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Investing Ideas Newsletter

Takeaway: Current Investing Ideas: EWG, ZOES, VNQ, EDV, ITB, TLT, MUB, RH

a Note From Hedgeye CEO Keith McCullough

 

Investing Ideas Newsletter       - 567

 

What a week! I came into the week thinking that the US stock market could have one more thrust ahead of the Fed meeting on Wednesday. It did and the SP500 closed right on the pin, at the prior all-time closing high of 2117, on Monday.

 

Then the FOMC statement ... “on the news” my Global Macro market volatility signals started to accelerate and I started to take some names off our Investing Ideas list (after adding to the list before the market’s recent rally).

 

Contrary to conventional belief, timing matters. And we have a better than bad track record of getting you out of things before it’s too late.

 

So, that’s what I think you should be doing again – taking down some of your gross exposure to the long side of US Equities.

 

There are no rules against buying back whatever you sell, at lower- prices. Hopefully our risk management #process signals when to get back in again too.

 

I think there’s going to be a lot of chop out there this spring/summer. That should provide plenty opportunities for those of us who are long patience.

 

Enjoy your weekend,

KM

CARTOON OF THE WEEK

Investing Ideas Newsletter       - Fed cartoon 04.30.2015

 

Below are Hedgeye analysts’ latest updates on our eight current high-conviction long investing ideas and CEO Keith McCullough’s updated levels for each. Please note we removed Goldman Sachs (GS) and Manitowoc (MTW) this week.

 

We also feature two additional pieces of content at the bottom. 

 

Investing Ideas Newsletter       - Z LEVS

Trade :: Trend :: Tail Process - These are three durations over which we analyze investment ideas and themes. Hedgeye has created a process as a way of characterizing our investment ideas and their risk profiles, to fit the investing strategies and preferences of our subscribers.

  • "Trade" is a duration of 3 weeks or less
  • "Trend" is a duration of 3 months or more
  • "Tail" is a duration of 3 years or less

IDEAS UPDATES

rh

We think people are missing the magnitude of earnings growth at Restoration Hardware, the sustainability of that trajectory over a long period of time, and ultimately the degree to which that will accrue to equity holders.

 

The question is not whether the stock will go to $110 vs $120 (where we see most price targets), but whether it will get to $200 vs $300.

 

Shares traded down this week ~5%, compared to the XRT at 3% and other names in the Home/Furnishings space like (ETH, PIR, WSM and HD) down 2.5%-4%. Even the best stories are not linear. There will be bumps along the road.

 

But, we think the catalyst calendar looks healthy starting with the 1Q15 print set to be release in early June. Following that, RH is set to pick up the cadence of its store opening, with 4 new stores set to be open in the back half of the year. This remains our favorite name in retail.

itb

Builder performance was choppy in the latest week alongside beta volatility and investor attempts to square the net impact to housing from rising rates and ongoing improvement in housing fundamentals. 

 

Normal oscillations in interest rates have only a marginal effect on the actual decision to purchase a home but they do have a direct impact on affordability – or, put differently, how much home one can purchase assuming a static income level.

 

In the table below, we show how housing affordability changes alongside changes in interest rates.  A general rule of thumb is that each percentage point change in interest rates equates to a ~10% change in affordability.  As can be seen in the table below, 30-year mortgage rates averaged 4.17% in 2014.  At the time of our quarterly housing themes call on march 26th, rates had averaged 3.69% in 2015 (they are currently 3.86%), implying a 6.4% improvement in affordability.   

 

The takeaway is fairly straightforward: as it stands currently, rates remain a tailwind to affordability relative to last year and would require a significant, expedited increase to have a material negative impact on housing activity in the immediate/intermediate term. 

 

Elsewhere across Housing Macro, the fundamental data continued to roll in strong: 

 

Pending Home Sales: 

PHS rose +1.1% sequentially in March, marking the 3rd consecutive month of positive growth and taking the Index to a new 22-month high.  On a year-over-year basis, pending home sales grew a notable +11.2% and should continue to post strong rates of improvement as we traverse easy compares into 3Q.

 

Purchase Application: 

Mortgage Purchase demand was flat at +0.0% week-over-week, leaving the index level unchanged at 205.4 – the highest level in 22-months.  More notably, on a year-over-year basis, purchase activity accelerated to +20.8%, marking the fastest rate of growth since October of 2012.

