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May passenger volume at Singapore's Changi Airport rose 4.7% in May to 4,281,153.  





The unemployment rate for March - May 2013 was 1.8%, down by 0.1% point over the previous period (February-April).


Trade of the Day: EVEP

Takeaway: We re-shorted EV Energy Partners (EVEP) at 9:45 AM at $36.90.

Hedgeye “Energy Jedi” Kevin Kaiser is seeing darkness, his old friend in EVEP. It is rising back to immediate-term TRADE overbought, within a very bearish TREND. So we are re-Shorting EV Energy Partners and their need to raise capital again.


Trade of the Day: EVEP - EVEP



What the Fed Needs

Takeaway: The Fed does not need an economist to run it. Perhaps it needs someone able to meet operating budgets.

(Editor's note: The following commentary was originally posted on Fortune.)


Scientists observing bird flight patterns tell us the lead goose in the migratory V-pattern switches back and forth between looking ahead and looking back. It constantly checks the formation behind and adjusts its position to make sure it remains at the point of the flock. Periodically, the lead goose swerves out and another moves up to replace it, going through the same drill of lead, reposition, lead, and reposition.


What the Fed Needs - Geese


President Obama made noises last week about Bernanke's future, comments which are being read as a clear signal that Bernanke will leave the Fed when his current term expires. Hot speculation was set off when President Obama said Bernanke has been on the job "longer than he was supposed to." Will Bernanke be fired? Will he be allowed to serve out his term? Is he in the Presidential doghouse? Commentators are furiously connecting the dots as pundits smack themselves on the forehead saying, We shoulda known when Bernanke failed to show at this year's global central bank confab at Jackson Hole, Wyo. What could all this mean?


Bernanke's term as Fed Chairman runs through January 31, 2014. His term as a member of the Federal Reserve Board ends January 31, 2020. Speculation aside, there seems little point in letting him go at this juncture ("Maybe President Obama didn't look at his teleprompter when he made that remark," one commentator mused.) President Obama is not up for reelection, and with the wheels of the economy grinding, it's too late for someone else to step in and take either credit or blame.


Of course there are those who wish he'd never gotten the appointment in the first place. Hedgeye has taken exception with Bernanke's policies from the beginning -- starting well before him. Bernanke is in many respects not a leader, but rather a follower of the Alan Greenspan-Henry Paulson-Tim Geithner school of coddling the rich. We have been firmly in favor of a Volcker-like jolt, one that pushes all the pain into a short time frame, then gets it out of the way.


At the same time, we wish to state for the record that we have tremendous admiration for Bernanke's intelligence, for his dedication, and for the profound commitment he has brought to his stint in public service. Serving as the appointed Head of Bloody Everything is a damned-if-you-do/damned-if-you-don't proposition under the best of circumstances. It does not take a Princeton Ph.D. to recognize that Bernanke has not been faced with the best of circumstances.


The question remains, though, how much of that is his fault?


Bernanke's approach has been to stimulate the financial markets, and with them the major banking and financial firms. It is not clear to us that Bernanke ever believed the multiple trillions of dollars in guarantees, free profits on Treasury spreads, and actual cash handouts were ever going to turn into actual loans to America's businesses. Bernanke's read of the Great Depression -- a topic on which he is famously a world-renowned expert -- is that the government did not do nearly enough. And history may in fact judge him in a positive light. In a society with so many freedoms tugging at the strings of policy -- and with such a compromised and conflicted process driving both legislation and the regulatory process -- it can't be simple to manage the economy from the top down.


Or can it?


As Hedgeye CEO Keith McCullough has repeatedly observed, the most predictable and constant effect of government intervention is to increase volatility in the marketplace by accelerating economic cycles, rather than letting things play out in their own time. We do not know how one measures societal pain, but we have always been of the opinion that a Volcker-like short, sharp shock to the system would have been far healthier than the extended malaise we have lived through over nearly three presidencies.


We think the next president may want to consider a substantive shift in policy. The Fed does not need an economist to run it. It may not even need someone with a deep understanding of the financial markets. Increasingly, as our elected government has abdicated its responsibility for decision-making, the nuts and bolts of running the economy has been handed over to appointed experts. Perhaps the Fed needs to be run like a business. Perhaps the Fed needs someone with experience meeting operating budgets, hiring and managing employees, and tracking flows in the economy to stay on budget. We never need to stay within a budget as long as we have unlimited access to the printing press. Maybe the next Fed chair should be the owner of a major plumbing supply house or a machine-tool shop.


What the Fed Needs - benn


Bernanke's task has been made more difficult by the fact that major economies' central banks are all pushing on the same accelerator. From Japan to Europe, printing presses are running 'round the clock to create liquidity, in hopes it will stimulate the global economy. This has had the effect of making Bernanke's QE "To Infinity and Beyond" what folks in the hedge fund world call a "crowded trade." When one smart person buys a cheap stock, they can make money with it. When everyone piles into the same "smart idea," two things happen: First, it drives the price to levels where there is no more profit to be made by the next buyer, and it sucks the liquidity out of the market, leaving holders with no one to sell to. In the ultimate crowded trade, the profits vanish and the next move is down. Usually way down. Usually with a thud.


