preliminary January reading of 61.9 (see chart). What’s most interesting about this is that last time the intermediate short squeeze (November to January) ended, US Consumer Confidence locked in a short term peak, then fell right back down to new lows.


As the stock market goes from here, so will the direction of this chart (see below). On the asset side to the consumer’s confidence reading, two things really matter: 1. Home Prices and 2. Stock Prices.


The Depressionistas will remind you of everything that they have been saying for the last 6 weeks and that we’re “overbought.” Meanwhile the consumer analysts will tell you that virtually all of the things that matter to consumer spending from the aforementioned, to employment, to gas prices, and mortgage rates, have improved, materially, in the last 3 months.


Don’t forget that employment losses continued to sequentially accelerate into late February, early March. As of the last 2 weeks of jobless claims, that very relevant (negative) US Consumer headwind has found a positive delta.



Keith R. McCullough
Chief Executive Officer


US Consumer: Is it January or April? - senti

Bullish Bruins

"Forget about style; worry about results"
-Bobby Orr
My Partner, Brian McGough, and I were driving home from Boston last night, and we had one of those great investment discussions that always just seem to happen when you don't expect them to.
For those of you who don't know McGough, the man is a virtual investment encyclopedia of everything that involves the consumer industry. Fully loaded with what the corporate bankruptcy cycle means for American companies playing Survivor, he's about as bullish as he has been on his sector in, I'd say, 3 years.
After doing meetings in New York earlier in the week, I was not expecting to have some of the discussions that I had with Boston based investors either. Some of these guys/gals are bullish and very much in a non-US centric way. My many thanks to all of the men and women of the Beanpot for having the privilege of your conversation.
Now, understanding that the market's direction has a funny way of changing people's tone on a real time basis (unlike Steve Schwarzman, most of these investors are marked-to-market), the reality is that our base of Boston clients were considerably more bullish than those I have recently spent time with in New York.
No, this isn't a comment on who is smarter. Don't forget that most of the guys I hang out with in Boston are hockey players - so, if anything, I'd err on the side of me and my Boston boys being quite a bit dumber than most. Maybe not seeing all of these fanciful probabilities of the perpetually beared up Depressionistas is beyond our mental grasp - but, we're cool with that.
The New Reality is this - the bears are writing books; the bulls are still too bearish; and the Boston Bruins have the momentum in the Stanley Cup Playoffs. Montreal's goalie, Carey Price, looked as rattled last night in that 4-2 loss to the Bruins as some of the short sellers of everything US Consumer and Financials.
No, I'm not long the Financials - but I am thanking God that the laws of objectivity had me cover all of my US Financials on the short side many percentages ago. While not participating on the upside here is something I have had wrong, I am still sincerely enjoying the shorts getting lit up like a Canadiens Christmas Tree out there right now on this market's proverbial ice.
You see, even some of the dumbest hockey players on the planet know that winning is associated with going to where the puck is going rather than staring at where it has been. Do I understand the Citigroup or US Consumer short case? You bet your Madoff I do - I was chirping about it, daily in these morning rants, from late 07' until late last year. Do I understand where the short interest pain trades are? You tell me - finding where the bears' exposures are isn't a trivial exercise for someone who has spent plenty of time sleeping with them.
Am I a raging bull? No (and I'm not a Boston Bruins fan either). But, on the margin, I have been as bullish as I have been in a long long time ... and as this market scales the well publicized bearish wall of worry thesis, I continue to get incrementally bullish data points that supports my positioning.
Two weeks ago today, I wrote a fairly aggressive intraday note titled "This Is BIG: US Employment Is Turning"... While it's always hard to qualify the emotional responses I sometimes receive when I make a controversial "call" like this, let me just say that the replies I received to that note would be the equivalent of my painting my body red and standing up at the Boston Garden last night yelling in French.
Now I may not be as "smart" as Mr. Hedge Fund Man out there who is running net neutral exposure, but 1. I can speak French and 2. I not stupid enough to do something like that at Hockey Night in Boston. After seeing yesterdays stiff drop off in US weekly jobless claims, I have to wonder what kind of Research Edge that America's favorite "hedgie" was using when implying to me that unemployment in this country was going to re-accelerate from those pre-Obama job creation days of February/March.
For those who still disagree with me that we have seen the peak in sequential unemployment growth, I'm cool with that - just understand that you are disagreeing with math, and you might want to keep the wizardry associated with your view on the down low. As the Captain of the Charlestown Chiefs said in Slapshot - "that's em-bah-rass-ing."
The New Reality here is that we are seeing the most expedited short squeeze in the history of the modern day US stock market. Sure, if you take me back to the 1880's in the data set I am sure you'll see a few more raging squeezes of consequence, but let's get serious here boys - unless you're as old as that guy they called Blue in Old School, you weren't trading back then anyway.
Who "trades"? Who "invests"? Who buys low? Who didn't buy anything at all and now wakes up every morning saying that we're "overbought"? I don't know. But I do know that there are some boys in Boston who have a big smile on their face right about now, and it's not just because the Bruins won last night.
My immediate term upside target in the SP500 is now 873. My downside support moves to a higher low at 843. Being a bullish Bruin works here - if it aint broke, don't fix it.
Have a great weekend,


