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Knapp released his casual dining same-restaurant sales estimates for March comparable sales and traffic growth.  The Knapp data do not jive with Black Box Intelligence’s numbers, likely due to the many discrepancies between the indices, but suggest a sequential improvement in March from February as all five weeks that impacted last month’s data had positive comparable sales growth. That said, some noise in the data, as Easter fell on March 31st 2013 versus April 2nd 2012 and spring breaks shifted year-over-year, makes it difficult to discern exact magnitudes of the sequential moves in comparable sales and traffic growth.


Black Box Intelligence reported that March 2013 same-restaurant sales grew +0.5% while comparable traffic trends declined -2%.  This results differed significantly from the Knapp results, detailed below.



Knapp Sequential Moves


March estimated Knapp Track same-restaurant sales growth came in at +2.2%. If the accounting period number is unchanged from the estimate, that will imply a sequential change in the two-year average trend of +200 bps. This would be the greatest acceleration in two-year average trends since January 2010 but follows the -240 bps deceleration seen in February, which was partly caused by the impact of weather.


March estimated Knapp Track same-restaurant traffic growth came in at +0.7%.  If the accounting period number is unchanged from the estimate, that will imply a sequential change in the two-year average trend of +180 bps.  This would be the greatest acceleration in two-year average traffic trends since January 2010 but follows a weak February deceleration of -250 bps.



Casual Dining Stocks Continue to Outperform...In Fewer Numbers


Casual dining stocks continued higher in March.  We have found it interesting that the number of casual dining stocks outperforming the S&P 500 has dropped off a cliff in the last week.  While this could be a normal correction after a period of strong performance, the general trend in casual dining same-restaurant sales growth has been negative and would suggest that casual dining stocks – on average – could see a longer period of underperformance if the general malaise in casual dining sales trends continues.


CASUAL DINING COOLING? - casual dining stocks spx performance


CASUAL DINING COOLING? - casual dining index vs knapp



Howard Penney

Managing Director


Rory Green

Senior Analyst




Takeaway: Top line pressure is likely to be center stage this earnings season, coming from multiple fronts. How much pressure can the industry offset?

This note was originally published April 11, 2013 at 11:15 in Financials


Overall, we expect this earnings season will be lackluster for the banking sector. Outside of ongoing credit quality improvements and a recovery in housing, there will be little good news for management to discuss. Top line pressures will become more notable, while credit tailwinds, vis-a-vis provision expense/reserve release, will be simultaneously fading. Offsets to these two pressure points will be expense reduction initiatives and falling sharecount from active repurchase programs. Another offset may be relatively upbeat guidance with respect to a reduction in future costs, both legal and operational, relating to legacy mortgage troubles. We think 1Q results are likely to set expectations fairly low for the duration of 2013.

  • Loan Growth - Status Quo - Overall, loans grew by 0.8% QoQ in 1Q13, which was flat with 0.8% QoQ growth in 4Q12. 
  • Margin Headwinds Ongoing - 1Q13  saw some relief in the average yield spread QoQ, but banks have largely run out of room on the funding side and are now facing unmitigated earning asset yield pressure. CBSH is a good example today with NIMs down 28 bps QoQ vs. expectations for down 11 bps. 
  • Credit - Fading Tailwinds - Credit is still improving, but provision expenses have largely flattened out. The odd silver lining may be that with little to no loan growth there's no need to grow provision expense.


1Q13 Revenue: Expect To Be Disappointed

* Loan Growth - Total loan growth appears to have grown at 0.8% QoQ, which was roughly flat with growth in 4Q12, based on seasonally-adjusted H8 data. That said, The overall trend in loan growth remains lackluster. Loan growth through 1Q12 had been sequentially accelerating up to a peak of +1.6% QoQ, only to then decelerate in 2Q12 and 3Q12 and remain roughly flat since then. Overall, we don't see this as a notable source of strength for the sector.


