Hedgeye CEO Keith McCullough shares the top three things in his macro notebook this morning.
Hedgeye CEO Keith McCullough shares the top three things in his macro notebook this morning.
Takeaway: Entering year 7 of margin expansion cycle - inventories look healthy, but cost pressures accelerating. JCP takeaways.
DEPT STORE SIGMA
Takeaway: Inventories look healthy coming out of 4Q. But, we think there is more margin headwinds facing this space than a clean balance sheet can solve for. The biggest factor on the gross margin line we're watching is shipping expense. KSS flat out said that a $25 free shipping threshold is unsustainable. TGT set the bar with a $25 minimum. And we think that has a ripple effect on the industry as retailers attempt to keep market share on the web.
***JCP reduced by a factor of 4 and JWN reduced by a factor of 2
We've never gone more than 5 years without a meaningful correction in EBIT margins. We're now entering year 7 as 2 of the biggest players in the space are making big moves that we think are pretty telling. On the employment front - WMT shook up the employment paradigm, and M, considered the best in breed, goes into investing mode.
JCP - 4Q14 Earnings
1. Mixed print, top line looked solid, but gross margins came in below expectations. The market is beating it up over that, but we’re more concerned about the comp. This is the 5th straight quarter where JCP has out comped KSS, and more importantly it lapped last year’s market share gains with another quarter of outperformance. Given what we’ve seen from a litany of retailers this holiday season on the comp line (BONT, BELK, DDS, JCP, ROST, etc.) and the fact that KSS had the most disastrous January last year – we think KSS’ big number is more a function of macro than it is the ‘Greatness Agenda’.
2. Margins came in 60bps below consensus, but were still up 540 bps. Guidance on that front 50-100bps vs. consensus at 140bps. We’re 100% ok with that. A desperate JCP is much more bearish for a healthy KSS.
3. Brick and Mortar sales productivity was up 3% in 2014 at $100 even. That’s still $45 off pre-RonJon peaks. That’s not something we can get excited about. We think that JCP will step up to $115 over the next 4 years, but a) that's a really long time, and b) we’d need to see a runway to $130 to get more positive on this name. We’re not there.
Abenobics did not work. Japanese JAN retail sales are down -2% year-over-year, JAN household spending is down -5.1% year-over-year, and JAN housing starts are down -13% year-over-year. But if you bought the Nikkei on that you crushed it, the Nikkei is up 7.8%.
The UST 10YR is oscillating between the current risk range of 1.84-2.08%, into the GDP missing which we have been calling for. On a quarter-over-quarter basis it was revised lower by -0.4 to 2.2%, slowing vs the 5.0% print for 3Q14. On a year-over-year basis it was revised lower by -0.10 to 2.4%, slowing vs. the 2.7% print for 3Q14. If you get the rate of change of U.S. growth right you tend to get bond yields right.
The USD had a huge move to the upside yesterday, it will be interesting to see what happens today. The trend is your friend in the USD, as you know we like the USD. The USD going up and rates going down = deflation. We are going to have more and more deflation going into May and June, you are going to continue to see slower global growth and we will continue to reiterate the long bond call as a result of that.
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You want to own the Vanguard Extended Duration Treasury (EDV) in this current yield-chasing, growth slowing environment. The trend in domestic growth continues to signal growth slowing, and the counter-TREND moves we’ve seen over the last few weeks (@Hedgeye TREND is our view on a 3-Month or more duration) remain something to fade until we can see more follow-through that growth is trending more positively (second-derivative positive).
Low-volatility Long Bonds (TLT) have plenty of room to run. Late-Cycle Economic Indicators are still deteriorating on a TRENDING Basis (Manufacturing, CapEX, inflation) while consumption driven numbers have improved. Inflation readings for January are #SLOWING. We saw deceleration in CPI year-over-year at +0.8% vs. +1.3% prior and month-over-month at -0.4% vs. -0.3% prior. Growth is still #SLOWING with Real GDP growth decelerating at -20 basis points to +2.5% year-over-year for Q4 2014.The GDP deflator decelerated -40 basis points to +1.2% year-over-year.
