Investors are jockeying to find the bottom of an epic oil plunge that saw prices crash as much as 59% since June.
Takeaway: We are adding Utilities to Investing Ideas.
Please note that we are adding Utilities (XLU) to Investing Ideas today.
According to Hedgeye CEO Keith McCullough:
Keep playing my macro view forward...
Bad jobs report could very well:
1. Weaken USD
2. Strengthen Oil
3. Ramp The Long Bond
And give a relative bid to any major US Equity Sector Style that looks like a bond.
Ah, the Utilities - hated, probably. Making people money, definitely.
Our macro team will further outline our bullish thesis in this weekend's edition.
YUM remains on the Best Ideas list as a long.
YUM reported 4Q14 adjusted EPS of $0.61 (-29% y/y), well short of the $0.66 consensus estimate. Despite this, strong relative topline trends appear to have saved the day. China delivered a better than feared comp of -16% (-19% est), while Taco Bell (+6%) and KFC (+4%) also exceeded consensus estimates. Pizza Hut (0%) fell short of feeble estimates, which is particularly disappointing considering the new menu and “flavor of now” launch. Needless to say, this quarter did nothing to dismiss our view that the Pizza Hut business should be sold
China's Woes Persist
The majority of the earnings call was spent talking about the pace of the recovery in the China business. Management hinted that things are progressing slower than they originally imagined and voiced at the December analyst day in NYC. In our view, setbacks like this are what will push an activist to get involved in the name. To be honest, management deserves a lot of credit for building a strong business in China that has proven to be very profitable in the past. But it’s been two painful years and misjudging the pace of a recovery is not encouraging. The perception that they don’t have a handle on this business, to whatever extent it may be, simply adds fuel to the activist fire.
Clearly, the top priority is getting China KFC back to 2012 form which, management estimates, would add $1.7 billion in incremental revenue. KFC’s average unit volumes in 2014 were 20% off their peak levels, thanks in large part to back-to-back supplier incidents. But consumer scores appear to be improving in the region, which should lead an acceleration in comps. The team also has two menu revamps scheduled in 2015 and the rollout of premium coffee which will be in 2,000 restaurants by year-end. Pizza Hut is much less of a concern and is trending in the right direction.
Estimates Need to Come Down
Despite a slower than projected recovery in the China business, management reiterated its FY15 EPS growth goal of “at least 10%.” This, in and of itself, looks like a tough hurdle and is dependent on a strong second half recovery in China. The street, modeling 15% growth, will need to bring their estimates down.
We expect the stock to be range bound for the first half of 2015, until we see a material uptick in the business. It won’t be smooth, but we continue to like the long setup here given limited downside and the potential for significant upside. There are a number of levers management can pull to immediately create value, the easiest of which would consist of undergoing a leveraged recapitalization to bring its debt ratio in-line with peers. Management may be getting the benefit of doubt for now, but if the anticipated second half snapback doesn’t materialize, they will face serious pressure to make a transformational transaction.
Source: Company Filings
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Market factors are contextualized differently based on our own trials and errors, experiences, and personal biases. As a sell-side independent research firm, we believe our process is positively differentiated with the active risk management overlay to our research. With this model comes the responsibility to consistently communicate and revisit this process.
Volatility in oil (and across asset classes for that matter), hit historic lows this summer at the highs in crude oil. The OVX index bottomed in June and reached its highest point yesterday since 2008.
The question then becomes, does the 3-day rip in energy prices and oil volatility starting last Friday support the case that oil has found real support in the $40’s?
We outlined the fundamental factors in the energy space moving to support prices, but the other side of our process tells us to fade this move for now. If history is any indication, two conclusions about prices and volatility in oil markets can be made:
1) Volatility’s relationship with price looks very similar to equity markets. Volatility and price have a tight inverse correlation
2) The U.S. dollar is a leading indicator for big turns in prices and volatility
Regarding the first point, the 3-month, 1-year, and 3-year correlations are straightforward between WTI and WTI volatility and also WTI vs. the OVX Index. The short-term reversal is a counter-TREND head-fake.
If you get the outlook for the U.S. dollar right you’ll get a lot of other things right. The dollar tends to lead turns in the oil market, as it has in each of the last four big downturns in oil. Our view on the outlook for the dollar is always communicated clearly (see this morning’s edition of the Hedgeye Macro Playbook for a refresher).
We covered our OIL SHORT position yesterday, our COPPER SHORT position today, and our USD LONG today. With the GDP miss and a preponderance of bad economic data, a bad jobs report tomorrow could be a catalyst for a near-term pullback in the U.S. dollar leading up to the Fed meeting in March.