EWZ - iShares Brazil- The Bovespa is up 22.6% YTD and continues to look positive on a TREND basis. President Lula da Silva is the most economically effective of the populist Latin American leaders; on his watch policy makers have kept inflation at bay with a high rate policy and serviced debt -leading to an investment grade credit rating. Brazil has managed its interest rate to promote stimulus. The Central Bank cut 150bps to 11.25% on 3/11 and likely will cut another 100bps when it next meets on April 29th. Brazil is a major producer of commodities. We believe the country's profile matches up well with our re-flation theme: as the USD breaks down global equities and commodity prices will inflate.

XLY - SPDR Consumer Discretionary-TRADE and  TREND remain bullish for XLY.  The US economy is showing faint signs the steep plunge in economic activity that began last fall is starting to level off and things are better that toxic.  We've been saying since early January that housing will bottom in 2Q09 and that "free money" for the financial system will marginally improve the US economy in 2H09, allowing early cycle stocks to outperform.  The XLY is a great way to play the early cycle thesis.

EWA - iShares Australia-EWA has a nice dividend yield of 7.54% on the trailing 12-months.  With interest rates at 3.00% (further room to stimulate) and a $26.5BN stimulus package in place, plus a commodity based economy with proximity to China's H1 reacceleration, there are a lot of ways to win being long Australia.

XLK - SPDR Technology - Technology looks positive on a TRADE and TREND basis. Fundamentally, the sector has shown signs of stabilization over the last six+ weeks.   As the world demand environment becomes more predictable, M&A should pick up given cash rich balance sheets in this sector (despite recent doubts about an IBM/JAVA deal being done).  The other big near-term factors to watch will be 1Q09 earnings - which is typically the toughest for tech, along with 2Q09 guide.  There are also preliminary signs that technology spending could be an early beneficiary of the stimulus plan.

TIP - iShares TIPS- The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%.  We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.

XLB - SPDR Materials -It's a bull on both a TREND and TRADE duration. The Materials sector is, obviously, a key beneficiary of our re-flation thesis.  Domestically, materials equities should also benefit as the stimulus plan begins to move into action.

USO - Oil Fund-We bought oil on 3/25 for a TRADE and are positive on the commodity from a TREND perspective. With the uptick of volatility in the contango, we're buying the curve with USO rather than the front month contract.  

EWC - iShares Canada-We bought Canada on 3/20 into the selloff. We want to own what THE client (China) needs, namely commodities, as China builds out its infrastructure. Canada will benefit from commodity reflation, especially as the USD breaks down. We're net positive Harper's leadership, which diverges from Canada's large government recent history, and believe next year's Olympics in resource rich Van.couver should provide a positive catalyst for investors to get long the country.   

DJP - iPath Dow Jones-AIG Commodity -With the USD breaking down we want to be long commodity re-flation. DJP broadens our asset class allocation beyond oil and gold.
GLD - SPDR Gold-We bought more gold on 4/02. We believe gold will re-assert its bullish TREND as the yellow metal continues to be a hedge against future inflation expectations.

DVY - Dow Jones Select Dividend -We like DVY's high dividend yield of 5.85%.


LQD  - iShares Corporate Bonds- Corporate bonds have had a huge move off their 2008 lows and we expect with the eventual rising of interest rates in the back half of 2009 that bonds will give some of that move back. Moody's estimates US corporate bond default rates to climb to 15.1% in 2009, up from a previous 2009 estimate of 10.4%.

