Regional gamers dominate the lower left quadrant




One would be hard pressed to find a segment of the consumer economy performing worse than regional gaming. The stocks have been a different story.



Mature regional gaming markets should post a combined gross gaming revenues (GGR) decline of close to 10% in February (still waiting on Louisiana/Mississippi to report).  This ugly performance follows a very disappointing 6% decline in January.  January was even more surprising based on our model which predicts monthly GGR based on sequential trends adjusted for seasonality and other factors such as the calendar, weather, and one-time events.  As can be seen in the following chart, January should’ve been close to flat YoY.




It’s not like the companies can make up for it in margin; costs have already been cut to the bone and the casinos are highly fixed cost businesses.  Combine the operating leverage with very high financial leverage and the stocks should be getting creamed in a declining demand environment, right?  The chart below tells a different story.  Regional gaming stocks have outperformed the market since mid-November.  So what gives?




For the most part, it comes down to corporate finance:

  • PENN announced a conversion to a REIT on 11/16/13.  Through the real estate lens, all regional stocks suddenly looked cheap.
  • PNK announced the agreement to acquire ASCA which boosted both stocks.  Nothing like M&A to get investors excited.
  • BYD reached an agreement to sell the Echelon project to Genting and Jai Lai Dania, allowing the company to de-lever by jettisoning non-EBITDA producing assets.  The transactions lowered the stock’s valuation considerably.

The question is what happens now.  We think the rest of 2013 will mark the return of focus on fundamentals.  This will not be good for the stocks.  Our EBITDA estimates for Q1 and 2013 fall below the Street for each regional company with the surprising exception of BYD.  We’re in-line with BYD probably because everyone hates the company and it was the most recent to announce earnings. 

  • PNK/ASCA – PNK looks the most vulnerable because they are doubling down on regional gaming with added leverage.  The upside of the deal – huge cash flow and EPS accretion – has already been recognized in the stock.  ASCA’s properties were among the best run in the industry so operating upside is limited.  We think investors may be disappointed with corporate cost reductions since ASCA allocated a significant amount of property-related costs to corporate which contributed to industry leading property margins but also industry leading corporate costs as a percent of revenues.  PNK’s valuation of 7.6x next year’s EV/EBITDA doesn’t leave a lot of room for upside.  Investors may be increasingly uncomfortable with post deal leverage of 6.6x in this type of environment.
  • PENN – At this point, we think the stock is fairly valued considering numbers still need to come down and analysts seem to be giving an aggressive multiple of 6-7x EBITDA for OpCo.  Offsetting those two factors is a fairly low cap rate ascribed to the REIT.  We think that the value of the REIT will rise as real estate investors become comfortable with the concept of a gaming REIT.  We’ll stay on the sidelines until the Street reduces estimates. 
  • BYD – With the sale of Dania and the Echelon project factored in, BYD’s EV/EBITDA multiple next year declines to an industry low of 6x.  More importantly, we think the Street actually has the numbers right for Q1 and 2013.  There is no stock in our universe with worse investor sentiment (not even CCL) than BYD.  Sell side ratings are almost universally Holds and Sells.  Assuming we’re right on the numbers, a simple half turn in the multiple represents a 50% move in the stock price.  Just meeting expectations should get BYD there.

Markets From A Different Angle

Takeaway: Here are highlights of a call we hosted with TF Market Advisors' Peter Tchir, an expert on global credit markets.

The Hedgeye Macro team Friday hosted a conference call with Peter Tchir (@TFMkts), founder of TF Market Advisors, an independent provider of macro research and market information.  Peter’s expertise in global credit markets has made him a valued advisor to hedge funds, money managers and asset allocation firms. Peter looks at global markets from a Macro perspective, watching trends in fixed income as they signal upcoming events in other markets, including currencies and equities.


In the near term, Peter sees more risk than upside in the US equities market.


He believes the emerging awareness of risks from Europe, combined with a bottomless well of QE will soon have investors seeing stock valuations as overextended.  There are high hopes for an LBO boom, which he believes will not materialize, and risk contagion will also spread from weakness in emerging economies, all of which should leave the S&P vulnerable for a pullback to the 1,500 level.


Peter believes Spain and Italy will ultimately become buying opportunities for investors who trade global ETFs.  But not until there is a perception that the ECB has the ability to make something happen in recalcitrant economies.

