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INITIAL CLAIMS: THE LADY OR THE TIGER

Takeaway: Don't be fooled. The labor market is steamrolling ahead even though people think it's starting to weaken. Meanwhile, the 2-10 hits 205 bps.

Fool Me Thrice

We've always been fond of our friend Peter Atwater's use of "The Lady or the Tiger" metaphor to contextualize different market dynamics, and the current setup in the labor market seems to us sufficiently apropos. In this case, the market thinks it's getting the Tiger, but in reality it's getting the Lady. In short, the labor market is now a total mirage. The non-seasonally adjusted data is improving at the fastest rate we've seen year-to-date. NSA 4-wk rolling initial jobless claims are today 9.2% lower than at the same point last year. To reiterate, that's the fastest rate of improvement we've seen this year. We show this in the second chart below.

 

Meanwhile, the SA (seasonally-adjusted) data is showing total stagnation. The slope of the curve (the trend line) for SA claims since the start of March is now flat, as the first chart below shows. The interesting dynamic is that the labor market appears to be stagnating at the same time that the Fed is ratcheting up expectations for withdrawing support. This is almost identical to the setup we've seen in the prior three years. #PatternRecognition. 

 

The takeaway is that over the short to intermediate term we would expect weakness in the sector to continue. As a reminder, our simple model for thinking about the sector revolves around three core tenets: labor, housing and the Fed. All three fronts are now under seige. 1. Tapering expectations are shifting rapidly. 2. The SA labor market data (the headfake) is stagnating. 3. Housing data remains very strong, but the swift backup in rates is raising fear about the sustainability of the recovery. At a minimum, it's pointing to a deceleration in the rate of recovery.

 

Taking a longer-term view, we see the setup as very favorable. The labor market is indeed improving rapidly. The Fed will likely be sucked back into the market by a) the rise in rates, and b) the perceived deceleration in the labor market, and c) (most importantly) by the selloff in equities. Housing remains a Giffen, so rising prices will continue to self-reinforce. 

 

We published a note in mid-April entitled "Beware the Ides of April", which was a sector-based risk management snapshot of how every name in the sector responded to the last go-around of perceived Fed exit/labor market deterioration. We'll be publishing a redux of that note this morning. 

 

The Data

Prior to revision, initial jobless claims rose 20k to 354k from 334k WoW, as the prior week's number was revised up by 6k to 340k.

 

The headline (unrevised) number shows claims were higher by 14k WoW. Meanwhile, the 4-week rolling average of seasonally-adjusted claims rose 2.5k WoW to 349.25k.

 

The 4-week rolling average of NSA claims, which we consider a more accurate representation of the underlying labor market trend, was -9.2% lower YoY, which is a sequential deterioration versus the previous week's YoY change of -9.2%

 

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<chart14>

 

Yield Spreads

The 2-10 spread rose 14.2 basis points WoW to 205 bps. 2Q13TD, the 2-10 spread is averaging 165 bps, which is lower by -2 bps relative to 1Q13.

 

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Joshua Steiner, CFA

 

Jonathan Casteleyn, CFA, CMT

 


Morning Reads on Our Radar Screen

Takeaway: A quick look at some stories on our radar screen.

Howard Penney – Restaurants

McDonald’s Premium Burgers an Abenomics Indicator? (via WSJ)

The 9 Highest Calorie Drinks You Can Get At Starbucks (via Business Insider)

 

Morning Reads on Our Radar Screen - reading

 

Keith McCullough – CEO

Gold Tumbles to 2 1/2 Year-Low After Fed (via Bloomberg)

Government U-turn fails to quell Brazil protests (via BBC)

The starting point in the immigration debate (via Adam Smith Institute)

 

Josh Steiner – Financials

Bernanke’s Forward Guidance Is Transparent as Mud (via Bloomberg)

U.S. banks failed to follow mortgage standards: monitor (via Reuters)

 

Kevin Kaiser – Energy

SandRidge ousts CEO Ward, Bennett takes the helm (via Reuters)

 

Matt Hedrick – Macro

Italy's Five Stars lose their twinkle as ejection of MP sparks ugly row (via The Guardian)

 

Daryl Jones – Macro

Blackhawks defeat Bruins in OT to even Final (via NHL.com)


SWISS CHEESING THE PNK BULL CASE

$5 in free cash flow – ‘nuff said.  Umm, not so fast.  There’s a lot more to say.



That is the bull case in a nutshell - $5 in free cash flow per share post deal.  I’ve heard it/read it from the buy side and sell side alike.  In fact, I’d go so far as to say it is consensus.  PNK is a consensus long.  There, I said it.  And why wouldn’t it be?  With the acquisition of Ameristar (ASCA), $5 in free cash flow per share is coming in 2015 for a yield of 25%.

 

But wait, wasn’t that $5 calculated pre-divestitures?  And if you like PNK with 25% yield, then you must love Boyd Gaming (BYD) at over 25% with less leverage.  Come to think of it, there are a lot of holes in the long PNK thesis.

