This note was originally published at 8am on February 17, 2015 for Hedgeye subscribers.
“Exposing what is mortal and unsure…”
That’s from Act IV, Scene 4 of Hamlet, where Shakespeare goes on to question the motives of Norwegian crown prince, Fortinbras, who was marching his army into Poland to conquer an “eggshell.”
“Rightly to be great, is not to stir without great argument,
But greatly to find quarrel in a straw
When honor’s at the stake.”
That’s also a passage Peter Thiel effectively cites in chapter 4 of Zero To One, titled “The Ideology of Competition.” And I’m reminded of it this morning, after getting beat up by Mr. Macro Market last week.
Back to the Global Macro Grind…
To be beaten, or not to be beaten (by the market): that is the question. What makes me mortal certainly makes me unsure. And when the market goes against my preferred position, my mind stirs with great argument!
What happened in Global Macro last week was more of the same for the month of February to-date – a counter-TREND move. If you did the opposite of what worked in January, you’ve killed it in the last two weeks.
After Retail Sales, Jobless Claims, and Consumer Confidence (University of Michigan reading) missed, the US Dollar Index declined, and everything inversely correlated with Down Dollar ripped. Here’s how that looked, in rate of change terms, week-over-week:
Don’t cry for me Mucker? Or is that Argentina? You’re telling me you weren’t levered long Argentine inflation expectations and/or the Brazilian stock market last week? What is wrong with you?
Setting aside what would have been violently wrong with your returns for the last 3-6 months if you were long inflation instead of hedged vs. Global #Deflation, being long commodity levered and debt ridden nations last week was mint:
And, by the looks of it, Consensus Macro positioning (in CFTC non-commercial futures/options terms) got that right too:
That’s the other thing I got wrong last week – long-term rates went up another 8 basis points wk-over-wk on the 10yr UST Yield to 2.04%. The short-end of the curve (2yr UST Yield) was flat wk-over-wk at 0.64%.
But, with the 10yr Yield down -13 basis points YTD, Oil -2.1% YTD, and Dr. Copper -7.9% YTD, what is the #truth about the Global #Deflation TREND vs. the shorter-term FEB to-date TRADE?
Was Oil Volatility (OVX) down -8.7% last week a new intermediate-term TREND, or does the +223% ramp in Oil’s emotional state (OVX) in the last 6 months have something to do with what may be pending if Russia doesn’t bailout Greece? Or something like that…
“And let all sleep?
The imminent death of twenty thousand men,
That, for a fantasy and trick of fame,
Go to their graves like beds, fight for a plot
Whereon the numbers cannot try the cause?”
Though this macro uncertainty may be madness, there is method in’t.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 1.69-2.09%
Oil (WTI) 48.01-53.90
Best of luck out there this week,
Keith R. McCullough
Chief Executive Officer
CHUY delivered a low quality beat AMC yesterday and offered up a slightly disappointing outlook for 2015. We continue to believe CHUY will face issues as it seeks to backfill newer markets. Given the inherent lack of restaurant level and operating margin leverage in the model, one blip could dampen the 2015 outlook.
Low quality beat. While CHUY beat top-line estimates by $8 million and delivered in-line SSS of +3.8%, the overall quality of the print was rather weak as it came on the back of a lower than expected tax rate. Even though it was the company’s 18th consecutive quarter of positive comparable sales, it’s important to recognize that 1) the majority of the underperforming 2013 class of stores are not in the comp base 2) CHUY took ~2.8% pricing and 3) unit level margins declined for the second straight year with no turn in sight. This was not, by any measure, an impressive “beat” from CHUY and, remember, it comes at a time when the majority of restaurant chains are crushing it.
Disappointing guidance looks like a stretch. Guidance of +2.5% comp growth in 2015 was a little disappointing, considering the street’s +2.7% estimate and the +2.5-3% pricing in effect. Management also guided 2015 EPS in the range of $0.74-0.77 (street was at $0.77), while lowering their targeted new unit openings from 11-12 to 10-11, suggesting 17-19% year-over-year growth. Though it’s a slight step down from 2014’s unit growth rate of 23%, it’s not enough to make us forget about the costs and dilution associated with these openings. Let's briefly break down 2014: 23% unit growth, 20% revenue growth, 0% earnings growth. We haven’t seen anything that would suggest a change in the fundamentals at Chuy’s, making 11% earnings growth on 18% revenue growth more a pipe dream than a reality.
