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LABOR IS GOOD BUT A LOT OF OTHER THINGS ARE BAD

Takeaway: Solid labor market data flies in the face of a rising risk environment. Should you buy the dip or press the shorts?

What To Do When the Stars Don't Align

Sometimes conflicting data can put you in a tough analytical position. We track labor data closely because the credit cycle trumps all for Financials investors. Labor (i.e. loss frequency) is the primary driver of the credit cycle with collateral values (i.e. loss severity) riding shotgun. We track both. This morning's claims data suggests the recovery in the labor market is ongoing. In fact, the rate of improvement accelerated to the fastest clip we've seen YTD. Rolling NSA initial claims were better by 17.2% this week vs the prior year comp. Admittedly, the comps from last year were easier, making the significance slightly less, but the conclusion is still the same. The labor data suggests all systems go.

 

However, every Monday morning we also publish a note called the Monday Morning Risk Monitor and the titles of that note have been increasingly bearish for the last 3 weeks, including this past Monday's note: "Danger Zone". The Risk Monitor helps us navigate the short to intermediate trends while the labor market data helps us keep perspective on the longer-term credit cycle. 

 

At the moment, they are in conflict. The short to intermediate term outlook is decidedly bearish based on the signals from our Risk Monitor. The longer-term outlook remains constructive, for now. A word of caution, however: the longer-term outlook is dynamic, and can be altered by short to intermediate term pressures. We've learned over the years to wait for the Risk Monitor to give us the green light before getting back in the water. So, for now, we'd be pressing the shorts. 

 

The Data

Initial jobless claims fell 23k to 264k from 287k WoW. The prior week's number was unrevised. Meanwhile, the 4-week rolling average of seasonally-adjusted claims fell -4.25k WoW to 283.5k.

 

The 4-week rolling average of NSA claims, which we consider a more accurate representation of the underlying labor market trend, was -17.2% lower YoY, which is a sequential improvement versus the previous week's YoY change of--13.4%

 

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Yield Spreads

The 2-10 spread fell -4 basis points WoW to 183 bps. 4Q14TD, the 2-10 spread is averaging 186 bps, which is lower by -13 bps relative to 3Q14.

 

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Joshua Steiner, CFA


Jonathan Casteleyn, CFA, CMT

 


Podcast | Q&A: What is Deflation?

In the Q&A portion of today's Morning Macro Call for institutional investors, Hedgeye CEO Keith McCullough explains deflation in clear terms.


DFRG: Timing is Critical

Takeaway: We're getting picky with timing here, but for good reason. We're looking to re-short this name into any sustained strength.

Brief Analysis: DFRG reported an unimpressive quarter, in our view, despite the fact that the market has responded positively.  We covered our short last week for this reason, as sentiment around restaurants has been improving due to strong industry sales data.  What really saved the day, however, was management's decision to maintain its full-year guidance and not provide guidance on 2015.  We don't think its unreasonable to expect DFRG to hit the numbers in 2014, but believe 2015 guidance on the 4Q14 earnings call will be a negative catalyst for the stock.  The street currently expects 2015 EPS growth of 19%, after delivering -7% growth in 2013 and what looks to be 3% growth in 2014.  Considering persistent cost of sales inflation, the ongoing struggle at Sullivan's and operational inefficiencies associated with the rollout of the Grille, we view this as highly unlikely.

 

Comps: DFRG delivered +3.7% system-wide comp growth in the quarter on a calendar basis.  Del Frisco's Double Eagle delivered +8.4% same-store sales growth driven by a +4.6% increase in customer counts and a +3.8% increase in average check.  Sullivan's delivered +0.6% same-store sales growth driven by a +7.3% increase in average check, offset by a -6.7% decline in customer counts.  Per usual, management did not disclose same-store sales data for the Grille.  Consolidated revenues of $61.949 million (+14.3% y/y growth) missed consensus estimates of $62.529 million by 93 bps.

 

Margins: DFRG suffered from margin deleverage in the quarter, primarily driven by two new Grille openings, the ongoing sales challenges in Phoenix, AZ and Palm Beach, FL, and persistent beef inflation.  Cost of sales surprised to the upside (+29 bps y/y) as restaurant level margins (-118 bps y/y) and operating margins (-218 bps y/y) fell short of consensus expectations.

 

DFRG: Timing is Critical - 22

 

Earnings: Adjusted EPS of $0.08 was in-line with expectations and notably stronger than last year's $0.02 loss.  Strength here was primarily driven by G&A leverage and the reduction of 165,496 shares of outstanding stock ($3.6 million in repurchases).