In his most recent testimony, Bernanke expressed himself as "surprised" that interest rates have edged up recently. This is not occurring in a vacuum. This week Keith writes, "The last of the central planning bubbles left in the world is now popping. It's called the bubble in super sovereign debt." May we flatter ourselves to point out that Bernanke should have been subscribed to Hedgeye's research?


The impenetrable aspect of the Fed policy game is that we don't actually know what Chairman Bernanke thinks. The game is played as much with carefully selected public utterances as with actual open-market transactions to add liquidity. (We know there is also a theoretical policy option to decrease liquidity, but it has long been treated as hypothetical. Bernanke is like a driver who never learned that cars have brakes.)


Our take on Bernanke's performance is that he acknowledges the markets are moving away from his ability to control them. QE or not QE is no longer the question. Having led from the front, checking market reactions assiduously along the way -- and having apparently followed Americans' most ardent policy desire by focusing on employment and housing -- Bernanke is now trying to get out of the way gradually enough that the entire edifice does not collapse like a 10-story building into a vast sinkhole.

Early Look

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Relied upon by big institutional and individual investors across the world, this granular morning newsletter distills the latest and most vital market developments and insures that you are always in the know.

Podcast: Keith Talks Shop

Hedgeye CEO Keith McCullough appeared on TRN's "FLASHPOINT LIVE" this past weekend with Sam Sorbo and Marius Forte to discuss the markets, economy, the ultra-easy Bernanke Fed and much more. Click on the podcast below to listen.


GIS – Not Much To Like

General Mills is on the tape with Q4 2013 and FY results. Q4 EPS was in line with consensus at $0.53 and the top-line beat at $4.41B vs $4.32B. For the FY, adjusted EPS totaled $2.69 vs $2.56 a year ago and net sales rose 7% to $17.8B. The stock is trading down to ~ $48 (nearly where it was at when it released its Q3 results) and we have concerns about its business mix and 2014 outlook.


While net sales grew 7% in for FY 2013, 6% was composed of new business acquisitions (primarily Yoki), masking weakness in its base business. Certainly 2013 was a strong year of investment, but the company did not see profitability in yogurt (Yoplait) despite heavy investment and the cereal category remains a laggard, both of which compose two of its top three business segments.  We think that due to this underlying weakness, particularly in the U.S., and given its forecast for a 3% COGS headwind in FY 2014, the company will be challenged to meet and beat its expectations, as we expect only modest improvement from its yogurt segment, and are projecting a slower recovery in volumes across the entire business compounded by muted to slowing growth globally.


 What we liked:

  • International sales profit of +24% with growth across every region; outperformance from Latin America (+116%) despite devaluation of the Venezuela bolivar
  • Net sales of Bakeries & Foodservices in FY declined -1%, but operating profit rose 10% to $315M
  • 2014 to maintain 7% FCF yield; increase dividend by 15%; and buy back 2% of the stock

What we didn’t like:

  • Gross Margin declined on the quarter from 37.2% to 34.8% and for the FY from 36.9% to 36.1%
  • FY U.S. retail sales up a mere 1% to $10.6B, with Y/Y net sales weakness in Yoplait (-5%), Frozen Foods (-3%), and Big G (-0.2%)
  • Reliance on margin management to combat 3% COGS headwind in 2014

Below we outline our quantitative levels on GIS. The stock is currently trading between its immediate term TRADE and intermediate term TREND levels. We maintain a bearish bias.


GIS – Not Much To Like - ww. gis


Matthew Hedrick

Senior Analyst


Darden is being mismanaged, plain and simple.


The earnings call on Friday underscored our argument that Darden needs a shakeup in the C-Suite. $1 billion in operating cash (annually) is not being put to productive use and statements from the company’s leadership on Friday did not demonstrate an ability to turn the company around. There was a mea culpa, of sorts, at the beginning of the call where management acknowledged the detrimental impact of operational reorganization and margin pressure from promotional strategies. That said, we believe that the past five years’ performance has been indicative of a mismanaged business. The sum of the parts is greater than the whole, at Darden, and we believe there is a striking opportunity for an activist to enter the fray, unlock value, and benefit holders of the company’s stock.



Too Big To Move Traffic


“Now as fiscal 2013 unfolded, I think many of you know that we moved with added urgency to address the same restaurant traffic erosion we'd been experiencing since the recession started. First, we began to match the competitive promotional intensity around affordability. And that included being more aggressive with our offers and our advertising messages and with our use of tactical support like daily and weekly digital specials. Second, we began to more aggressively address affordability in our core menus. And that included launching, with some heavy media support, a new Red Lobster core menu that has a significant affordability component, and then also accelerating introduction of new more affordable core menu offerings at both Olive Garden and LongHorn Steakhouse. And then third, we increased the resources dedicated to reshaping our guest experiences to respond to what guests want beyond affordability. And that meant reorganizing our marketing and operations groups, and ramping up investment in better digital and other capabilities.”


