[VIDEO] #RatesRising: Q3 Macro Theme #1


‘POP!’ goes the bubble as interest rates start to rise, reversing the most asymmetrical set of relationships on our Macro screen. Hedgeye CEO Keith McCullough goes out a macro limb and says we are not likely to see the 2012 lows on 10-year bond yields ever again. Moreover, McCullough shows that as the slope for interest rates turns up, so much that has been tied to declining rates will unravel.


PENN in line with recently reduced estimates but guidance far worse than consensus. Demographic headwinds continue to pressure revenues.



 “Given the trends from the first two quarters, results thus far in July, and a lack of visibility on factors that would improve national regional gaming revenue trends, we are guarded in our outlook for the remainder of the year. 


-Peter M. Carlino, Chairman and Chief Executive Officer of Penn National Gaming




  • 2Q was disappointing 
    • General softness through most of the properties
    • Cannibalization effect was already taken into their guidance
    • Missed expectations mainly due to slow Ohio ramp
  • Lower trip visitation across mature properties; a different trend from spend per visit weakness in the past
  • Hollywood St. Louis:  tornado impacted 1st couple days in June; facility had some damage but nothing long-term. Significant construction disruption in 2Q as they rebrand to Hollywood.  About 5 months of construction left.
  • Lawrenceburg:  impacted by Horseshoe Cincinnati's aggressive promotional discounting. PENN views the promotions as 'insane'.
  • Toledo:  margins continue to get better but below mgmt expectations.  Expect year 2 to be better than year 1. Worried about Greektown ownership and potential to be Cincinnati-like.
  • Maryland Live! operators have been rational.  Charlestown in-line with expectations.
  • Columbus:  performance below expectations - had expected to be market leader.  50/50 share with Scioto Downs even though they outspend PENN 2:1
  • Ohio will take time to ramp
  • Ex all the noise, 2Q was really a miss of $15MM.  Previous guidance had priced in a much better 2nd half of 2013.
  • Confident Columbus will eventually get to cash-on-cash 20% return
  • Level of construction disruption have been higher than expected
  • Baton Rouge/Maryland have suffered from cannibalization but mgmt have expected those

Q & A

  • July trends:  looking like June
  • Reduced trips trend:  customers visitation patterns have lessened (down a couple of % points); consumers more conservative with their discretionary spending
  • Lower guidance breakdown:  $15MM Ohio EBITDA guide downs each for 3Q and 4Q (assume Ohio market share and margins to remain constant), bonus/legal costs are a couple of million due to Sioux City, St. Louis expectations brought down.
  • Penn National will have a 3Q report
  • Borrowing costs have not been changed
  • 2Q Cash: $235MM; bank debt $2.137BN, capital lease: $13MM, bonds: $325MM - total debt $2.476BN
  • 2Q capex $53.9MM ($23.9MM Maintance capex, $30MM project capex (Columbus-- little less than 1/2 the balance, Hollywood St. Louis spent $9.4MM) 
  • 2013 capex guidance: $196MM project capex
  • Dayton/Youngstown: will be conservative with slot count;
  • Slot licene Massachusetts: still speculative stage; 1,250 slot units 
  • Diversify outside regional gaming? Highly focused on gaming
  • Should compare Columbus to Kansas City, Missouri
  • Conservative guidance? It's realistic.
  • Lowered cash component of E&P distribution to $294MM - came to conclusion of similar debt leverage for both companies; to reduce amount of borrowing, they had to reduce cash.
  • PropCo dividends:  if they lose Sioux City, it will have a minor effect on dividends; expect to see increase in Toledo/Columbus rent in 2014
  • To fund acquisitions, they will use secondary equity offerings that will be accretive to shareholders
  • Promotional activity: Cleveland/Cincinnati are high. Are reinvesting with VIP slot players, particularly female ones
  • No obstacles with REIT spin-off process
  • Columbus: can get to 30% margin
  • 2014 EBITDA should be 'clearly higher' than the 2013 guidance of $805MM
  • Internet Ohio cafe ban:  Governor has given cafe operators 90 days to collect their signatures. Senate legislation has passed a bill enforcing the ban; hopeful the House will come back in early September and support the bill.
    • In PENN survey, 10% of respondents have been to an Internet cafe


Takeaway: CPS household formation data has been a good leading indicator for housing's momentum. This morning's June data is the strongest YTD.