Don’t expect restaurant level margin expansion anytime soon. On the call, management hinted that non-comp unit level margins were running in the mid to high single digit range, a far cry from those of the mature base. While food cost inflation is expected to ease to +1-2% in 2015, labor costs are expected to add a bit of pressure due to increased training, staffing, and inefficiencies at non-comparable restaurants (particularly in 1H15). ACA, another headwind, is expected to result in an incremental $500,000 expense. Restaurant level margins have declined nearly 300 bps since FY12, when they were running close to 20.2%. Incidentally, this is right around the time management began aggressively expanding the concept outside of its core Texas market. Even with their altered strategic approach to restaurant development (focused on larger, denser locations), we believe the dilutive impact of this expansion on the P&L will continue to be quite noticeable.
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Takeaway: We are removing Hologic from Investing Ideas.
We are removing Hologic from Investing Ideas today.
According to Hedgeye's Healthcare team:
While 3D adoption continues to track closely with our long-term model, the 3D Tomo Tracker showed a deceleration in new placements in February from the prior month. Given the recent guidance raise we need to see a pickup in March placements for them to hit consensus expectations for the Breast Health segment.
In addition, as CEO Keith McCullough notes, equity market beta is at all time highs.
According to McCullough: "We can always come back to this name – right now we are booking the big win."
Hologic is up over +23% since it was added on 1/2/15 compared to around +3% for the S&P 500.
Click to enlarge.
We’re confident MCD will return to being a great company one day. But right now, it’s too early to call that turn – there’s a significant amount of work to do. More important, it’s yet to be determined if the new CEO is willing to make the difficult decisions necessary to move forward.
With that being said, we are adding MCD to our Investment Ideas list as a short.
MCD has risen ~11% since Steve Easterbrook was named the new CEO on January 28th, 2015. This week, he’ll be communicating his vision for the future of MCD at the “Turnaround Summit” in Las Vegas. Importantly, Mr. Easterbrook has only had ~32 days to circle the wagons and come up with a plan that will convey change and layout a vision for the future.
We suspect we won’t see the radical changes needed to set MCD on a better path anytime soon and, as a result, believe the stock is way ahead of itself.
Below is a laundry list of issues, or questions, the company is facing:
Recent action in the market appears to be signaling high expectations for the MCD “Turnaround Summit” in Las Vegas this week. We suspect the news flow exiting this event will be lacking the detail needed to support the current move in the stock.
In our view, the news needed to support the stock move would be:
We don’t think any of these are a real possibility in the coming weeks. Instead, we believe we’re likely to hear something closer to the following:
The real issues the company needs to address will likely not be addressed anytime soon:
Board of Directors
For the most part, MCD’s board has served the company well, but significant change is long overdue. Andy McKenna, the current executive chairman, is 84 years old. While Mr. McKenna has served the company very well over the years, it is time for him to pass the torch to the next generation. Once the board is reconfigured with new thinking, it then must decide what the McDonald’s brand represents to consumers – and aggressively go after it.
As soon as MCD begun feeling pressure from SBUX, the brand has lost its focus and evolved into trying to be all things to all people. Therefore, many of MCD’s wounds today were self-inflicted and, in fact, many are reminiscent of the issues the company faced 10 years. How did this board let history repeat itself?
McDonald’s Image Problem
The perception of the McDonald’s brand is worse now than ever before. This perception cannot be fixed quickly and will likely be very expensive. The question some are asking is: is MCD to fast food what IBM is to technology? For the past five to six years, there has been no clear direction coming from the executive suite, leaving the business in a hole that will be very costly to dig out of.
The biggest “public perception” problem the brand faces has been from over-indexing the brand on discounting and selling cheap fast food. The $1 menu has been very destructive to the company and will be difficult to change. This suggests the company may need to put part of its past behind it. Does MCD need to move on from the Ray Kroc era of selling cheap food fast?
The owner operators are the key to a potential McDonald’s turnaround. Currently, a majority of owner operators are in a difficult position thanks in large part to increased debt levels. It’s clear to use that when the owner operators are making money and growing their business, shareholders are rewarded. Owner operators are struggling mightily in the current environment; morale is at historically low levels as increased rent, wages, etc. are increasingly difficult to pay.
Higher wages, which are inevitable, will only erode franchisee profitability. Ironically, at the same time, it will benefit McDonald’s profitability, since franchisees will be forced to raise prices. But franchisees must be very prudent with their price increases, because a significant percentage of McDonald’s employees are value conscious and will adjust their spending patterns accordingly. Owner operators are the best brand ambassadors and their lack of enthusiasm will make a turnaround very difficult to achieve.