The Economic Data calendar for the week of the 15th of April through the 19th 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.
CAG, DRI, FDX, HOLX, MPEL
Last week (“Bad News Bulls”), Hedgeye CEO Keith McCullough said weak employment figures could be a head fake and the dollar could continue to strengthen, while commodities continued to drop. Sure enough, this week’s jobs data came in “surprisingly” strong as the Bureau of Labor Statistics can’t seem to get those pesky seasonally-adjusted numbers to behave in those funny years when Easter comes in March, instead of April. Financials sector head Josh Steiner cautions that seasonally adjusted labor market data is likely to soften on the margin through the summer just as it has over the prior three years, but sees this as a buying opportunity since the non-seasonally adjusted unemployment data continues to strengthen.
The markets are making fools of Washington policy makers as the strengthening dollar continues to make a series of higher lows and higher highs, versus its 40-year low in 2011 – and commodity prices continue to make a series of lower highs and lower lows, versus their 40-year highs which likewise occurred in 2011.
You can draw a neatly diverging chart shaped like the “less than” sign [<] with the dollar running to the upside, and commodity prices falling away. That formation equals Real Purchasing Power for the cash in your pocket. The US Energy Information Administration says that, on a nationwide average, gasoline prices at the pump are 33 cents lower today than a year ago. It has been estimated that a one-cent change in gasoline prices translates into one billion dollars more or less flowing through the economy. Is there effectively a $33 billion tax cut available for spending today? Stock prices say “You betcha!”
What does this mean for your investment portfolio? We recall the old Wall Street adage “Buy on the expectation, sell on the news.” The strong growth in the economy was not widely anticipated. Now that it’s here, the coming increases in consumer spending could be the News You Sell On. We recommend short-term traders take profits at these levels and re-enter on pullbacks, while longer-term holders should be willing to live with a bit less euphoria while waiting for strengthening employment and consumer spending to work their way through the economy.
New York’s colorful Mayor Fiorello LaGuardia was quoted as saying “When I make a mistake, it’s a doozy!” Retail sector head Brian McGough found himself in the “Oops!” box this week when he pulled the plug on his bullish call on JCP (JC Penney), seeing the stock drop significantly as the board of JCP fired CEO Ron Johnson. Should McGough have stayed on the short side?
Shoulda, woulda, coulda. Being wrong, and taking the consequences, is what Capitalism is all about. At Hedgeye, we look at our own losing ideas as our best learning opportunities.
McGough was the lone bear on the stock way up at $40 and rode it all the way down to $19 before doing a 180 last month, in the face of mounting bearishness across the investing community. McGough believed the key was a stabilizing top line in the second half of 2013 with the support of enough avenues to mitigate the likelihood of a liquidity crunch – all in the context of extreme bearishness in the investment community.
Today, with Johnson suddenly out, McGough is staying away from the stock altogether. There could be more downside to come, cautions McGough, even if management does absolutely everything right. Which he says is not likely to happen.
McGough issued a call to fire the JCP board, saying getting rid of Johnson now is one doozy of a mistake – “The Fastest Path To Chapter 11” McGough wrote recently. Speaking with CNBC’s Maria Bartiromo, McGough said “Either fire him six months ago,” when it became clear the pricing strategy wasn’t working – or six months from now, if the new retail strategy flops. But the board apparently wasn’t willing to let Back-to-School drag into Christmas with Johnson at the helm, so they replaced him with former CEO Mike Ullman – the man Johnson replaced in 2011.
Here are a few key points:
Some say the terms “Bull” and “Bear” refer to the bull who charges straight ahead, versus the bear who digs a hole and hibernates. Others say it comes from the vigorous upward thrusting of the bull’s horns and the hard downward swipe of a bear’s paw. Either way, Wall Street pros – and not a few amateurs – have traditionally surrounded themselves with trinkets, bookends, cufflinks, and giant bronze statues in the form of these iconic beasts.
The term “Bull Market” is not reserved for stocks. It can refer to any sector, and often there will be a bull market in one asset class that is related to a bear market in another. Think of the common historical divergence as stocks go up, while interest rates, oil and gold go down.
Market watchers follow trends over the short, intermediate, and long term. At Hedgeye, we track our CEO Keith McCullough’s proprietary TRADE, TREND, TAIL metrics (see definitions of TRADE, TREND and TAIL at the end of the newsletter). Standard analysis looks at the Secular Trend (anywhere from five to 25 years), and the Primary Trend (one year or more). The Secular Trend is broad momentum across an entire asset class, and is at any given moment composed of interwoven Primary Trends, much like the crisscrossing threads of an intricate tapestry.
In a Secular Bull Market, Primary Trends feed off one another in a virtuous cycle: increases in consumer demand drive Retail stocks, demand for inventory drives Manufacturing, stimulating Transportation to bring products to the market. Increased consumer demand drives construction (for manufacturing plants) and companies that produce raw materials for manufacturing. Employment drives demand for housing, for financial services, and ultimately for leisure, travel, and the host of companies – from maternity care to pet grooming – that serve growing families. Primary Trends springboard off one another, making up the fabric of the Secular Trend.