This note was originally published July 16, 2013 at 16:04 in Financials

One of Housing's Leading Indicators Grows Increasingly More Positive

The latest household formation data is solid - a sequential acceleration. The Census Bureau just released its June household formation survey data, which showed that at the end of June there were 122,881,824 households in the United States. This data comes from their monthly phone survey of 50,000 households, which is statistically representative of the country as a whole.


The proper contextualization is to look at the rate of year-over-year growth since the data is not seasonally adjusted. On that basis, the U.S. added 1,507,553 net new households vs. June 2012. This is a rate in excess of the 2011-Present average of 1,391,889. In the charts below we present various snapshots of the trends in household formation. Most of the data is self-explanatory, however, the hatched red line in the second chart, for clarification, shows the rolling 12-month average rate of YoY growth. That figure currently stands at 1,655,470 through June. 










We wrote a note recently (May 15) entitled "Housing: A Double From Here?", in which we argued that the rate of building construction could double from present levels to ~2 million starts/year over time. For the detailed take on why we think that's likely, refer to our note. The executive summary, however, is that by applying the JCHS ratio of 1.35-1.39 new housing units to net new household formations (see the table above), and using the current rolling average rate of household formation, we find that we would need (1.655 * 1.35) =  2.2 million new starts. Using just the June data, we find a need for (1.507 * 1.35) = 2.03 million new housing units. For reference, this compares with the 0.914 million starts rate for May. We'll get the June data tomorrow. This morning's NAHB HMI builder confidence reading of 57, a 6 point month-over-month increase, also concurs with the trends we're seeing in HH formation.


The ratio of single-family/multifamily is open for debate, but we looked at this issue in our note (June 5) "Housing: Are Rising Rates a Big Deal", and concluded that a) ownership remains highly compelling vs. renting at the national level in spite of the recent back-up in rates, and b) the ratio of single family to total has averaged 72% since 1960 and is currently at 72%.


Last month we cautioned that in light of the recent run-up in rates, it would be more instructive to watch HH formation trends in June/July. Now, with the June data in hand, we think there's growing evidence that the rise in rates thus far hasn't derailed the housing recovery's momentum.


Joshua Steiner, CFA



Jonathan Casteleyn, CFA, CMT



Morning Reads on Our Radar Screen

Takeaway: A look at stories on Hedgeye's radar screen.

Keith McCullough – CEO

Japan upgrades economic assessment (via UPI)

Brazil Cuts $4.5 Billion in Spending to Meet Fiscal Goal (via Bloomberg)

Syria conflict: Top US general outlines military options (via BBC)


Morning Reads on Our Radar Screen - radar


Daryl Jones – Macro

VIDEO - Southwest's LaGuardia Airport Landing Gear Collapse Results In Injuries (via HuffPost)

Great Graphic: European Unemployment and Science and Technology (via Marc to Market)


Josh Steiner – Financials

#BallooningPensionCosts Snapshot of pension cost increases from 2011 to 2013 across various muni jurisdictions of NY (via RocDocs)

Jonathan Casteleyn – Financials

Biggest Banks Face Fed Restoring Barriers in Commodities (via Bloomberg)


Tom Tobin – Healthcare

Waters Corp. (WAT) Announces Quarterly Earnings, Misses Expectations By $0.13 EPS (via WatchList News)


MCD remains on the Hedgeye best ideas list as a SHORT.


The company reported disappointing 2Q13 results relative to expectations yesterday, adding merit to our view that management remains hard-pressed to improve MCD’s operational performance.  Importantly, we fail to see any indication that these changes will transpire soon.


MCD continues to blame a “challenging environment” as the largest contributor to the company’s issues without any mention of internal operational issues.  According to management, all 2013 product launches are working and achieving internal growth targets.  Despite this, same-store sales are missing expectations.


Until management acknowledges the internal challenges it faces, disappointment relative to expectations will persist.




