Inflation Deniers

Takeaway: Numbers don't lie, people do.

It was another no-bid day for the credibility of the US Dollar yesterday. The supreme Janet Yellen regime is transitioning away from being data dependent on inflation and employment and shifting towards price fixing – or rate targeting.


Down Dollar and Down Rates?  That simply means slowing real growth and rising Gold prices. Gold is up +10% year-to-date.


Inflation Deniers - Headsand

Oil joined the inflation party yesterday, ratcheting the CRB Commodities Index up another +1.8% to +6.8% year-to-date. Compare that to Consumer stocks which are down -3.5%.


Nat Gas? It is going completely kaboom...up a blistering +37% year-to-date.


That has to be “deflationary” right? Right? $110 Oil too. It just has to be. The government says so.

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Got Inflation?

Client Talking Points


Well, it was yet another no-bid day for the credibility of the US Dollar yesterday. The omnipotent Janet Yellen regime is transitioning away from being data dependent on inflation and employment and shifting towards price fixing – or rate targeting. Down Dollar and Down Rates? That simply means up Gold (+10% year-to-date!) and slowing real growth.


So, oil joined the raucous inflation party yesterday, taking the CRB Commodities Index up another +1.8% to +6.8% year-to-date. No small potatoes. Compare that to Consumer stocks which are down -3.5%. Nat Gas? It's going KaBoom...up a blistering +37% year-to-date. That has to be “deflationary” right? Right? $110 Oil too. It just has to be ... the government says so!


Bad news for Putin as #Sochi getting slammed by bad news Ukrainian headlines this morning. The Russian Bear stock market takes another -1.8% hit to the head down to -8.5% year-to-date. Incidentally, today in 1861, the Russians abandoned serfdom. Sort of.

Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

Las Vegas Sands has transformed into that rare stock that should appeal to “Growth,” “Value”, and “Dividend/Cash Flow” investors alike.  The stock now yields higher than the S&P 500 (43% sequential quarterly dividend increase), and the company is buying back $200 million + in stock a quarter, yet still retains a pristine balance sheet.  The significant capital deployment opportunities can be funded out of annual free cash flow of nearly $4 billion. Management has indicated they are willing to raise leverage 1.5x which would still keep them well below industry average and if directed toward dividends, would result in a yield of over 6%.  And we haven’t gotten to the $10-14 billion in mall assets that could be monetized. We know of no other stocks in consumer land that provide this combination of cash flow, growth, cash return to shareholders, and value levers.


We remain bullish on the British Pound versus the US Dollar, a position supported over the intermediate term TREND by prudent management of interest rate policy from Mark Carney at the BOE (oriented towards hiking rather than cutting as conditions improve) and the Bank maintaining its existing asset purchase program (QE). UK high frequency data continues to offer evidence of emergent strength in the economy, and in many cases the data is outperforming that of its western European peers, which should provide further strength to the currency. In short, we believe a strengthening UK economy coupled with the comparative hawkishness of the BOE (vs. Yellen et al.) will further perpetuate #StrongPound over the intermediate term.


Darden is the world’s largest full service restaurant company. The company operates +2000 restaurants in the U.S. and Canada, including Olive Garden, Red Lobster, LongHorn and Capital Grille. Management has been under a firestorm of criticism for poor performance. Hedgeye's Howard Penney has been at the forefront of this activist movement since early 2013, when he first identified the potential for unleashing significant value creation for Darden shareholders. Less than a year later, it looks like Penney’s plan is coming to fruition. Penney (who thinks DRI is grossly mismanaged and in need of a major overhaul) believes activists will drive material change at Darden. This would obviously be extremely bullish for shareholders and could happen fairly soon driving shares materially higher.

Three for the Road


Natural Gas +36.7% YTD and Oil breaking out again - whatever you do, don't call it inflation @KeithMcCullough


"The American heroes are the ones wearing camo". -T.J. Oshie


Raising the U.S. federal minimum wage to $10.10, as President Obama and Democrats are proposing, could result in about 500,000 jobs being lost by late 2016, the non-partisan Congressional Budget Office (CBO) estimated.

Daily Trading Ranges

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The Olympiad

“The important thing in life is not victory but combat; it is not to have vanquished but to have fought well.”

- Pierre de Coubertin


We’ve been a little quiet commenting on the ongoing Winter Olympics in Sochi, Russia.  For Keith and me, it is probably nervousness over whether our native Canada can defend her Olympic gold, despite a lackluster preliminary round performance (lackluster in the sense that Canada is the first nation of hockey).  More broadly, though, the paradoxical nature of global markets has kept us busy.