Hologic (HOLX), at this stage in their product cycle and in the current stage of the economic cycle, has some very impactful tailwinds emerging to their revenue growth and the implied growth in the future. A stock generally will perform really well when doubt about future growth turns to optimism while the most recent data confirms the optimism. So far, we have a little bit of both; recent positive data like the December 2014 quarter upside and consensus estimates and ratings starting to move off of multi-year lows. A less-worse trend in Pap testing and rising patient volume can combine to get us close to flat for HOX’s Cytology (Pap) business. As the growth in Cytology improves and is less of a drag, the 3D Mammography growth can flow through. We think the outlook is bright, and with a few more data points, we think a lot more investors will agree with us.
Central Bankers Have Lost Control, Setting Stage For Market Crash https://www.youtube.com/watch?v=ZkTDUqaD7QU&feature=youtu.be via @YouTube
Freedom lies in being bold.
Since 2008 the correlation between housing equities and the year-over-year rate of change in HPI (House Price Index) has been 0.90.
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IGT chairman Phil Satre will serve as the new company’s chairman and IGT chief executive Patti Hart will become vice chairman.
Takeaway: Not a lot of senior management from the IGT side.
Aristocrat - Video Gaming Technologies (VGT) acquisition has been “highly accretive” to Aristocrat’s U.S. operations, more than tripling U.S. recurring revenue, said Aristocrat’s CEO Jamie Odell. He added that the group expected increased debt levels associated with the VGT acquisition, as well as “a significant increase in interest costs” over the 2015 fiscal year.
Inbound visa policy - Macau’s Secretary for Social Affairs and Culture Alexis Tam Chon Weng says the Macau government does not wish to reduce the number of mainland visitors coming to Macau. It wishes instead to “improve” the issuance of visas to independent travelers from mainland China under the mainland’s Individual Visit Scheme (IVS), according to a statement from Macau’s Government Information Bureau.
Tam on Thursday said the local government would approach the central government in Beijing to discuss how to control the issuance of visas under the IVS policy. Tam admitted that the tourism industry has shown some concern over the government’s plans, but said that the 31 million-plus visitors that came to Macau in 2014 are more than enough.
The Portuguese-language channel of Radio Macau quoted Mr Tam saying that the new policy would have to be introduced “gradually”. He added that in his view a limit around the current 31 million visitors a year “wouldn’t be bad,” Radio Macau reported.
Takeaway: Tam seems to be backtracking a little bit on his previous comments. However, the casino industry needs growth not a freeze at 31 million visitors.
Russia - The parliament of South Ossetia, which broke away from Georgia in 1990, has passed a law banning all gambling activities on its territory.
The region, which has close ties with Moscow, has ruled all slot machines, sports betting shops and bookmakers’ offices should be closed.
There are all indications now that the first hotel in the Primorye gambling zone will be opened in March, as initially planned. Work on its interior finish began earlier this week. But levels of investment across the zones varies widely.
Primorye officials in January said the region had received pledges of investment for about $2.2 billion.
Gongbei Tunnel - slated for completion in 2016. The construction of one of the main segments of the ‘super project’ Hong Kong-Zhuhai-Macau Bridge – the Gongbei Tunnel – is slated for completion by the end of 2016, according to Xinhua News Agency.
Takeaway: Build more transportation infrastructure but limit tourists. Makes sense. Most of the infrastructure projects have been delayed. Will this one complete on time?
Indiana land bill - The Indiana House voted (House Bill 1540) in favor to let riverboat casinos move onto land and to allow live dealers at Indiana’s two racinos. However, Gov. Mike Pence has stated that he opposes any expansion of gambling. Pence added another wrinkle this week when he worked behind-the-scenes to oppose a provision of the bill that would allow live dealers for games like blackjack and poker at racinos in Anderson and Shelbyville.
The state’s current gambling laws allow live table games at riverboat casinos, but only slot machines and electronic games at racinos.
Takeaway: Indiana is facing tremendous competitive pressures and any part of this bill would help.
Olympic betting - Nevada gambling regulators voted Thursday to allow the state’s sports books to offer bets on the Olympics for the first time in years.
It was a move unopposed by anyone in the industry and cheered by the regulators themselves. International sports books in Great Britain, Ireland and Australia and offshore Internet sites already allow such bets.