At some point, the Fed will end its QE program. They will not signal it ahead of time, but it will be important to recognize when it does occur. 


Among other effects, Peter believes investors will reassess the position of the banks, which he says will do much better under Dodd Frank than most people predict.  Meanwhile the US market, which he sees as mildly overvalued, should retrench, giving patient buyers an opportunity to bargain hunt. 


Peter sees a number of major market segments where investor perception is at odds with reality.  “When perception catches up with reality,” he says, “those are always the most interesting moves.”


Follow the Money: US Equity Markets and the Fed

Peter says, don’t listen to what the Fed says – look at what the Fed owns. 


Bernanke says the Fed will not sell bonds.  Peter says the Fed can’t sell bonds.  They have such a massive position that, should they sell a bond, the market will rush to place enormous pressure on Treasurys. 


The Fed owns 40% of all Treasury bonds with maturities in the 5-20 year range, and nearly as much in the 20-30 year.  The Fed no longer participates in this market.  They have become the market.  As we are hearing in this morning’s JP MorganChase senate testimony, when you get too big in a market, you become its prisoner.  Fed Chairman Bernanke is “The Washington Whale.”


The Fed wants to maintain momentum in housing.  Since mortgage rates are tied to the 10-year Treasury, this is all the more reason why, says Peter, the Fed not only won’t sell bonds – they can’t sell.


This continues to create a bind in the economy.  The Fed is both buying mortgages, and controlling rates, squeezing others out of the mortgage market.  meanwhile, banks continue buying far more Treasurys than mortgages, meaning they are financing the government instead of the economy.  


JPMorgan recently laid off a large number of employees in its mortgage unit – a sign of widespread concern that a true private market for mortgages may never reappear.  Peter says we need to return to the normal scenario of Banks lending money to People and to Businesses.  There will almost certainly be a volatility hiccup on the way, but once the Fed finally steps back from its Quantitative Easing (QE) program, the economy will emerge much stronger.


How does this work its way into the stock market?


The Fed’s recent stress test scenarios all assumed 10 year rates at around 2%, but they were able to achieve a projected result, in at least one case, of stock prices doubling, coupled with 4% GDP growth.  On the way to a double, stock first declined substantially, but the Fed looks at the positive part of the analysis.  This means the Fed believes they can remain in the driver’s seat for a long time, though it is still not clear what policy measures they foresee in the event their rosy scenario comes true.  After all, even the greatest bull market only lasts until it doesn’t. QE has taken the bounce out of the economy. 


Recent gains in employment are not resonating through the equities markets the way they normally would, housing prices are rising, retail activity is picking up, but Peter’s work indicates none of those factors will have the strength they normally would to take equity prices higher.  You can’t fight the Fed, as they say.


What About All Those Equity Deals?

There have been a couple of substantial equity deals lately.  Two prominent deals – Dell and Heinz – have investors salivating over a new wave of buyout activity.  Peter cautions that these transactions had unique owners and participants, and that in both cases the owners sought large pieces of secured debt – not your normal private equity of investment bank-led equity deal.  Peter says it is unclear whether there is enough unrealized value for a real LBO wave to take off.  And he points out that credit is not yet exuberant enough to provide the levels of leverage needed for a consistent flow of transactions.


Another theme that has equity investors living in hope is the Great Rotation, the notion that investors will dump their bonds and buy stocks.  Peter says this correlation has broken down, largely thanks to the Fed’s relentless buying of $85 billion worth of bonds and mortgages every month.


Europe and the ECB

Italy and Spain remain key risks in Europe.  While they are no longer cited as major concerns by most commentators, Peter says the risks have definitely not gone away, noting that yields in both countries’ sovereign debt rose in the past week.  Italy’s election has not been resolved – the front runners are Beppe Grillo, a former clown who may be prevented from assuming office because of a 1980 manslaughter conviction; and former Prime Minister Silvio Berlusconi, recently sentenced to one year in jail over a wiretap scandal.


Italy’s political disarray is ominous, Peter says, because their economy is big enough to go it alone.  Italy’s continued refusal to cooperate in the ECB’s credit program puts significant pressure on the rest of the ECB system.