In part, the Sochi Olympics represent this paradox.  Admittedly, from a security perspective, the games have been much more successful than anyone expected.  (As far as I can tell, the one downside is that most hotels rooms have a picture of Russia President Vladimir Putin.)  The flip side to the better than expected security (except perhaps in the Ukraine), is that many venues have been disappointing.


This of course goes to the heart of the paradox of the winter Olympics in Sochi, which is that Sochi is actually a beach resort.  Our partner in the Phoenix Coyotes, George Gosbee, has been in Russia since the start of the games. He took a fantastic picture that was picked up by Reuters (see below) showing the beautiful Sochi beach line that spectators walk on to get to the hockey arenas.


The Olympiad - g9


We will be doing an Olympic hockey pool later this week at Hedgeye and the odds are that our own Bob Brooke has the inside edge given his experience playing for the U.S.A. at the Sarajevo Olympics in 1984, but here are my picks:

  1. Gold – U.S.A.
  2. Silver – Canada
  3. Bronze – Russia
  4. Sweden

While it is paradoxical for a Canadian to pick the U.S. to win gold, they have looked much better, so I’m not going to let my emotions rule the day.  What are your picks?


Back to the Global Macro Grind . . .


This morning in the Chart of the Day, I wanted to continue hitting on this ongoing paradox of reported versus actual inflation.  As it relates to reported inflation, we do expect CPI to ramp and likely beat expectations in the U.S., but more importantly is the actual commodity inflation that is occurring.   The chart shows Gold Spot, Gold Miners (GDX) and the CRB Index versus the SP500, Consumer Staples (XLY) and Consumer Discretionary (XLP).


As the chart emphasizes, commodity inflation has been on a tear since our January 9th Q1 Themes Call.   Now, obviously, accelerating commodity inflation and input costs aren’t the reason that a number of our Best Ideas shorts, namely Weight Watchers (WTW) and Boardwalk Pipeline Partners (BWP), have underperformed so dramatically, but they are a reason that we continue to like the series of Best Idea shorts that our Restaurant team led by Howard Penney has added to the list. 


This list of restaurant shorts includes Cheesecake Factory (CAKE), Bloomin’ Brands (BLMN), Potbelly Corporation (PBPB), and Panera Bread (PNRA).  PNRA reported earnings least night and guided 2014 earnings estimates to $6.80 -> $7.05, which is below consensus estimates of $7.30.  Certainly not a meaningful miss, and likely weather did play a part, but when a company trades at close to 25x forward earnings, expectations are, indeed, the root of all heartache.  For more information on how to subscribe to restaurant sector research, please email .


Reverting back to inflation, the Congressional Budget Office released a recent report yesterday that had some rather interesting takeaways from President Obama’s proposal to raise the minimum wage (an inflationary pressure), specifically:

  • President Obama's quest to raise the minimum wage to $10.10/hour would eliminate about 500,000 jobs by 2016 but also increase pay for 16.5M workers and lift 900K out of poverty;
  • The report said benefits of an increase would be spread across a broad range of workers, with 19% of the increased wages going to Americans living below the poverty line. Close to 30% of the higher wages would go to people in families that earned more than three times the poverty level; and
  • The report added that the increased cost of labor would encourage employers to upgrade technology or hire fewer, higher-skilled workers. That effect would be partially offset by higher earnings among low-wage workers who retained their jobs.

So, a proposed government policy that slows employment growth and creates inflation . . . that sounds eerily familiar.


This morning and through the duration of the week we will be getting a series of macro data points that will be critical to focus on, which include:

  • Today - MBA Mortgage applications, PPI, Housing Starts and HSBC China Flash PMI.
  • Thursday - CPI, Flash PMI, Eurozone Flash PMI and BOJ Minutes; and
  • Friday - Existing home sales.

Paradoxically, the SP500 has been strong over the last two weeks or so, though it will be interesting to see how and if that strength sustains into an increased, and potentially negative, macro news flow.  Conversely, as it relates to China, our view is fairly explicit.  As my colleague Darius Dale emailed me this morning:


“Thus far in the YTD, the only data that has been supportive of a year-over-year acceleration in Chinese growth has been the credit data; even price-based leading indicators would suggest otherwise. All other data (i.e. PMI surveys) suggests sequential momentum is decidedly slowing. The market is clearly pricing in the expectation that the PBoC will have to ease [materially].”