 

What We Liked:

  • System-wide same-store sales increased +3.7% on a calendar basis
  • Del Frisco's delivered its 19th consecutive quarter of comp growth (+8.4%)
  • Del Frisco's delivered an impressive +4.6% increase in customer counts
  • The natural hedge of the Grille should help mitigate food cost inflation as it becomes a larger part of the portfolio

 

What We Didn't Like:

  • Top-line miss
  • The reliance on share buybacks to hit bottom-line estimates
  • Persistent beef inflation with no end in sight
  • Restaurant level margin deleverage
  • Operating margin deleverage
  • Sullivan's rapid -6.7% decline in guest counts
  • Ongoing weakness at the two Grille's in Phoenix, AZ and Palm Beach, FL
  • 2013 class of Grille's continue to perform below the level of both 2011 and 2012 classes
  • Sullivan's continues to be a drag on the company
  • Grille continues to be an unproven growth concept
  • Management approved another $25 million in share repurchases over the next three years despite no FCF generation

 

Research Recap

DFRG: New Best Idea Short (06/12/14)

DFRG: A Castle-in-the-Air (07/02/14)

DFRG: Thoughts into the Print (07/21/14)

DFRG, EAT: Covering Our Shorts Given Strong Knapp Sales (10/09/14)

 

DFRG: Timing is Critical - 3

 

 

Call or email with questions.

 

Howard Penney

Managing Director

 

Fred Masotta

Analyst

 


Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.28%
  • SHORT SIGNALS 78.51%

THE HEDGEYE MACRO PLAYBOOK

Takeaway: Our Macro Playbook is a daily 1-page summary of our core ETF recommendations, investment themes and proprietary quantitative market context.

CLICK HERE to view the document. In today’s edition, we highlight:

 

  1. Why we think you should remain as defensive as you can within the context of your investment mandate
  2. What would get us to back away from our bearish view(s)... as opposed to getting more conviction on the bearish side as we are doing today
  3. Drawing the line in the sand on small caps; we think that equity style factor remains a bubble that is in the process of blowing up

 

NOTE: Going from ~80% net long to ~60% net long does not qualify as "downside capitulation" in our playbook. Remembering who else is in the "pool" with you is definitely something to keep in mind as you attempt to risk manage the immediate-term volatility of the equity and credit markets. We have gone over the waterfall...

 

Best of luck out there,

 

Darius Dale

Associate: Macro Team


You Will Survive

This note was originally published at 8am on October 02, 2014 for Hedgeye subscribers.

“Did you think I’d lay down and die? Oh no, not I – I will survive.”

-Gloria Gaynor

 

I’m thinking some of the bond bears need some love this morning, so I thought I’d bring you some of that with Gloria Gaynor’s 1978 Grammy Award Winning disco love track, I Will Survive!

 

“At first I was afraid… I was petrified.

Kept thinking I could never live without you by my side…

But then… I grew strong. And I learned how to get along”

 

‘Oh, as long as I know how to buy the Long Bond, I will get along… I know I will stay alive. And I’ll survive. I will survive! Hey, hey…’

 

You Will Survive - gg1

 

Back to the Global Macro Grind

 

Being born in the 1970s, I still get what living without all of the entitlements in the world means. Savings matter. So does saying thank you to the people who helped bring me along in my #blessed life.

 

One of the greatest gifts I’ve ever received was the time in which I entered this business. From my first trading internship at Williams Trading in the summer of 1998, to my first job @FirstBoston in 1999, I saw both the hedge fund business hockey stick and the Tech #Bubble manifest, then collapse.

 

For my 1st three years on the buy-side, the SP500 was down on the year (2000, 2001, 2002), so I learned how to A) not lose other people’s moneys first, then B) get really long when people hated stocks in 2003-2006. Oh, and then another #Bubble in 2007. Market crash. Epic recovery. Then this…

 

But what is this?

 

I’ll go through what I think this is on our flagship research call (Q4 Macro Themes) today at 1PM EST (ping Sales@Hedgeye.com for access). But to summarize it in hash tag terms, here it is:

 

  1. #Quad4 – where both US growth and inflation (in rate of change terms) are slowing, at the same time
  2. #EuropeSlowing – and why Draghi’s central planning drugs will be hard pressed to arrest it
  3. #Bubbles

 

Oh, yes. #Bubbles.

 

How does your portfolio survive an early cycle global recession as asset prices are deflating and #Bubbles are popping?

 

  1. Raise Cash  (mine is at 62% in my asset allocation model this morning)
  2. Be big on the long side of Long Term Treasuries (TLT, EDV, etc.)
  3. On pullbacks add to Munis, and maybe some Healthcare and Consumer Staples stocks

 

While this call may have sounded aggressive with the 10yr UST yield at 2.63% less than 3 weeks ago, it should have. While I don’t get paid like I used to (just putting the position on, in size), I still wake up at 4AM wanting to win, just like you do.

 

In Signal Terms (Real-Time Alerts), I issued 33 SELL signals (13 BUYS) in the month of September. Most of the sells were in US and European equities. Most of the buys were bonds. And I’d still buy more long-term bonds if there’s another opportunity!

 

When something big and contrarian like this is going your way, you don’t run for the exits during no-volume market head-fakes. You press it (or, as the great Stan Druckenmiller would say, “you spread your wings”).