Hotel developer interest in CBD - Interest has swelled for properties in densely populated urban corridors, whose demand drivers are pushing performance to historic heights. Hotels located in central business districts ended 2014 with higher occupancies (71.8% versus 63.7%), average daily rates ($157.82 versus $110.83) and revenue per available rooms ($113.35 versus $70.62) than their counterparts throughout the rest of the country, according to STR.
“From an investor perspective, the (real estate investment trusts) and some of the other public companies are generally focused on buying assets in some of those locations. If I’m a developer and I’m going to build a hotel, my universe of potential buyers might be a little bit higher and a little broader if I were to build in an urban location,” said Joel Eisemann, chief development officer of the Americas for InterContinental Hotels Group.
River cruise lines cancel Russia in 2016 - River cruise lines operating in Russia have announced cancellations and cutbacks for the 2016 river cruise season. AmaWaterways and APT Tours will both suspend operations in Russia in 2016, and APT Tours also has postponed the refurbishment of ms Anastasia -- a new addition to the line's fleet that was set to begin operations in Russia in May 2015.
Takeaway: Will ocean liners follow suit?
Hedgeye Macro Team remains negative Europe, their bottom-up, qualitative analysis (Growth/Inflation/Policy framework) indicates that the Eurozone is setting up to enter the ugly Quad4 in Q4 (equating to growth decelerates and inflation decelerates) = Europe Slowing.
Takeaway: European pricing has been a tailwind for CCL and RCL but a negative pivot here looks increasingly likely in 2015.
Takeaway: Disaster guidance release + premature debt service talk = deteriorating setup in a name that will struggle to tread water moving forward.
WTW's 2015 guidance came in $0.40-$0.70, well below consensus of $1.43 and our bear-bull case EPS range of $0.71-$1.09. Management guided to 2015 revenues of $1.2B (down -14% y/y), with the majority of that pressure coming from its core North America segment, which is expected to decline in the low-20% range. The more important note is that 2015 may wind up being WTW's worst winter selling season in its history.
2015 guidance is inclusive of its plan to cut $100M, but doesn’t include the associated $10M restructuring charge in 1Q. Management didn’t provide specific 1Q15 EPS guidance, but suggested that it expects to produce “marginally profitable” operating income, but expects to produce negative EPS. Management is essentially saying that it can’t cover its interest expense in 1Q15.
We're not sure why management chose to highlight its cash preservation priorities, and upcoming 2016 debt maturity, to a sleepy sell-side audience with a 3-yr track record of grossly overestimating WTW’s prospects (Note the disclosure came before Q&A started).
Management provided the following detail, which are hard to draw any confidence from. The basic math suggest that WTW is expecting to generate ~$90M in CFO in 2015, vs. the $232M it achieved in 2014. Further, management painted a picture that retiring its 2016 debt may be a challenge.
Now it’s all on the table; what were once whispers of a potential bankruptcy are now front in center on the street.
Not too much to add here since management didn't provide any incremental color on either the HUM deal or its Healthcare opportunity, which is central to its recovery plans. Our thoughts here haven't changed. We don't believe the actual opportunity is anywhere near its $300M estimate, but even if it is, it's small change relative to the $1.4B in 2014 revenues generated by its core business, which may be in secular decline.
2020 is still a whiles away, so way too early to say. But right now, it doesn’t seem that there is much management can do to avoid it. Aside from all the anecdotal chatter on how WTW can’t keep up with a rapidly evolving industry, its financials tells a more tangible story. WTW needs to aggressively invest in its business to get out of its hole; particularly marketing (ad campaigns)
However, increasing advertising spend may not be enough moving forward. Member acquisition costs (marketing expense/new member) have skyrocketed since 2011. WTW is now approaching the point where it is barely generating enough gross margin to cover its member acquisition costs.
Right now, WTW's 2015 guidance is essentially calling for Interest coverage ratio of ~2.0x, which means it doesn't have a ton of wiggle room, especially given its high fixed cost structure. Any gamble on investments and/or promotions (e.g. price cuts) could come back to bite them.
In summary, WTW needs to aggressively invest in its business to return to top-line growth, but its massive debt load ultimately limits most of its options.
Let us know if you have any questions or would like to discuss in more detail
Hesham Shaaban, CFA
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