Spain, while not so colorful, continues to have its share of economic woes, similarly compounded by an ongoing corruption investigation of its own Premier Rajoy.


France, largely viewed as part of the core of the “good Europe,” may be showing signs of a new brewing crisis as analysts dig deeper.


To manage all this, the ECB instituted the Outright Monetary Transaction program (OMT), where the ECB will buy bonds of countries that enter into a program under conditions established and negotiated by the IMF.  Says Peter, the ECB is not the Fed – it can make recommendations, but without a European central fiscal authority, the OMT relies on the voluntary cooperation of member states. 


It also relies on the continued willingness of strong members – particularly Germany – to backstop weaker members’ bond issuance, a willingness that is dwindling by the hour.


Italy and Spain have rejected the IMF conditions, possibly because they are holding out for a better deal, and possibly because they believe the pain of going it alone would not be worse than the pain of submitting to the OMT requirements.  If either country gets in fiscal trouble, there is no mechanism to stop the bleeding.  And with no government in place, Italy doesn’t have anyone to negotiate with the IMF, much less the ability to reach a consensus to reach out to the OMT.  Peter says the risks posed by Italy are not priced into the European credit markets, creating the possibility of a severe bump in an already rocky road.




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Another Sign of Housing Strength

Takeaway: As housing prices recover across much of the US, the Chicago market is also poised for significant gains. Here’s a stock that could benefit.

TCF Financial (NYSE: TCB) is one of our Financials Sector team’s favorite stocks on the long side. That’s because TCB, a bank holding company based in Chicago, stands to be a beneficiary of the overall recovery in the nation’s housing market. Now, TCB’s home market, Chicago, is really showing signs of life, too.


Take a look at the chart below. We're showing inventory (x-axis) and volume (y-axis) changes on a year-on-year basis by market as of either January or February, depending on the market. The Financials Sector team’s work has shown that prices lag both demand (sales volume) and supply (inventory) in housing by 11 to 18 months. 


Currently, Chicago is one of, if not the strongest looking market on a prospective basis. The change in inventory over the past year is -41.6%, while the change in demand is +32.3%. Putting those two factors together creates a very powerful tailwind for the coming year. Given how much exposure TCB has to this market, we think they will be a primary beneficiary of Chicago's coming property recovery. 


Another Sign of Housing Strength - tcb


Staples and Housing - Strange Bedfellows?

Investors generally don't think of staples when they look for housing plays, but we have been highlighting a couple - here's a quick review.


One of our favorite names coming out of this year's CAGNY conference was Newell ("CAGNY Day 3 – Some Good Stories (IFF and AVP), but We Like NWL" - 2/21).  The stock closed at $23.23 that day, and is +10% in less than a month.  We also took the opportunity earlier this week to highlight the name on Hedgeye's flash call related to our macro theme of "Housing's Hammer".


Certainly NWL has benefitted from a rotation into smaller cap, lower yield names within the market, but we still see upside to EPS (primarily in the second half of fiscal '13) and the continued opportunity for rerating under our "bad companies getting better" thesis.  About 1/3 of NWL's product portfolio is levered to housing - the professional tools business and segments that sell fixtures, blinds and drapes, specifically.  The company's free cash flow (FCF) profile should, over time, provide for a robust return of cash to shareholders through dividends and share repurchases.  We continue to see upside toward $30 per share.


Some other names in our world that we have spoken about less but have some leverage to the housing theme are Spectrum Brands (SPB).  SPB recently acquired a housing related business from Black & Decker - residential locksets and faucets, among the products.  This is an interesting name where we think doing the work is worth the time.


Scott's Miracle-Gro (SMG) is a little more of a reach, but gardens and lawns are primarily found around houses, so....seriously, increases in home values are likely to result in some catch up in maintenance work around the home.  Further, 2012 was a tough year for SMG due to drought conditions across much of the U.S., so pray for rain.


After that, it's pretty slim pickings - Jarden (JAH) has some leverage with its home appliance business and the stock is still cheap on P/E and FCF, but we wouldn't suggest that it is our favorite management team in the space.


Bottom line, we think investors should stick with NWL and do the work on SPB (we are) if you believe that Hedgeye is going to be right on housing.


Have a good weekend,





Robert  Campagnino

Managing Director





Matt Hedrick

Senior Analyst





Takeaway: Getting everything out on the table was a good move but too much uncertainty remains.