* NIM - Net interest margin pressure will persist this quarter in spite of the sequentially improved yield spread. The sector's ability to further reduce funding costs continues to decelerate. Meanwhile, pressure on interest-earning asset yields persists. If Commerce Banc is any indication this morning, the sector is not conservative enough on NIMs. CBSH saw NIMs decline 28 bps QoQ vs expectations for 11 bps. Given the relatively modest expectations for NIM compression this quarter, roughly 5 bps Q/Q, we would expect to see more banks than not disappoint on this front. On the other hand, CBSH shares are down less than 2% this morning, 


* Non-Interest Income - Mortgage banking is the primary driver of Q/Q change here, and the news isn't great. Application volume in 1Q13 was down 6% QoQ, but primary/secondary spreads have compressed by ~20 bps Q/Q from 1.16% to 0.96%. Taken together, this implies sequential declines of roughly 21% in production revenue. There will be some offset to this from the servicing side as rates ended the quarter a bit higher than where they started. A small silver lining is that as of the latest data, spreads have modestly re-widened to 106 bps.













Joshua Steiner, CFA




Morning Reads From Our Sector Heads

Rob Campagnino (Consumer Staples):


Herbalife Ties to ‘Work From Home’ Promoters May Draw New Scrutiny (via NYT Dealbook)


Todd Jordan (GLL):


Singapore economy contracts in first quarter (via Channel NewsAsia)


Howard Penney (Restaurants):


McDonald's Tackles Repair of 'Broken' Service (via WSJ)


Brian McGough (Retail):


Sears Holdings Establishes New Business Unit Focused on Entertainment-Driven Fashion Brands (via Sourcing Journal Online)


Throwing Copper

Client Talking Points

A Broken System

The Eurozone is a broken, interconnected system of countries with high unemployment, pension problems and structural banking issues. The European Central Bank, the International Monetary Fund, and Germany have all been working in tandem as Troika in an effort to slap band aids on to wounds whenever and wherever necessary. Slowly but surely, the Troika is learning from its past mistakes made in Greece and Cyprus and will be able to better assess issues in the future. Currently, things look "fine" for lack of a better term. Nothing is great, but bond auctions around various countries are going well despite high coupons and the liquidity is still there. 

Go Bulldogs!

We posted a write up to a fantastic Bloomberg article (link) yesterday that featured CEO Keith McCullough discussing Yale Hockey tradition and history. Later that evening, Yale would go on to beat UMass Lowell in OT to advance to the championship round of the Frozen Four and will play Quinnipiac this weekend. This is a once in a lifetime event that we're extremely proud to be a part of. Both Yale and hockey run deep in the corporate culture at Hedgeye and we look forward to the Bulldogs securing victory this Saturday.

Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

Decent earnings visibility, stabilized market share, and aggressive share repurchases should keep a floor on the stock.  Near-term earnings, potentially big orders from Oregon and South Dakota, and news of proliferating gaming domestically could provide near term catalysts for a stock that trades at only 11x EPS.  We believe that multiple is unsustainably low – and management likely agrees given the buyback – for a company with the balance sheet and strong cash flow as IGT.  Given private equity’s interest in WMS (they lost out to SGMS) – a company similar to IGT that unlike IGT generates little free cash – we wouldn’t rule out a privatizing transaction to realize the inherent value in this company.


With FedEx Express margins at a 30+ year low and 4-7 percentage points behind competitors, the opportunity for effective cost reductions appears significant. FedEx Ground is using its structural advantages to take market share from UPS. FDX competes in a highly consolidated industry with rational pricing. Both the Ground and Express divisions could be separately worth more than FDX’s current market value, in our view.


HOLX remains one of our favorite longer-term fundamental growth companies given growing penetration of its 3D Tomo platform and high leverage to the 2014 Insurance Expansion from the Affordable Care Act.