 

That said, almost 100% of the questions I got in mid-September had to do with:

 

  1. Selling Bonds
  2. Buying Stocks

 

When the right questions should have been:

 

  1. How big do I make the Long Bond position on the recent pullback?
  2. How big do I get on the short side of the Russell 2000’s liquidity trap?

 

Markets don’t go from #bubble mode to buys on a -3.2% correction (that’s where we are for the SP500). However, on a -10.2% draw-down (Russell 2000’s drop from its all-time #Bubble high on July 7th 2014), levered long players start to freak out.

 

As they should.

 

What is the catalyst to reverse the Long Bond’s (TLT) total return of over +18% (vs Russell -7% YTD loss)? I don’t think there is one. If there is one catalyst we have been warning investors of all year long that matters most here, it’s the cycle.

 

That is it. The cycle, slowing.

 

And if one ISM slow-down print (yesterday’s was reported at 56.6 for SEP vs 59.0 for AUG) can smoke the 10yr Treasury Yield down to 2.39% in a day, what do you think the next bad jobs report and/or US GDP miss is going to do?

 

Personally, I don’t say buy FogDog.com or the FireEye on that. Stay with our Macro Playbooks, and you will survive this #bubble.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 2.36-2.53%

SPX 1927-1963

RUT 1067-1118

VIX 14.84-17.93

EUR/USD 1.26-1.28

WTI Oil 89.01-92.14

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

You Will Survive - UNITED STATES


The World Changed

Client Talking Points

YEN

The Yen breaking out now on my immediate-term risk duration (vs. USD); breakout line = 107.79 and it’s important to realize how much Correlation Risk was embedded in macro markets during the biggest USD ramp since 1997; Nikkei does not like this USD reversal, down another -2.2% overnight to -8.2% year-to-date.

EUROPE

They tried bouncing the DAX and FTSE early this morning, but the rest of the European equity market faded to red in a hurry. Italy and Spain are down again; Greece and Portugal are both #crashing (again) at -23.5% and -21.6% year-to-date, respectively. Draghi’s drugs didn’t stop gravity #EuropeSlowing.

OIL

If what’s going on from a #Quad4 deflation perspective in Oil and related energy stocks (XLE -11.1% for OCT) isn’t telling you the world changed, it should. These draw-downs are both nasty and pervasive. Chasing a Russell #bubble bounce when it is in freefall is as risky as it gets during a macro phase transition like this – stay hedged!

Asset Allocation

CASH 70% US EQUITIES 0%
INTL EQUITIES 0% COMMODITIES 3%
FIXED INCOME 24% INTL CURRENCIES 3%

Top Long Ideas

Company Ticker Sector Duration
EDV

The Vanguard Extended Duration Treasury (EDV) is an extended duration ETF (20-30yr). U.S. real GDP growth is unlikely to come in anywhere in the area code of consensus projections of 3-plus percent. And it is becoming clear to us that market participants are interpreting the Fed’s dovish shift as signaling cause for concern with respect to the growth outlook. We remain on other side of Consensus Macro positions (bearish on Oil, bullish on Treasuries, bearish on SPX) and still have high conviction in our biggest macro call of 2014 - that U.S. growth would slow and bond yields fall in kind.

TLT

We continue to think long-term interest rates are headed in the direction of both reported growth and growth expectations – i.e. lower. In light of that, we encourage you to remain long of the long bond. The performance divergence between Treasuries, stocks and commodities should continue to widen over the next two to three months. As it’s done for multiple generations, the 10Y Treasury Yield continues to track the slope of domestic economic growth like a glove. We certainly hope you had the Long Bond (TLT) on versus the Russell 2000 (short side) as the performance divergence in being long #GrowthSlowing hit its widest for 2014 YTD (ex-reinvesting interest).

RH

Restoration Hardware remains our Retail Team’s highest-conviction long idea. We think that most parts of the thesis are at least acknowledged by the market (category growth, real estate expansion), but people are absolutely missing how all the pieces are coming together to drive such outsized earnings growth over an extremely long duration. The punchline of our real estate analysis is that a) RH stores could get far bigger than even the RH bulls seem to think, b) Aside from reconfiguring 66 existing markets, there’s another 19 markets we identified where the spending rate on home furnishings by people making over $100k in income suggests that RH should expand to these markets with Design Galleries, and c) the availability and economics on large properties for all these markets are far better than people think. The consensus is looking for long-term earnings growth of 28% -- we’re looking for 45%.  

Three for the Road

TWEET OF THE DAY

VIDEO | I Talk Market Mess With @MariaBartiromo @FoxBusiness http://app.hedgeye.com/media/1313-video-keith-talks-market-turbulence-with-maria

@KeithMcCullough

QUOTE OF THE DAY

The way I see it, if you want the rainbow, you gotta put up with the rain.

-Dolly Parton

STAT OF THE DAY

The UST 10YR Yield at 2.06% has crashed, down -32% year-to-date.


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