SHY - iShares 1-3 Year Treasury Bonds- If you pull up a three year chart of 2-Year Treasuries you'll see the massive macro Trend of interest rates starting to move in the opposite direction. We call this chart the "Queen Mary" and its new-found positive slope means that America's cost of capital will start to go up, implying that access to capital will tighten. Yield is inversely correlated to bond price, so the rising yield is bearish for Treasuries.

EWU - iShares UK - We shorted the UK on 4/08. We're bearish on the country because of a number of macro factors. From a monetary standpoint we believe the Central Bank has done "too little too late" to manage the interest rate and now it is running out of room to cut. The benchmark currently stands at 0.50% after a 50bps reduction on 3/5. While the Central Bank is printing money and buying government Treasuries to help capitalize its increasingly nationalized banks, the country has a considerable ways to go to attain its 2% inflation target as inflation has slowed considerably. GDP declined 1.5% in Q1, unemployment  is on the rise, housing prices continue to fall, and the trade deficit continues to steepen month-over-month.

EWL - iShares Switzerland - We shorted Switzerland on 4/07 and believe the country offers a good opportunity to get in on the short side of Western Europe, and in particular European financials.  Switzerland has nearly run out of room to cut its interest rate and due to the country's reliance on the financial sector is in a favorable trading range. Increasingly Swiss banks are being forced by governments to reveal their customers, thereby reducing the incentive of Switzerland as a tax-free haven.

UUP - U.S. Dollar Index -We believe that the US Dollar is the leading indicator for the US stock market. In the immediate term, what is bad for the US Dollar should be good for the stock market. The Euro is down versus the USD at $1.3079. The USD is up versus the Yen at 99.3800 and up versus the Pound at $1.4764 as of 6am today.

EWJ - iShares Japan -We re-shorted the Japanese equity market rally via EWJ. This is a tactical short; we expect the market there to pull back when reality sinks in over the coming weeks. Japan has experienced major GDP contraction-it dropped 3.2% in Q4 '08 on a quarterly basis, and we see no catalyst for growth to return this year. We believe the BOJ's recent program to provide $10 Billion in loans to repair banks' capital ratios and a plan to combat rising yields by buying treasuries are at best a "band aid".

XLP - SPDR Consumer Staples- Consumer Staples broke out of the TREND line resistance yesterday and is bullish as a TRADE. This group is low beta and won't perform like Tech and Basic Materials do on market up days. There is a lot of currency and demand risk embedded in the P&L's of some of the large consumer staple multi-nationals; particularly in Latin America, Europe, and Japan


SHO is not yet one of core followings but they do typically provide a thoughtful preview of quarterly hotel trends.  Despite the huge moves in hotel stocks, SHO provided little optimism to justify such enthusiasm.

Below are our takeaways:

·         No sign that RevPAR has stabilized or bottomed - RevPAR decreases continues to increase

·         While SHO agrees with our thesis that occupancy bottoming out is the first sign of a bottom, they haven’t seen it yet

·         Future booking pace continues to slow in line with the accelerating decline in RevPAR

·         1Q is a seasonably slower quarter, and therefore the only way to fill the rooms is to try to steal market share by cutting rate.  Unfortunately, it’s now the beginning of Q2 and there are no signs of the ADR slide abating

·         Specific market commentary:

o   Continued weakness in Chicago, Detroit & Minneapolis

o   Mid Atlantic being propped up by DC

o   Continued weakness in Orlando & Atlanta

o   Houston relatively strong

·         On the positive side, they have had some success in offsetting some of the revenue declines by cutting costs – this has been a theme across the industry and is the silver lining

·         Asset sales are likely to remain difficult to consummate until:

o   There’s more visibility on how 2009 will shake out

o   There is some sense on when we reach bottom and what the numbers look like at trough

o   The financing environment improves

·         Following in the footsteps of DRH, AHT, BEE, and Interstate Hotels, SHO is making headways in negotiating an amendment to its credit facility that would result in covenant relief

o   In exchange, SHO will reduce the size of the facility, provide a pool of 10 unencumbered assets as security for the facility, and pay a premium on its borrowing cost

·         Sunstone is also making some headway in securing mortgage financing but at materially less favorable terms than we’ve seen in the past

o   50% Loan-to-Value

o   Value based on ~20%  haircut to 2008 NOI and cap rate ranging from 9-11%

o   Pricing around L +550 with a 1% LIBOR floor


SHO provided evidence that this early cycle move in lodging stocks my ultimately prove to be too early.



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