Three for the Road


"@CBOE Apr #VIX up 0.30 to 13.45 on stock market weakness in the premarket.  Financials under pressure - VIX closed @ 12.24 yesterday." -@RussellRhoads


"What a blessing it would be if we could open and shut our ears as easily as we open and shut our eyes!" -Georg Christoph Lichtenberg 


Retail sales fell a seasonally adjusted 0.4% last month to mark the biggest decline since last June, the biggest drop in nine months.

CHART OF THE DAY: Don’t Freak Out About the Eurozone


CHART OF THE DAY: Don’t Freak Out About the Eurozone  - CC.  EUR USD

Don’t Freak Out About the Eurozone

“Great events make me quiet and calm; it is only trifles that irritate my nerves.”

-Queen Victoria


It is seemingly hard to not freak out just a little about the Eurozone’s economic, financial, and political woes, often labeled The Eurozone Crisis, especially if you have money at work in the capital markets.  In the interconnected global world we live in with a 24/7 news cycle, crises boost air, print, and electronic media revenues, and it’s this news flow that also influences investor behaviors. Interestingly enough, the crises throughout Europe have lasted for months and years, far from the limited, “turning point” definition of the word, with the loudest headlines of fear coming from the region’s smallest economies.


While this state of developments come as no surprise to even a casual observer, below we’ll reinforce numerous points that suggest there’s no need to freak out about the future bailout needs from such smaller countries as Cyprus, Portugal, and Slovenia (as they’ll be easily covered), and while larger countries like Italy, Spain, and France (in particular) show material systemic risks, we ultimately see the ECB providing a full backstop to keep the Union of uneven economies together at all costs.



A Broken System with Political Resolve

To refresh, we believe the Eurozone is in no better of a structural state today than it was in May 2010 when Greece received its first bailout, with little exception. Yes, the European Commission has crafted a banking system 101, but it’s far from encompassing or focused enough to materially erode the sovereign-banking feedback loop on its own.


What continues to lie at the heart of the mismatch is that these uneven economies are joined by one monetary policy, therein preventing any one nation from independently debasing its currency to spur competition, or help inflate its way out of debt, which is further compounded by the ECB 2% inflation target mandate.  And even hypothetically if (say way down the line) one monetary policy equitably governed the Eurozone states, you’d still need a fiscal union (say from Brussels or Frankfurt) to oversee the budgets of the member countries to ensure (witnessed magnificently through this crisis) that countries don’t overstep their fiscal boundaries.


But here too you run into problems:

  • Countries don’t want to give up their fiscal sovereignty to a higher order
  • There will remain structural imbalances trying to mandate deficit quotas, especially for example with countries that historically run trade deficits and have limited economic breadth to diversify

Yet, despite the structural juxtapositions described above, and while it’s not empirical, one cannot rule out the resolve of the ECB and Eurocrats to keep the Union together. It’s a belief grounded in their desire for job security, and supported by a belief in trade benefits, freedom of borders, as a force against superpowers like the USA and China, and a post WWII desire for a peaceful collective.



It’s Not All So Bad And the Germans Are All-In

At every weak fiscal point in the Eurozone, Troika (the European Commission, ECB, and IMF) has answered the call to throw good money at bad and sweep the fears under the rug. Here we expect more of the same since it’s our intention that Eurocrats greatest fear remains a tumble weed effect in which the exit of one country can dissolve the entire union.


From a market perspective, despite a protracted slow growth outlook, it has not paid to sell Eurozone capital markets since Draghi issued his famous OMT put to bail out any nation that requests it in SEPT 2012. We expect the Eurozone will remain grounded on Draghi’s word and below are a number of factors that support the view that now is also no time to freak out about this continuing crisis:

