Takeaway: Only one factor held JCP off our Best Idea long list. JCP's need for a permanent CEO. But truth be told, Ullman is getting it done.
Conclusion: The market share shift back to JCP is undeniable, which is consistent with our research. Our estimates remain far above consensus. That said, we’ve kept this name off our Best Ideas list as we've been a vocal critic of CEO Ullman, saying that he’s not the guy to unleash the $1.40+ in earnings power we see at JCP and that we need a permanent CEO. Based on the conference call it does not sound like he's going anywhere anytime soon. While that’s negative at face value, let’s give the guy credit…he’s getting it done. If he could keep this momentum going, then maybe he should stay.
We were expecting a beat out of JCP based on the research we outlined on our JCP/KSS call on Tuesday (better visitation and spending statistics in our latest Consumer survey as well as clear signs that it was taking share from KSS online), but we were definitely not expecting a top line this strong. We modeled a 4% comp, but JCP came in at 6.2%, which is 780bps better than Macy’s and 960bp better than KSS. Anyone who tries to argue that JCP is not regaining the $5.4bn in market share it gave away over the past three years is simply ignoring the cold hard facts. Our research shows that these two retailers are responsible for $1.0bn and $500+mm, respectively of that share shift. That’s a lot more meaningful for KSS in percentage terms, and we don’t think KSS sees JCP coming (or it’s simply in denial).
There was so much in this quarter to like…a) positive traffic for the first time since before Johnson trashed the place, b) 26% growth in e-commerce – the first positive 2-year comp in 3 years -- during the same quarter that KSS dot.com slowed to the point where they stopped disclosing the exact number to the Street, c) continued improvement in Gross Margin -- +224bp vs. last year, d) only 1% growth in inventories on top of 6.3% revenue growth, which bodes well for GM% headed into the second quarter, e) a 6.4% decline in SG&A, which is great, though it’s an item that has a finite runway, and f) for the people that weren’t satisfied with JCP vastly improved balance sheet situation over the past 2 quarters, the company upgraded its credit facility such that it secured an extra $500mm in unsecured liquidity. Put all this together, and this is a really tough quarter to poke holes in. Most other retailers have nothing but excuses. JCP came through with nothing but results.
We’re taking up our estimates by roughly $0.20 each year out to 2018 (see Exhibit 2 below), which is largely a function of better revenue growth. That takes our ultimate earnings power up to $1.40. We’re still of the view that it will need to be a new CEO to realize that earnings power, and truth be told, we have more questions about that than ever.
From where we sit, Ullman is looking mighty comfortable in that CEO seat. In answer to a question about his future, he seemingly dismissed that there’d be a change up top anytime soon. We’ve been his most vocal critic, so at face value, we think this is a negative development.
But let’s keep ourselves honest here. We wrote above about how well the company is executing on its turnaround plan. Is it fair then to say that on one hand, and then push him out the door with the other? Probably not. Yes, we’d rather have a CEO who is 100% committed to JCP, has more horsepower, and who is financially incentivized to hit key value-enhancing targets over a very long time period. But for now, Ullman is proving to be exactly what the company needs. What we don’t know is whether he’ll wear out his welcome with a stock at $10, 12.50, or $15. It’s highly unlikely that it will be $20 – just as it won’t be $8.
The only other semi-negative factor we could pull from the print is the fact that JCP is now back to its former capacity of private label – which is 50% of total sales. That’s important because of the 500bp GM premium this product carries relative to National Brands (some was up to 800bp). There are two primary drivers to Gross Margin 1) improving the mix of Private Brands, and 2) sheer leverage of comp above fixed components of COGS. By a country mile, #2 is the more powerful driver, and that still has a long way to go. But it’s safe for us to assume that the GM improvement from mix and mix alone will be felt for the next 3-4 quarters and then level off. This is all represented in our above consensus estimates, so we’re not worried. But it’s an important flag.
Takeaway: 54.93% of voters overall leaned toward YES. The conviction of those who voted YES was 8.25% higher on average.
Yesterday on Fox Business’ Opening Bell, Hedgeye CEO Keith McCullough asked: “What if Janet Yellen untapers? If she untapers, gold is going to rip. If growth slows and surprises on the down side this year, she is going to do what she has been fundamentally trained to do, which is get dovish rhetorically, untaper and gold’s going to rip.”