  • $5 is not sustainable.  PNK maintains $271 million in federal NOLs – which have value but should be valued separately (NPV of over $1 per share) – so the $5 should be tax effected to calculate recurring FCF.  This adjustment results in FCF per share of $4.05 to $4.25.  But…
  • The $5 was calculated before the FTC forced PNK to divest ASCA Lake Charles and Lumiere Place.  Assuming these assets can be sold for 7.0-7.5x EBITDA, the $5 becomes $4.30-4.50.  Tax effected, FCF per share drops to $3.25-$3.45.
  • So $3.35 is not a bad number right?  Well, let’s not forget about leverage and its impact of FCF yield.  More than 6.5x post deal leverage is not sustainable.  Free cash flow will not accrue to equity holders until PNK reduces its leverage to under 4x or 2018 at the earliest.
  • All this FCF accretion and calculations are predicated on the sustainability of this ridiculously low interest rate environment.
  • As a reality check, let’s evaluate the old gaming valuation standby metric of EV/EBITDA.  I calculate a multiple of over 8.0x 2014 EV/EBITDA and 7.5x 2015.  Remember that regional gaming companies have traded within a range of 5.0-8.0x forward 12 months EBITDA.
  • But valuations have been re-rated higher as gamers are viewed through the real estate prism.  PENN’s announced REIT conversion certainly had this impact.  However, we don’t think PNK will reach low enough leverage to pursue a REIT conversion until 2019.
  • The real estate angle notwithstanding, do we really want to put historically high multiples on a business with declining ROICs and falling ROIs on new builds?  The US is already saturated with slots and there is no end in sight in terms of potential for new states legalizing casinos. 
  • At the same time that supply is increasing, demand is waning – and it’s not the economy, stupid!  Domestic casinos face a declining slot customer base.  The data suggests that Baby Boomers are the last of the generational slot players.  I’m Generation X – the Atari generation – and I’m not going to start playing slots when I turn 60.  

SWISS CHEESING THE PNK BULL CASE - FCF


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Don't Go Chasing Waterfalls

Client Talking Points

#StrongDollar

An epic 48 hours. Witness the huge move in the US Dollar. The levels in our Hegeye model matter folks. Big time. The USD Index TREND line recaptures (= $81.21) as the Yen (vs USD) TREND line snapped ... fast (96.17). Everything else we call our "Waterfall" model of globally interconnected risk followed that along with ripping 10yr UST rates. Getting the dollar right matters.

GOLD

Ka-boom! Gold is officially crashing again (down -3.5% this morning and -22.2% YTD). Why? Gold hates US growth expectations rising and the rising bond yields that have been front-running the Bernanke Fed. This morning’s move isn’t new – it’s called capitulation. Meanwhile, oil failing at our $106.22 TREND line is good news for consumption – won’t matter for US stocks until we re-test 1605-1610 support.

#EmergingOutflows

It's official. The least obvious short call in 2013 Macro is becoming much more obvious now that every Asian and Latin American Equity Index has snapped our intermediate-term TREND line. Russia and Brazil? Now down -16% and -22% YTD, respectively. #Pain. Let us know if you want to review our #EmergingOutflows slide deck from a few months back. We called this.

Asset Allocation

CASH 51% US EQUITIES 19%
INTL EQUITIES 12% COMMODITIES 0%
FIXED INCOME 0% INTL CURRENCIES 18%

Top Long Ideas

Company Ticker Sector Duration
NSM

Financials sector head Josh Steiner is the Street’s head bull on residential mortgage originator/servicer Nationstar, projecting $9 in earnings for the company in 2014.  This is well above the company’s own guidance range, which tops out at around $7.50. NSM had a successful start to the year as it won servicing bids on substantial mortgage portfolios.  They also reported significant increases in their profit margins on those portfolios, and double-digit increases in their own originations.  Housing prices are ramping significantly higher, as Steiner predicted, as demand continues to exceed supply in both new and existing homes.  Steiner says this quality mortgage company could ride the crest of a sustained wave of sector improvement.

MPEL

Gaming, Leisure & Lodging sector head Todd Jordan says Melco International Entertainment stands to benefit from a major new European casino rollout.  An MPEL controlling entity, Melco International Development, is eyeing participation in a US$1 billion gaming project in Barcelona.  The new project, to be called “BCN World,” will start with a single resort with 1,100 hotel beds, a casino, and a theater.  Longer term, the objective is for BCN World to have six resorts.  The first property is scheduled to open for business in 2016.  

WWW

WWW is one of the best managed and most consistent companies in retail. We’re rarely fans of acquisitions, but the recent addition of Sperry, Saucony, Keds and Stride Rite (known as PLG) gives WWW a multi-year platform from which to grow. We think that the prevailing bearish view is very backward looking and leaves out a big piece of the WWW story, which is that integration of these brands into the WWW portfolio will allow the former PLG group to achieve what it could not under its former owner (most notably – international growth, and leverage a more diverse selling infrastructure in the US). Furthermore it will grow without needing to add the capital we’d otherwise expect as a stand-alone company – especially given WWW’s consolidation from four divisions into three -- which improves asset turns and financial returns.

Three for the Road

TWEET OF THE DAY

Hedgeye Risk Management reiterates its 6mth old call to have 0% of your assets in Commodities and/or Fixed Income

@KeithMcCullough

QUOTE OF THE DAY

A real decision is measured by the fact that you've taken a new action. If there's no action, you haven't truly decided.
- Tony Robbins

STAT OF THE DAY

On August 18, 1913, on an unbiased roulette wheel at Monte Carlo, evens came up 26 times in a row. The probability of this occurring is 1 in 136,823,184. 


June 20, 2013

June 20, 2013 - 20

 

BULLISH TRENDS

June 20, 2013 - 10yr

June 20, 2013 - spx

June 20, 2013 - dax

June 20, 2013 - dxy

June 20, 2013 - euro

 

BEARISH TRENDS

June 20, 2013 - nik

June 20, 2013 - VIX

June 20, 2013 - yen

June 20, 2013 - oil

June 20, 2013 - natgas

June 20, 2013 - gold

June 20, 2013 - copper


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