 

Household Formation:

The Census Bureau released its quarterly Housing Vacancy and Homeownership data for 1Q15 on Tuesday.  The survey data estimated that the total number of households grew by an average of 1.48MM in 1Q15 vs. the year ago period.  It’s worth noting that the strength observed in 1Q15 follows the estimated 1.65MM yearly change in 4Q14 which was the strongest since 2Q05 and the first real inflection/acceleration in 8 years. It appears the maturation of the employment recovery and improving labor/income dynamics is, indeed, (finally) beginning to manifest in improving  household formation trends. 

 

Case-Shiller HPI: 

The Case-Shiller 20-city series showed home prices grew +5.0% year-over-year in February, accelerating +50bps relative to the 4.5% growth reported in January. More broadly, after bottoming out at mid 4% year-over-year growth late last year, all three primary price series (CoreLogic, Case-Shiller, FHFA) have inflected in recent months and have moved back above 5% growth.  As we’ve highlighted, 2nd derivative acceleration in home prices is positive, contemporaneous relationship between price growth and housing related equity performance.

 

Click image to enlarge. 

Investing Ideas Newsletter       - z Housing Affordability

ZOES

Our restaurants team has no material update this week to their long call.  While the stock has been negatively impacted by recent weakness across the entire restaurant space, our long-term bull thesis remains firmly intact.

VNQ | TLT | MUB | EDV | EWG

This week’s GDP report was soft on an annualized quarter-over-quarter basis, printing a meager +0.2% annualized growth. On a year-over-year basis, GDP growth accelerated to +3% against easy comps from last year.

 

The weak report was driven by an uptick in the savings rate that ate into household spending growth. With the USD strength and big route in commodities since the middle of last year, energy-related investment was cut in half and the trade gap widened.

 

All-in-all, Q1 domestic data confirmed the lower-for-longer thesis.


The Fed reacted by giving a more dour outlook for economic growth, citing a decline in business investment, and continued to direct attention to more weakness in inflation and labor market readings.

 

As Keith McCullough wrote in Thursday’s Morning Newsletter, “rate lift-off is data dependent on the labor market.”

 

The initial market reaction post-statement was the opposite of what one would expect from a more dovish policy statement in that it did not bode well for long-term bond prices. However, a couple of days of trading don’t hinder a long-term fundamental investment thesis. If next week’s Non-Farm Payrolls report is a miss, rates could fall right back down to 1.86% very quickly, which is the low end of our immediate-term risk range. 

 

Investing Ideas Newsletter       - zen1

 

Insomuch as the April Jobs Report may prove to be a bearish catalyst for Treasury bonds, slowing growth data over the next two quarters should prove decidedly bullish. Fighting buy-side consensus on the long side of Treasury bonds been a great call thus far so we’d be booking gains and taking down our gross exposure to this asset class on the next immediate-term pop.

 

Ultimately, we think our #LowerForLonger theme prevails, but volatility is likely to pick up in the interim.

 

Click on images to enlarge.

Investing Ideas Newsletter       - fren

 

Investing Ideas Newsletter       - fren2

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The Euro remains BEARISH on A TREND duration, and as outlined last week by @HedgeyeEurope, a weaker EURO is bullish for German Equities (EWG):

 

“QE is only just beginning; the Euro will continue to weaken; Germany will disproportionately benefit due to exports; and asset classes like equities will inflate due to money creation (the German economy sits in the sweet spot to benefit from a weaker euro as its exports account for a monster 47% of German GDP).”

 

We shorted the Euro via FXE in our real-time alerts product on Wednesday on a weaker USD post GDP miss and FOMC statement. We continue with the stance that the Eurozone’s equity markets do not like a strong euro. 

 

Investing Ideas Newsletter       - zen3

 

 

The DAX is up 17% YTD, and we continue to think that over the TREND/TAIL it will pay to obey the commands of the central planners, in particular by being long of German equities.

 

From a quantitative perspective, the DAX recently broke its immediate-term TRADE line of support (to become resistance), but remains firmly above its intermediate-term TREND and long-term TAIL levels, a bullish signal.  

 

Investing Ideas Newsletter       - zen2

 

 

* * * * * * * * * * 

ADDITIONAL RESEARCH CONTENT BELOW

under armour: the decision tree

Retail Sector Head Brian McGough thinks UA is hitting the point where it needs to pick between growth and ROIC. In a tape that rewards growth, returns likely coming down.

Investing Ideas Newsletter       - z u5

BUY THE DIP IN JAPAN

Senior Macro Analyst Darius Dale reiterates our intermediate-to-long term bullish bias on Japanese equities and view any near-term weakness as a buying opportunity.