That said, we asked you in today’s poll: What are the odds that Janet Yellen’s Fed UNTAPERS this year?
At the time of this post, 54.93% of voters overall leaned toward YES. The conviction of those who voted YES was 8.25% higher on average.
“Can't get and won't get the GDP growth needed this year, CPI is still deemed relatively low, and Fed believes higher inflation is controllable,” said one YES voter. “Therefore, attaining Fed deemed sufficient nominal GDP will require importing inflation (further devaluation of the dollar - #Untaper). Two previous 100% tapers results were completely unsatisfactory.”
Another person who voted YES explained, “I happen to believe there is a significant risk of a greater than 15% decline in equity indexes over the course of the year. If that comes to pass, the Fed will do the same thing they've been doing for the last five years when we've experienced protracted weakness in equities. Sure the Fed may be all in favor of tapering with markets near all time highs but that tune will change in a heartbeat if markets turn significantly weaker.”
However, a greater number of NO voters expressed the reason for their choice:
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Although selling off sharply from the highs, Nickel has gone on a huge run over the last week to touch two-year highs on healthy volumes. The snapshots below from yesterday's close provide a good visual for the magnitude of the recent move. The volume table represents all active nickel contracts traded.
Without drawing any unfounded causality, a few data points surrounding the recent volatility are included below:
An axiomatic geopolitical dynamic may exist behind Indonesia’s ban of two major minerals in January, nickel ore and bauxite (commercial ore of aluminum). Two Russian companies, Rusal and Norilsk Nickel, the world’s largest aluminum and Nickel companies respectively, made a deliberate push for Jakarta to pass a controversial mineral ore export ban despite opposition from domestic mining companies and Asian buyers. The campaign was viewed as a positive for both parties at the expense of other global players in the space, namely China, Japan, and the U.S. Company personnel from both Rusal and Norilsk traveled to Indonesia repeatedly last year during a 6-month campaign in which they only agreed to spend billions of dollars on smelters if Indonesia banned nickel and bauxite exports.
Although China is becoming a significant trading partner with Russia, they will undoubtedly face supply constraints. China currently consumes 47.4% of Nickel produced globally:
The campaign by Rusal and Norilsk was aimed at replacing costly capacity in Russia. The current regime in Indonesia has emphasized the need to earn more form its mineral resources. The export ban will force domestic mining companies to move up the production chain by pushing the processing of the minerals excavated. Jakartra denies having been influenced by either Russian company.
The ban will halt approximately $3Bn of annual exports and has probably helped propel Nickel higher this year (+45% YTD). The shares of both companies quickly rose over 10% in less than a month after the news hit. China and Japan are two of the largest buyers of Indonesian nickel ore, and Beijing is organizing a delegation of Chinese firms to travel to Jakarta to discuss the newly implemented rules. Japan is considering taking the Indonesian export ban to the World Trade Organization. The move has also hurt U.S. miners in Indonesia. Freeport-McMoRan and Newmont Mining Corp have now halted shipments and cut output due to a dispute over an escalating export tax under the new rules.
1 for 5 on the day today for domestic macro data. You don’t get to play in October batting .200.
Inflation is rising, production is slowing, goods consumption is slowing, housing is slowing, initial claims are improving.
The 10Y going sub-2.5%, a burning dollar, Russell 2K down -8% YTD, and the 1600bps performance spread between XLU & XLY are telling a cohesive price story about growth expectations.
#InflationAccelerating: In short, it’s our simpleton view that the conflation of dollar depreciation and rising inflation serves to slow growth as food/energy/rent costs take down a rising share of the consumer’s wallet.
This is particularly true in an environment of flattish wage growth and when food, energy, and shelter (collectively ~55% of the CPI basket) cost growth is running at multiples of income growth.
Additionally, and perversely perhaps, the policy response to the growth slowdown only perpetuates it further as the pavlovian investor response to the expectation for (real or rhetorical) incremental easing continues to be to bid up commodities and other slow growth, inflation hedge assets. In variant forms, this dynamic has played out recurrently in the peri-QE periods over the last 5 years.