Our immediate-term Macro Risk Ranges are now:


UST 10yr Yield 2.64-2.79%

SPX 1 

VIX 11.79-15.93

Gold 1


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


The Olympiad - Chart of the Day


The Olympiad - Virtual Portfolio


Takeaway: PBPB remains on the Hedgeye Best Ideas list as a SHORT


PBPB reported 4Q13 results yesterday after the close.  While adjusted EPS of $0.06 beat expectations of $0.04, it was well below last year’s adjusted EPS of $0.12 which included an extra operating week.  Total revenues of $74.761m came in 168 bps light of expectations as the company delivered meager year-over-year comp growth of 0.7% on an adjusted basis.




It was a disappointing 4Q13, due in part to circumstantial situations as the company was hampered by the two-week government shutdown in October and extraordinarily poor weather in December.  Typically, we would chalk these up as nothing but excuses, but the geographic profile of PBPB suggests we should give the company the benefit of the doubt.  After all, Potbelly has over 70% of its stores in the Northeast/Midwest.  This lack of geographical diversification is part of what makes us cautious on the name (significant exposure to external events, unproven in other markets), but we’ll save that for another time.


Considering this exposure and the inability to protect against it, management estimates that weather had a 310 bps impact on December comps and believes the negative impact to-date in 1Q is even worse.  All told, 1Q14 is shaping up to be a disaster and could pressure the full-year outlook.  Consensus is currently looking for 1.8% comp growth in 1Q14 – we suspect this will come down, a lot.  Management has not come off its original 2014 estimates, which means they are expecting the next ten months to overcompensate for the past two.  In reality, PBPB hasn’t grown traffic for at least the last four quarters (by our estimates) and is generating EPS growth primarily from unit growth.  Management’s comp guidance implies that they believe they have the ability to take price to drive average check higher, but relying on price to drive future profitability is a fool’s errand.  With declining traffic trends, this becomes an even riskier proposition.


PBPB LAYS AN EGG - pbpb sss




Management provided the following 2014 full-year guidance on the 4Q13 earnings call.



  • Adjusted net income growth between 25-35%
  • 35-40 new company shops including at least one new hub market
  • 5-8 new franchise shops
  • Low single-digit comparable sales growth driven by both check and traffic
  • Effective tax rate below 39.5%
  • Capex of $30-35m
  • Shares outstanding between 30-32m shares

Maintaining full-year guidance after a tumultuous start to the year seems a little aggressive to us and, if the current estimates stand, it could be difficult for PBPB to hit the numbers.  Aside from our issue with the low quality comp growth, from a growth (?) concept, we are also discouraged by a complete lack of consistent AUV growth.


PBPB LAYS AN EGG - pbpb auv


Maybe the underlying numbers will begin to improve with more reasonable weather, but the fact of the matter is, by our estimates, Potbelly hasn’t grown traffic for over a year.  Assuming the numbers begin to normalize, we still believe estimates are too aggressive.  The street is currently looking for total revenue growth of 11% on the back of a 1.9% comp.  For this to happen, Potbelly will likely need to see sustained traffic growth throughout the remainder of 2014.


Management reiterated the following long-term guidance on the 4Q13 earnings call. 



  • Total new shop growth of at least 10%
  • Low single-digit comparable sales growth
  • Annual adjusted EBITDA growth of 20% or more
  • Return on capital investments of at least 25%

Management’s long-term growth targets are respectable, but this doesn't make it the next CMG, PNRA, or even NDLS.  It’s a low-margin, low-return, single daypart sub shop with declining traffic and little competitive advantage over its peers.  Current consensus estimates are for -1% adjusted EPS growth in 2014, not exactly the type of growth we’d expect to see from a "growth" chain with a premium multiple.


The stock is currently trading at a P/E of 64.36x and 23.93x EV/EBITDA on a NTM basis, multiples substantially higher than the ones awarded to Chipotle.  To put that in perspective, a chain that delivered 1.5% comp growth in 2013 is trading at a premium multiple to one that delivered 5.6% comp growth in 2013 with a 5x larger store base.  Yet, people want to talk about how expensive CMG is?


Potbelly was merely the beneficiary of a hot IPO market and if the fundamentals don’t begin to align with expectations, we continue to see downside in the name.  We think PBPB can be a feasible, financially robust company over the long haul but the current fundamentals suggest the company is grossly overvalued.  



Howard Penney

Managing Director


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