In an effort to evaluate performance and as a follow up to our YouTube, we compare how the quarter measured up to previous management commentary and guidance




  • WORSE:  As we saw in our pricing survey, Europe remains weak.  But lower onboard spend guidance is the new worry. 

CCL 1Q 2013 REPORT CARD - ccl234 



  • MIXED:  While NA bookings are now running higher, EAA bookings (ex Costa) are well behind for the rest of FY 2013.
    • "During the last 13 weeks, fleet-wide bookings and pricing excluding Costa for the first three quarters of 2013, are at the same levels against the very strong booking volumes we experienced last year. Not surprisingly, Costa's pricing is still running behind last year's pricing, but we expect that to change once we lap January of 2012."
    • "For our North American brands, during the 13-week period, bookings are running slightly behind with slightly higher pricing. For EAA brands, the bookings excluding Costa are running at higher levels than last year at lower pricing. We are encouraged by the recent North American booking pattern, especially given consumer distraction from the elections and post-election consumer nervousness about the pending fiscal cliff, and the recent pattern excludes some negative impact on bookings from the Northeast resulting from the Hurricane Sandy. So we are hopeful that once the fiscal cliff issue is resolved and we get into January, and the wave season begins, consumers will start to turn their attention getting on with their lives and booking their cruise vacations." 


  • SAME:  Costa is doing well in Asia and is holding strong in Europe.
    • "In 2013, operating plan forecasts a nice increase in Costa Asia's profitability."
    • "Recovery of Costa is not a one-year issue, it's going to be multiple years; and we're forecasting a recovery of about half the yield deterioration, that's one item. Two is it's important to understand that we don't cycle through this until the second quarter because the first quarter was done, and the timing of first quarter in this instant versus competitors is very important because it did happen in the middle of our first quarter when the first quarter was done."


  • SAME:  Caribbean pricing continues to be robust
  • PREVIOUSLY: "Caribbean looks strong now."


  • WORSE:  Higher dry dock/repair costs mostly attributed to the recent ship problems drove NCC ex fuel costs guidance for 2013
    • "There are a few unique items in 2013 that will be difficult to totally overcome which will push our unit costs higher. To begin with, we are expecting that Costa will fill their ships in 2013, which will lead to higher food and other unit costs associated with this higher occupancy. Also, as I have previously indicated, our insurance costs will be higher in 2013. Furthermore, we are anticipating a charge from a closed pension plan for certain British officers. Finally, we are investing in new market development initiatives in Japan, China and Australia including deployment decisions not yet announced. These unique factors alone in 2013 will drive up unit costs 2%."
    •  "And if you take into account the prior year's ship incident cost, we would've been flat year-over-year."


  • WORSE:  Southern Europe demand was weaker than previously thought.  
  • PREVIOUSLY: "In Europe where we have a strong market presence, we anticipate continuing struggling economies during 2013, much as we experienced during 2012."


  • MIXED:  UK/Germany bookings did improve, though at lower prices to fill occupancy.
  • PREVIOUSLY:  "We're starting to have – to see some effect of a weaker economy both in the UK and Germany, which we really didn't see a whole lot in 2012. So if there's anything different, I'd say we're a little bit more concerned. Although those brands are performing well, we are a little bit concerned going forward as the booking curve has tightened in those countries." 


  • SAME:  A 17% increase in AIDA capacity drove EAA capacity up 5.1% in 1Q. 
    • "The other thing that I haven't seen a lot of focus on is some of our competitors have talked about reducing capacity in Europe. But in reality, our two largest competitors together have increased the Northern Europe capacity by over 20% next year. So, the Northern Europe itineraries have tended to be the highest yielding itineraries in the European market, and that capacity increase will be interesting to see how that all plays out."
    • "All of our capacity increase in Europe next year is in Germany." 


  • WORSE:  Lower onboard spending than anticipated contributed 6 cents to the lowered EPS guidance
  • PREVIOUSLY:  "Our onboard trend overall around the globe for 2013 is very similar to 2012. 2012 we were up like a little over 2% and our guidance for 2013 is in the similar range with increases in all the major categories. Our operating companies have done a great job with some new initiatives and so we're expecting those to be driven higher as well."

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