  • German Checkbooks – it’s clear the Eurozone playing field is tilted in Germany’s favor via a weaker EUR and easy access to trading partners.  Writing bailout checks is a much more profitable exercise than returning to the D-mark.
  • ECB Leverage –the Bank has taken down its balance sheet -14% since SEPT 2012 due in part to the repayment of the LTROs, so it has room to lever it up.
  • ECB Rate Cut – Draghi has been tight lipped but continues to signal a weak economic outlook.  ECB executive board member Joerg Asmussen said this week that he sees more downside risks to a recovery in the Eurozone in the second half of the year, which may be an early indication of a 2H rate cut.
  • Still Liquid Credit Markets –Despite political concerns across the region, sovereign yields on the 10YR for Germany, France, and the Netherlands are low at 1.30%, 1.85%, and 1.73%, respectively.  As a promising sign, this Wednesday Italy sold €8B of 1YR bills at a yield of 0.92%, down significantly from the 1.28% it paid at the last auction in March. It also sold €3B of three-month bills at 0.24%.
  • Cyprus was a One-off Mistake – the deposit levy scheme in Cyprus was a misstep by the Eurocrats, which even Draghi admitted. It will be caged as a one-off and a similar scenario will not be carried out again.
  • Italy’s Saving Grace, its Deficit – despite a high debt, which this week was revised upward to 130.4% of GDP in 2013 vs 126.1%, and that we’re no closer to a coalition government today than we were when elections ended on February 25 (and we suspect new elections will have to be called), the country’s deficit should remain below -3% this year which may be one important saving grace in shielding against expedient rises in sovereign yields as politicians wrestle with budget promises.
  • Slovenia is a Peanut – certainly the risk signals are “on” with 5YR Slovenia CDS making a new YTD high of 369bps (vs a high of 511bps last summer) and 8YR sovereign yields at 6.36% (off a high of 7%), but the country’s economy at €35B (or 0.3% of the Eurozone) is only slightly larger than Cyprus, and nowhere near as levered to banking. If needed, a potential bailout package will likely be less than the figure Cyprus may get.  (Interestingly enough, Austria is the country with the most leverage to Slovenia according to Bank for International Settlements data.)


Risks Will Always Remain

IMF Head Lagarde said this week that a three speed global economy has emerged with the Eurozone being the weakest link with lots of distance to travel.  It’s clear that the Eurozone unemployment rate is ugly at an all-time high of 12% (with youth unemployment reaching 50% in many peripherals), that labor reforms on the country level are a huge uphill battle, that country resources and cultures will influence economic competitiveness, and that austerity’s bite is a significant tax on economies, but a necessary one in light of outsized fiscal positions.


These are not light issues, and the political scandals – from the French budget minister lying about a secret untaxed foreign bank account to Spanish PM Rajoy being accused of taking construction kick-backs, or even the head-scratcher that the most corrupt of them all in former Italian PM Berlusconi  has a chance of forming a coalition government – compound these economic ails.  That said, this “crisis” is being managed by the European Commission, which wants to extend debt and deficit reduction targets for most countries and lengthen bailout loan maturities (likely for Portugal and Ireland) so as to lessen the economic and political stresses.


Taken together we think there’s plenty of evidence to support a continued Eurozone capital markets rally and tactically trade the short side on time and price around catalysts; we believe that no country will be leaving the union due to the fear of contagion; and that there is plenty of powder tools to use should they be needed: the OMT, a rate cut, and possibly even the issuance of Eurobonds (which George Soros continues to be a big proponent of). We’d also say that while we don’t think the EUR is going away, or going to parity, we do think it carries some additional downside risk against our call for a strengthening US Dollar.


Stay calm and look to the hills for support.


Our immediate-term Risk Ranges for Gold, Oil (Brent), Copper, US Dollar, USD/YEN, USD/EUR, UST10yr Yield, VIX and the SP500 are now $1, $101.72-106.71, $3.29-3.46, $82.22-83.28, 97.45-100.98, $1.28-1.31, 1.71-1.87%, 11.78-14.51, and 1, respectively.


Congratulations to the Yale Men’s Ice Hockey team on their big win last night and advancing to the NCAA Finals. Go Bulldogs!!



Matthew Hedrick

Senior Analyst


Don’t Freak Out About the Eurozone  - CC.  EUR USD


Don’t Freak Out About the Eurozone  - CC. VP

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