Most observers agree the US experienced a Secular Bull Market in stocks from 1983 through 2000 or beyond, and disruptions such as the Crash of 1987 – or even the prolonged 2000-2002 collapse of the DotCom Bubble – are seen as speed bumps that may have rattled the passengers good and proper, but didn’t stop us getting to our destination.
So what exactly is the destination in a bull market?
It increasingly seems the ultimate destination of a Bull Market cycle is a crash, precipitating a prolonged Bear Market. For smart investors, the goal should not be closing one’s eyes and waiting for impact. If the Boom-and-Bust cycle is really here to stay, and crashes are inevitable, that’s all the more reason your goal should be taking profits and socking it away in savings, or in counter-cyclical assets. As Keith constantly reminds us, market tops are processes, not points.
Fear of “leaving profits the table” causes many investors to hold on past the Bull Market top. As they see their profits slip, they panic and hold tighter in desperation to get back those last few points. As their stocks decline further in value, it becomes a frantic exercise of Not Taking A Loss. Finally, when the investor has “round tripped” their portfolio – holding on all the way up, and all the way down – the objective is to get even.
Legendary investor Bernard Baruch (1), stock market wizard, philanthropist, statesman and advisor to presidents, famously said “I made my money by selling too soon.” Sound advice from a successful man – who also said “the main purpose of the stock market is to make fools of as many men as possible.”
The price of gold has been flirting with $1500/oz today and can go considerably lower than that after starting the year a touch below $1700/oz. Over the last two months, the US dollar has appreciated in value considerably which has driven down the price of commodities (gold included). As you can see in the chart below, it's been a rough ride for those who were buying gold above $1600/oz.
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This note was originally published April 12, 2013 at 13:45 in Gaming
In the chart below, we've posted the USD/JPY currency cross. Since the Bank of Japan's stimulus plan was announced last week, the value of the Yen has fallen considerably as traders and investors flee Japan as the currency is burned. It's reminiscent of Federal Reserve Chairman Ben Bernanke destroying the value of the US dollar after announcing monetary stimulus plans throughout the years. The question remains: how low can the Yen go?
Takeaway: Risks are passing, and consensus estimates look low to us. This is when being cheap actually starts to matter for a high return business.
Conclusion: There's been no shortage of reasons for us to be negative on BBBY, and it's underperformed accordingly. But the risks are passing, and there are emerging factors that cause us to model EPS/EBITDA above consensus. This is when being cheap actually starts to matter. If our model is right, this is a $90 stock in 12-18 months.
We’ve been bearish on BBBY for much of the past year, as we couldn’t get over a) a slowing core business, partially due to increased pressure from on-line competitors, b) acquiring businesses (Cost Plus, Linen Holdings) to mask weak organic growth, c) integration risk associated with those businesses, d) BBBY’s office relocation in 2H, and the associated headcount/execution risk, and lastly e) stepped-up levels of capital investment to build-out new facilities, which we thought would erode returns.
Ultimately, BBBY was worth staying away from, as it disappointed in five of its past six quarters. But things are changing on the margin. Specifically…
a) While still anemic, the rate of growth in the core business has stabilized and is picking up. Comps in the latest quarter were only 2.5%, but they accelerated sequentially to 4.7% (from 2.9%) on a 2-year run rate.
b) Housing prices up 11% year-to-date. That’s not exactly a newsflash to anyone keeping up with the market, but it definitely flies in the face of the ‘bearish consumer spending’ call that is fueled by the payroll tax hike and sequestration. The degree to which this will help discretionary spending is debatable, but historically, every 1% change in house prices resulted in 6-8bp increased consumer spending – typically on a one-year lag. The point is that housing alone could offset the payroll tax hike (42-64bp hit to GDP). Tack on commodity deflation – which we think is in the cards – and it could all add up to be very bullish for the consumer, and for BBBY.
c) The two acquisitions and the headquarters transition have passed through the riskiest periods, and the company emerged reasonably unscathed. It is now at a point where it can grow square footage at CPWM, and optimize SG&A and working capital.
d) BBBY is past the halfway mark in a mini capex bubble to fuel non-store-related corporate projects. We should see a significant slowdown in the rate of capex in 2014.
e) Inventories look solid, as the company had the best SIGMA move we’ve seen out of any company year-to-date. These moves are usually coincidental with some iteration of an upward stock price move. But they are just as often a setup for a greater move in quarters to come.
The stock obviously realizes this to an extent, as it is up 20% year-to-date versus the S&P Retail Index at +16%. Despite the move, it’s underperformed the retail index by a whopping 29% over the past 12 months.
The point here is that BBBY remains an extremely high return company with a 44% RNOA, and it is trading at 13x earnings and 7x EBITDA. ‘Cheap without a catalyst’ usually means nothing to us, but we think that while the Street ended up with estimates at the higher end of guidance, they’ll end up being on the low end of what BBBY will ultimately print. If our model is right, then we’re looking at $2.2bn in EBITDA in 2014 and $6.12 in EPS. Every EBITDA multiple w BBBY equals $10 in the stock price. A 20% year-to-date might sound rich. But 9x $2.2bn in EBITDA is a $90 stock. That’s another 36% upside from here.
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