  • Flat to declining markets – from an IEO perspective, the company is seeing contraction in 7 out of 11 of its top markets
  • No pricing flexibility – MCD’s price increase was 1.5% at the end of 2Q13, down 120 bps from 2Q12
  • Increasing cost pressures across the P&L – management needs to cut G&A in order to hit the numbers
  • Increasing competition – Wendy’s, Taco Bell, and others are outperforming McDonald’s



  • The financial fundamentals of the company remain strong
  • The McDonald’s asset base is strong – more than half of its global stores reflect the current contemporary look



  • The company guided to flat July global same-store sales versus expectations of a 2.9% increase and expects the rest of the year to remain challenging
  • Management blamed the “challenging environment” for the decline in same-store sales rather than take responsibility for the poor results
  • Germany (MCD’s biggest international market) sales trends are negative and there does not appear to be a viable plan to fix this
  • France and other key markets in Europe are cutting labor costs (i.e. realized labor productivity gains), which is a red flag in a declining same-store sales environment
  • Cutting G&A in the current environment is also a sign of weakness and a major red flag – lower incentive compensation and efficiency gains are unsustainable
  • Lower unit growth in China means that I lost a bet to Tim Jerzyk, formerly of YUM









MCD – OWNING UP? - MCD Global Now




Howard Penney

Managing Director

SEC on “DTC Chills & Freezes”

By Moshe Silver


The SEC’s Investor Education office tweets an Investor Bulletin explaining DTC chills and freezes (see full text here).  Earlier we reported on a tweet regarding Trading Suspensions.  The SEC's latest message is a bit more arcane, covering an organization that you may not even have known existed, and that exercises broad control over the investment markets, and over the stocks you own, and whose inner workings are often cloaked in secrecy (Edward Snowden, are you listening?)


SEC on “DTC Chills & Freezes” - twi88


Depository Trust Corporation – DTC

The DTC is the largest securities depository in the world, holding some 3.6 million different securities issues, worth around $35 trillion.  Says the Bulletin, the DTC’s brief is “to improve efficiencies and reduce risk in the settlement and clearance of securities transactions.”  DTC accepts deposits of securities from its participating member banks and brokerage firms, and manages the holdings through book-entry recording.  When customers buy and sell stocks, DTC makes the corresponding entries, moving securities from the firm that sold them, to the firm that bought them, both for the benefit of their corresponding customers.


DTC also has frequent interaction with issuers and their transfer agents for ensuring proper crediting of dividend payments, for distributing proxy statements, for corporate actions, and for maintaining accurate share counts.


The Big Chill

Even though it sounds like something you’d enjoy in the midst of this heat wave, a “DTC chill” is definitely not something you want, and a “Freeze” is something you really don’t want.


DTC “chills” a security by restricting one or more services, often while waiting for a problem to be resolved.  As you might have guessed, a “Freeze” is when DTC suspends all services relative to a security.  If DTC believes a transfer agent is not complying properly with DTC requirements around transfer of an issuer’s securities, DTC may chill the security by halting transfers until it resolves the matter with the transfer agent.  Such chills are often resolved in a reasonable time frame, allowing shareholders to resume trading their securities.  Also, DTC chills book-entry transfers during a corporate re-organization, then un-chills once the re-org is complete.


The chills and freezes you need to worry about are those where DTC has been informed there may be a legal problem surrounding an issuer or a particular security.  For example, on July 3rd the SEC announced a “freeze on proceeds from unlawful distribution” of shares of a company called Biozoom


The SEC had already suspended trading in the shares at the end of June, citing a “lack of current and accurate information.”  DTC filed a freeze on Biozoom shares (“suspension of DTC services notice 1177-13) on July 19th.  The SEC has charged eight Argentine nationals with the illegal sale of millions of shares of Biozoom, netting about $34 million.  Assets in US-based accounts of those charged were frozen, but not before $17 million was wired overseas.


What Should You Do?

The SEC recommends that, before buying a security you have never heard of, investors should ask their broker whether there have ever been any DTC restrictions placed on any securities of the issuer.  Unless the security is currently frozen by DTC – in which case it may be illegal to solicit trades in the security at all – your broker will probably not know the answer.  The SEC suggests you ask them to have their Compliance Department check.  The information is easy enough to obtain.  And, for the investor, worth the wait.


Better yet, we recommend you exercise reasonable caution in your investing.  It may be appropriate for you to have a High Risk component to your portfolio.  That doesn’t mean you should abandon common sense.  The SEC release says Biozoom, formerly known as Entertainment Art, Inc, “announced in April that it was changing its name and moving from producing leather bags to developing biomedical technology.” 


Call us unimaginative, but that doesn’t sound like a transferrable skill set.


Moshe Silver is a Managing Director at Hedgeye Risk Management and author of Fixing a Broken Wall Street.

Daily Trading Ranges

20 Proprietary Risk Ranges

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