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After Being One of the Street's Biggest Bulls on Starbucks, Hedgeye's Howard Penney Turns Bearish

Takeaway: While Starbucks is still a great company with an enviable management team, the stock is far less attractive today.

After Being One of the Street's Biggest Bulls on Starbucks, Hedgeye's Howard Penney Turns Bearish - hwp 1

 

Editor's note: The following excerpt below is the introduction to Hedgeye restaurants sector head Howard Penney's new 80-page slide deck detailing his short thesis on Starbucks. After five years of being one of the street's biggest bulls on SBUX, Penney now thinks "the stock is far less attractive." For more information on Penney's research please ping sales@hedgeye.com

 

It’s been seven years since Howard Schultz penned his now famous memo to Starbucks’ management and employees, outlining where the company had gone wrong and what it needed to do to get back on track, and it’s been six years since we first turned positive on the stock.


But nothing lasts forever. McDonald’s went on an eight-year corporate revival before it lost its luster and we fear Starbucks is nearing the end as well. In this presentation, we will outline a number of concerns we have with the company which makes us believe the street is too optimistic about its future prospects.

 

After Being One of the Street's Biggest Bulls on Starbucks, Hedgeye's Howard Penney Turns Bearish - hwp sbux

We recently read that Harvard Business School Professor and Historian Nancy Koehn has studied Starbucks and its leader, Howard Schultz, for nearly 20 years. She recently released a new HBS Case Study, “Starbucks Coffee Company: Transformation and Renewal,” which traces “the dramatic arc of the company’s past seven-plus years – a period that saw Starbucks teeter on the brink of insolvency, dig deep to renew its sense of purpose and direction, and launch itself in new, untested arenas that define the company as it exists today.”


While all of this may be true, we too have been following Howard Schultz and Starbucks for over 20 years. Unlike Ms. Koehn, however, we did not go to Harvard and we’re not HBS Professors. But we did release a Hedgeye Black Book in early 2009 detailing why we believed Starbucks was a great company and the stock was a great buy.

 

Today, while Starbucks is still a great company with an enviable management team, the stock is far less attractive. More specifically, and perhaps to the heart of the topic, we believe the company’s domestic business is maturing and management is attempting to stem this decline by rapidly deviating from its core. With sentiment near an all-time high, this HBS Case Study merely seems like another example of a Starbucks “top.”


INITIAL CLAIMS - A POSITIVE REVERSAL

Takeaway: Labor gets its mojo back, reversing the weakness seen in the last two weeks.

Below is the detailed breakdown of this morning's initial claims data from Joshua Steiner and the Hedgeye Financials team. If you would like to setup a call with Josh or Jonathan or trial their research, please contact 

 

Two Steps Back, One Giant Leap Forward

There's a reason why investors are often advised to look at 4-wk rolling averages when it comes to high-frequency economic data (i.e. weekly initial jobless claims). The last two weeks of data were conspicuously soft and we noted as much in our weekly look at the labor market, but this week was very strong. Notably, on a 4-week rolling basis, the data has been fairly steady.

 

Prior to a few weeks ago, the data had been running at a fairly steady rate of ~10% improvement year-over-year. That is to say, claims are lower by 10% this year vs. last. Two weeks ago, however, that rate of improvement slowed to 7% and last week claims actually rose by 2%. This week saw claims better by almost 12%, which puts them back on track with the rate of change seen throughout much of the summer.

 

 

The Data

Prior to revision, initial jobless claims fell 35k to 280k from 315k WoW, as the prior week's number was revised up by 1k to 316k.

 

The headline (unrevised) number shows claims were lower by 36k WoW. Meanwhile, the 4-week rolling average of seasonally-adjusted claims fell -4.75k WoW to 299.5k.

 

The 4-week rolling average of NSA claims, which we consider a more accurate representation of the underlying labor market trend, was -7.3% lower YoY, which is a sequential improvement versus the previous week's YoY change of -7.2%.

 

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INITIAL CLAIMS - A POSITIVE REVERSAL - IC

 

 

 

Joshua Steiner, CFA

 

Jonathan Casteleyn, CFA, CMT



SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT

Takeaway: Weakness in August offsets strength in July. Bigger picture, SF is grinding higher at a GDP-like pace of low-single digit growth.

Our Hedgeye Housing Compendium table (below) aspires to present the state of the housing market in a visually-friendly format that takes about 30 seconds to consume.

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - Compendium 091814

 

Today's Focus: August Housing Starts & Permits

The Census Bureau released its monthly Housing Starts & Permits data for August this morning.

 

Total New Home Starts declined -161K, or  -14.4%, sequentially vs positively revised July Data (revised +25K to 1117K) – the largest month over month decline since January of 2007.

 

With single-family starts up just +2% YoY on average YTD vs. multi-family up 21%the concentration in construction activity, and the predominate driver of the recovery in starts, remains well defined. 

 

  • Total Starts:  Total housing starts re-breached the 1MM level to the downside, declining -14.4% MoM (-161K) to +956K SAAR with July revised to +1117K from +1093K SAAR.  Multi-family, which led the upside in July, reversed to drive the downside in the latest month.    
    • Single Family Starts:  SF starts declined -16K MoM (-2.4%) to +643K, essentially in-line with the trailing average. 
    • Multi Family Starts:  MF starts declined -145K MoM (-31.7%) to +313K  
  • Total Permits:  Total Permits declined -59K MoM (-5.6%) to 998K with the -54K decline in multi-family driving the drawdown. Notably, the outsized increase in multi-family permits in July failed to carry-over into the August starts figures.   
    • SF Permits:  Single Family permits declined -0.8% MoM (-5K) to 626K.  Inclusive of the negative revision to July, this marks the 2nd month of decline in SF permits.  The trend in permits continues to suggest minimal upside for the forward starts data
    • MF Permits:  Multi-family permits declined -54K (-12.7%) in August to 372K – the third decline in the last four months. 