The table below shows the performance of the U.S. dollar and OVX indices for the last four >20% peak-to-trough moves in oil along with a few supporting charts:
Looking at OVX vs. the USD, longer-term they are positively correlated. A USD break-out to the upside has never been met by a sustained pullback in OVX.
OVX vs. WTI vs. USD
3-Month WTI Volatility Index vs. Price
We sent our first short oil signal via OIL to RTA subscribers on Monday at $11.22 (3:22 p.m.). We were early and shorted more on Tuesday at $12.02 (3:15 p.m.) for an average cost basis of $11.62. The position was covered yesterday at $11.01 (3:44 p.m.).
We will continue to short on strength on these exhausted moves to the upside unless the model tells us differently (bottoms are processes, not points).
We anchor on price, volume, and volatility factors for market signals within intermediate to longer-term market TRENDs for generating buy and sell signals.
To use the example of oil, what we would want to see for bullish confirmation is:
- rising price
- rising volume and open interest; On the back of
- decelerating realized volatility; And,
- a deceleration in front-month implied volatility
Rising volatility on the up move against a counter-TREND move (down dollar within a BULLISH TREND) is a leading indicator of continued volatility and widening risk ranges (more downside on the move back down)
The following link is a clip explaining this process on yesterday’s morning macro call:
“Oil had an epic move to the upside but on increasing volatility (OVX). Rising vol. while prices are rising on a counter-trend move (Bad econ, dollar down, commodities up) is not a good signal. While trending implied volatility in S&P front-month VIX hasn’t broken its bullish trend (still bullish). A widening range is a leading indicator for rising volatility.”
We often reference widening volatility as a signal for widening risk ranges, but these are in some ways complements of one another.
When volatility is increasing, the exhaustion points on both sides of a market (resistance bands) are farther away from where it is currently.
More involved than just using standard deviation to bet on a reversion, the volatility assumption is key to modeling the probabilistic expectation for different price movements.
For our bearish bias to be changed we need what look like longer term resistance levels to break and hold (the intermediate and longer-term lines did not on last Friday or Tuesday’s move). the price reached the top-end of our IMMEDIATE-TERM risk ranges, we is why we blasted the sell signal to subs.
Our intermediate-term TREND line (3-months or more) in oil is up at $56.68. Unless oil can break that line and hold, we’re viewing it with an intermediate-term bearish bias, and we’ll short on green and cover on red. By modeling this longer-term TREND we don’t capitulate on our thesis based on the day-to-day battle between all the robots.
Let’s get this straight: First they had the rate cut… then they had the rumor of the rate cut… then they had the rate cut, after the rumor of the rate cut…and the stock market went down.
The Shanghai Composite was down -1.2% overnight, and is now down 6 of the last 7 days to -3% year-to-date.
It’s now bearish on our trend duration, with the immediate-term risk range for the Shanghai Composite at 2917-3212.
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Takeaway: Hibbett Sports Black Book. Friday, February 6th at 11:00am ET.
Please join us tomorrow, Friday, February 6th at 11:00 am ET when we'll be hosting a call to review our next Black Book on Hibbett Sports.
Since we launched our 90-page Athletic Black book in late December and our 60-page Short Foot Locker Black Book a couple weeks ago, Foot Locker has been something of a lightning rod, accounting for a disproportionate amount of our call volume. But we don't think that people are as focused as they should be on HIBB, which has major downside in the model.
Like in our Foot Locker Black Book, we’ll be doing a thorough deep dive into every line item and business driver for HIBB.
Here’s Just a Few of the Topics We’ll Hit On
1) Store footprint potential vs what we see today.
- HIBB overlap analysis with Dick’s, Academy, and Sports Authority – how much quality growth is left?
- Opportunity to take productivity higher via mix, with all else equal.
- Trends in pricing vs mix, and why it leaves little upside in the model from here.
- Productivity and profitability if ‘Nike ratio’ shrinks – either by design or by misfortune.
- Impact of category trends on productivity.
3) e-commerce. One of our key points is that store sales (barring 6% industry growth) will never grow again. In that regard…
- What is the company’s installed investment base to facilitate e-commerce growth going forward.
- How do consumers use the retail site as opposed to going to the Brand directly.
- What are ‘free shipping’ trends in the Athletic space, and what are the ensuing margin implications.
- Which retailers have the greatest risk as Nike goes more direct? When and where should we see it?
4) What SG&A levers can HIBB pull if the gross profit algorithm rolls.
HIBB Call Info (Friday 2/6, 11:00 am ET)
Participant Dialing Instructions
Toll Free Number:
Conference Code: 38877775
Materials: CLICK HERE
The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.
LONG SIGNALS 80.52%
SHORT SIGNALS 78.68%