Headline CPI hit 2.0% for the first time since July of last year in April while Core CPI accelerated 10bps to +1.8% YoY, its fastest rate of growth in 13 months.
Notably, while shelter inflation (~31% weight) has almost singularly supported the headline number over the last year and food/energy inflation have been the outliers YTD, the rise in prices has been broader based the last few months.
As can be seen in the chart of CPI breadth below, the % of components showing sequential accelerating is beginning to show some 2011’esque mojo.
Through the lens of the reflexive inflation-growth-policy dynamic described above, it shouldn’t be a surprise that sector variance is looking a lot like 1H11.
INITIAL JOBLESS CLAIMS: Party Like It's 1999 ...
Josh Steiner, our Head of Financials research, provided this summary context with respect to this morning’s positive initial claims data:
The labor market is heading very much in the right direction again. This morning's data marked just the second time since 2007 that the SA print came in below 300k. As the chart below shows, 300k is a Rubicon of sorts in that it has historically coincided with levels of near-peak employment such as 1999 and 2006.
It's interesting to look at the contrast between then and now as the unemployment rate and NFP reports remain well off the levels seen in those respective timeframes.
The disconnect has largely to do with the long-term unemployed, both those being counted in the data and those who've dropped out of the work force, either due to disability or otherwise. If one excludes those in the long-term unemployed category one finds that the labor market today is functionally similar to that last seen in the '99 and '06 periods, albeit with much more modest wage inflation.
We would reiterate the question, however, that if claims are a measure of slack in the labor force and slack is tight it would seem reasonable to assume that wage inflation should be coming in the near future.
The one wrinkle here remains housing, which is showing plenty of signs of ongoing deceleration
source: Hedgeye Financials
INDUSTRIAL PRODUCTION/CAPACITY UTILIZATION: SEQUENTIAL SOFTNESS
Industrial production declined 0.6% MoM in April, decelerating on both a YoY and 2Y basis. The deceleration was pervasive across industries/sub-indices as capacity utilization dipped back below 79.
On balance, the April IP data largely agree with the previously released PMI figures which could generally be characterized as “okay”, but certainly not reflecting a recapture of significant, deferred demand from 1Q.
So, in the battle for accelerating wage inflation, improving initial jobless claims, positive trends in short term unemployment and declining productivity continue to be counterbalanced by ongoing weakness in broader employment measures, middling manufacturing activity and capacity utilization figures, a slowdown in housing, and ongoing softness in household credit and business capex growth.
NAHB HOMEBUILDER SURVEY: THE SLUMP IN CONFIDENCE CONTINUES
We touched on the NAHB data in the inaugural launch of the Hedgeye Housing research vertical this morning - BUILDER CONFIDENCE SLUMPS AGAIN - but the takeaway is rather straightforward = #HousingSlowdown continues.
The NAHB HMI declined to 45 in May, declining from a downwardly revised April reading of 46. The slowdown remained geographically pervasive with the cratering of sentiment in the West region again leading the declines.
The builder “optimism spread” (6M expectations less Current Traffic) continued to expand as well – not a particularly favorable harbinger historically.
Christian B. Drake
Takeaway: The comp miss is obvious. But the EPS miss is startling given historical context.
***Originally published today at 8:38am EDT, the following note is sourced directly from the Hedgeye Retail Team, led by Managing Director Brian McGough. If you're coming around to our Macro Team's view that #InflationAccelerating slows consumption growth, ping firstname.lastname@example.org to speak with Brian regarding his team's Best Ideas on the short side of the US consumer.***
Chart 1 shows what everybody already knows, that WMT comps disappointed. The company cited weather for 20bps of the decline. If there's any retailer who's data we trust, it's Wal-Mart's. But the 2-year trend, which we place much heavier weight on as it relates to drilling down the real underlying trend, is nothing to write home about. This plays right into Hedgeye's #growthslowing theme as it relates to the US Consumer.
The more telling visual is the EPS miss. In 11 years, WMT has only missed 12 times, and nine of those were by a penny. Today it missed by a nickel. That's only happened once before -- in 2007. The blue bars in this chart show the absolute EPS variance to consensus for each quarter. The dots refer to the right axis showing the percent beat or miss in each period. Not a good way to start things off in the first quarter for new CEO Doug McMillon.
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