We would guess that management’s commentary on traffic did not sit well with many of the investors listening to the earnings call on Friday. Two-year average traffic has been negative for much of the past year as the company has struggled to regain customers lost during the Great Recession. Management has delivered different plans of action, with sporadically successful promotions being the most common focus. Without a reliable means to drive traffic, however, comps at the most important concepts have been highly disappointing on a two-year average basis. 


The reality is this: it has been evident for some time that the company has had a traffic problem. Given the CEO’s comment during Friday’s earnings, call, that traffic is the “best measure of brand health”, the lack of urgency in attacking the problem has been striking. Traffic has been an issue at Darden since 2008. The company generates a billion dollars in operating cash flow, annually. Like McDonald’s, the company should be able to out-muscle the competition over the long-term. Instead, the company has been a long-term under-performer; we believe that shareholders are likely at the limit of their collective patience. The charts below show little evidence of “urgent action” on the part of management.









Statistics and Statistics


And so we talked about the period from fiscal 2008, our fiscal 2008 through fiscal 2012, with industry decline cumulatively of 20%; and our brands declining about half that, 10%. And that's an issue we've got to address. And so we need to do what we need to do from a guest experience perspective, both affordability and the things that we're delivering, to really reverse that.


In the investment research business, half-truth and bias are prevalent in narratives presented by parties of all kinds – management teams not excluded! During Friday’s earnings call, DRI highlighted that during the period FY08-FY12, the company’s brand’s experienced a cumulative decline of roughly 10% versus the industry decline of 20%. While this statistic is true, we don’t believe that FY08-FY12 is the only period over which Darden’s performance should be judged. Firstly, the recession is not the sole factor in Darden losing traffic over the past five-to-six years. A diminishing value proposition at Olive Garden is just one of the other factors to consider, as well as an over-reliance of promotions at Red Lobster which has led to wildly inconsistent results. The company has released data through FY13 that, depending on the date range one indexes it over, can tell a wide variety of stories.


A clearer indication of most recent traffic trends at Darden, and across the industry, is arrived at by considering two-year average trends. As the charts, above, illustrate, traffic at Darden’s most important two brands (80% of revenue) are stagnating in negative territory on a two-year average basis. We encourage investors to be wary of the notion that Darden’s core concepts have seen a traffic recovery, as some of the questions from the sell-side implied during the earnings call.



The False Promise of the Portfolio Restaurant Company


We're confident that the Specialty Restaurant Group is working on the right things to achieve our long range growth targets, and we're well-positioned to take full advantage of all of Darden has to offer, including robust supply chain, information technology, consumer insights, finance and other capabilities, and make significant contributions to Darden's sales and earnings growth.


Darden’s management team has, for years, been describing the supposed virtues of the “portfolio” business model. We believe that the best test of that idea is the company’s stock price, which has underperformed rival stock Brinker and the broader XLY since it began its “diversification” strategy in August 2007, when it acquired LongHorn Steakhouse parent RARE Hospitality International.  


Comparing Darden’s and Brinker’s respective operating margins also tells a story. Brinker has simplified its portfolio as Darden has added to its own. Despite the general belief that “scale” and “a robust supply chain” will improve profitability, we see below that the opposite may actually be true. Darden’s G&A expense, as a percentage of sales, has not demonstrated the leverage over time that believers in the “portfolio” business model would expect.




DRI: BEWARE OF FALSE NARRATIVES - eat dri op margins





Payout Ratio


Given the diluted net EPS, we expect in fiscal 2014, which I'll talk more about later, this equates to a payout ratio on a forward basis of approximately 70%. While this is above the 40% to 50% payout range we've discussed before, we're in the process of reviewing our target range and will likely take it higher sometime later this year.


The prudent company raises dividends in line with earnings growth to maintain a stable dividend payout ratio.  From 2008 to 2010, DRI was able to grow its dividend at an accelerated rate to play catch up with a more appropriate payout ratio.  For the past two years, we are unsure as to why DRI continued to raise the dividend at a rate inconsistent with the fundamentals of the company.  Now management wants to change its target dividend payout range.  Why did management feel the need to raise the dividend given the deceleration in earnings growth?


What message is management sending to shareholders and the rating agencies?  There is no creditable evidence that management has fixed the business and is on a path of improving the multi-year decline in traffic.  As a result, the company’s margins and returns are in a decline.    


Given the secular decline in the fundamentals of the company, Darden cannot responsibly maintain a payout ratio of 70%.  Doing so is, to us, a sign of weakness not strength.  Given the company’s significant capital spending needs, Darden is expected to generate only $80 million in free cash flow in FY14.  A meaningful deceleration in comps and margins could lower that number substantially, possibly impeding the company from generating enough cash flow to cover the dividend.



DRI: BEWARE OF FALSE NARRATIVES - dri eps growth payout ratio



Howard Penney

Managing Director


Rory Green

Senior Analyst