 

NAHB HMI vs SF Starts:  Yesterday’s sequential increase in the NAHB HMI is at odds with the fall in SF starts in August and the growing disconnect between builder confidence and SF construction activity over the last few months remains stark.  


As a reminder, there are three factors principally responsible for the ongoing weak performance for housing. First, QM rules that took effect early this year are having a suppressing effect on credit availability. Second, institutional investor demand for properties is waning sharply. Third, affordability dynamics have swung sharply; whereas 12-18 months ago there was a strong asymmetry favoring homeownership, today renting vs owning are close to a toss-up.

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - SF Starts   Permits TTM

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - SF Starts   Permits LT

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - SF starts vs NAHB

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - Total Starts LT

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - MF Starts   Permits TTM

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - MF Starts   Permits LT

 

SOFT STARTS CONTINUE TO DIVERGE FROM STRONG SENTIMENT - SF   MF Starts MoM Change

 

 

About Housing Starts & Permits:

The US Census Bureau records the number of new housing units that have obtained permits for construction and those that have begun construction. This data includes new buildings intended primarily as residential units. The US Census Bureau defines a start as, “Start of construction occurs when excavation begins for the footings or foundation of a building.” 

 

 

Joshua Steiner, CFA

 

Christian B. Drake


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KSS – Adding To Best Idea List as a Short

Takeaway: 2014 looks fine, but the Street is 20% too high in ‘15. Moreover, KSS might not earn $4 again until the tail end of the next economic cycle.

We’re adding KSS to our Best Idea list as a short. We have not liked this name for a while, but we think the recent strength in the stock is simply unwarranted. We’ve seen sell-side upgrades, Cramer pumping the name due to strength in Izod and Skechers (seriously?), and a general mindset that you can’t short operationally levered retailers like KSS when we’re facing 4-5 months of ‘easy’ compares for US Consumer spending – especially with KSS hosting an analyst meeting in October.  For the remainder of this year, KSS’ estimates ($4.30) are probably OK.

 

But while the Street is looking for 10% earnings growth next year, we’re modeling a -10% decline in earnings for the year. While this is a call on next year, we also think it is a call on the ones that follow. We think that 2014 will mark the last time for at least 4-5 years  -- barring a parabolic acceleration in the US economy -- that KSS will earn anything starting with a $4. That’s not good when the Street is over $5 two years out. Its operational misses should crimp its ability to buy back stock and financially engineer the P&L. We’ll be hosting a call next Wednesday with a full deck to review our thesis (including some preliminary results of the department store consumer survey that we just completed). 


INITIAL CLAIMS - A POSITIVE REVERSAL

Takeaway: Labor gets its mojo back, reversing the weakness seen in the last two weeks.

Two Steps Back, One Giant Leap Forward

There's a reason why investors are often advised to look at 4-wk rolling averages when it comes to high-frequency economic data (i.e. weekly initial jobless claims). The last two weeks of data were conspicuously soft and we noted as much in our weekly look at the labor market, but this week was very strong. Notably, on a 4-week rolling basis, the data has been fairly steady.

 

Prior to a few weeks ago, the data had been running at a fairly steady rate of ~10% improvement year-over-year. That is to say, claims are lower by 10% this year vs. last. Two weeks ago, however, that rate of improvement slowed to 7% and last week claims actually rose by 2%. This week saw claims better by almost 12%, which puts them back on track with the rate of change seen throughout much of the summer.

 

We're still bullish on the credit card lenders (COF, DFS) as we think the combination of resurgent loan growth and stable credit quality will produce better than expected earnings and should expand the multiple on those earnings. So long as jobless claims are not flagging an inflection in the labor market trends, we're going to stick with this idea.

 

The Data

Prior to revision, initial jobless claims fell 35k to 280k from 315k WoW, as the prior week's number was revised up by 1k to 316k.

 

The headline (unrevised) number shows claims were lower by 36k WoW. Meanwhile, the 4-week rolling average of seasonally-adjusted claims fell -4.75k WoW to 299.5k.

 

The 4-week rolling average of NSA claims, which we consider a more accurate representation of the underlying labor market trend, was -7.3% lower YoY, which is a sequential improvement versus the previous week's YoY change of -7.2%

 

INITIAL CLAIMS - A POSITIVE REVERSAL - 2

 

INITIAL CLAIMS - A POSITIVE REVERSAL - 3

 

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INITIAL CLAIMS - A POSITIVE REVERSAL - 10

 

INITIAL CLAIMS - A POSITIVE REVERSAL - 11

 

INITIAL CLAIMS - A POSITIVE REVERSAL - 19

 

 

Yield Spreads

The 2-10 spread rose 8 basis points WoW to 205 bps. 3Q14TD, the 2-10 spread is averaging 199 bps, which is lower by -21 bps relative to 2Q14.

 

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Joshua Steiner, CFA

 

Jonathan Casteleyn, CFA, CMT

 


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