Investing Ideas Newsletter       - z j

 


Cartoon of the Day: #MayDay!

Cartoon of the Day: #MayDay! - Greece cartoon 05.01.2015

Greece and its creditors remain locked in intense negotiations as they race against the clock to avert default.


YUM: Attracting the Attention it Deserves

Takeaway: YUM continues to be on our Best Ideas list as a long.

Third Point Joins the Party

Third Point revealed in its First Quarter 2015 Investor Letter this morning that it holds a significant stake in Yum! Brands.  The fund initiated a position in the first quarter because they believe YUM is in the early innings of a recovery in its Chinese business:

 

“We believe this development should neutralize the largest overhang on the stock, set the stage for a dramatic profit recovery over the next 12-24 months, and change the public market narrative around long-term shareholder value-creation for the company.”

 

The Thesis Is Intact

We added YUM to our Best Ideas list as a long back in early November, 2014.  Shortly thereafter, we published a 70-page Black Book detailing our thesis.  Contact if you’d like a copy. 

 

The basic premise of our bullish thesis centered on the fact that YUM was trading at a significant discount to its intrinsic value.  We thought there were two ways this value could ultimately be realized: 1) undertaking a variety of value enhancing initiatives or 2) spearheading a turnaround in the Chinese business.  For this reason, we pegged YUM as an ideal long candidate for investors that offered substantial upside and multiple ways to achieve it. 

 

The Story Is Stronger Than Before

Right now, it appears the momentum in the Chinese business is making the headlines, but we’d be remiss not to say that value enhancing initiatives are still a massive opportunity for the company.  We believe management could unlock value through multiple channels, including aggressive refranchising, leveraging the balance sheet, and/or changing its ownership structure. 

 

If China’s current pace of recovery continues and investors’ fears of structural issues in the region subside, YUM will realize significant operating profit and earnings growth driving a further re-rating of the stock higher.  Any value enhancing initiatives outside of this would likely do the same.  We previously pegged fair value for YUM in the $95-100 range, but note that a combination of the aforementioned scenarios could propel the stock significantly above this range.

 

Pushing Back the Pushback

One pushback we’ve heard is that the current recovery in China would likely keep activists away from the name.  The truth is, some funds were afraid to get deeply involved with YUM due to fear of the China growth story unraveling.  With a recovery on track and long-term growth story regaining credibility, we believe the company is even more attractive as an activist target.  The value is there and it will continue to be unlocked – one way or another.  Despite the recent run, YUM currently trades at 23.31x P/E (NTM), significantly below its QSR Peers at 28.81x.

 

YUM: Attracting the Attention it Deserves - 1

 

Recent Notes

04/22/15 YUM: It’s a Win-Win

02/05/15 YUM: In Need of a Nudge

02/03/15 WEN Leveraged Recap Puts Pressure on YUM

12/09/14 YUM: Hiccup Aids the Bull Case

11/02/14 New Best Idea: Long YUM


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Call Invite | General Mills Black Book (GIS) – The GIS Playbook for the next 12-18 months.

On Wednesday, May 6th at 11:00am EST we will be hosting a Black Book conference call on General Mills. Dial-in details and associated materials to follow.

 

We have a positive bias to GIS and will be adding it to the Hedgeye Best Ideas list as a LONG.  The call will be a detailed look at the company and what can be done to improve the overall performance of the company!

 

We break down the 90 page presentation into three key points:

 

GIS NEEDS TO BE REINVENTED!

The opportunity to create significant shareholder value from repositioning the company is significant. The recent performance suggests that management may be too stuck in the past to reshape the company in a way that will accelerate top line growth. There have been a number of events over the past few years that suggest the timing is optimal for an activist to come on and re-shape management and the board.

 

MANY WAYS TO WIN

GIS has done a lot of things to stave off an activist attack, but it will all be for nothing if they do not execute on their growth plan. GIS is a great company with strong brands, but its business practices and backward looking are insular. Reshaping the portfolio of brands, CPW and G&A cuts are just some of the ways to create significant shareholder value.

 

TRANSFORMATIONAL TRANSACTION

GIS needs to reshape the company to stay as a premier global food company! Alternatively, GIS would make a solid acquisition target, especially for a large consumer snack food company. GIS needs to accelerate its growth and management is struggling to do it internally.  In our view, selling the company would be an ideal scenario for all stakeholders. Or reinvent the company through meaningful acquisitions and divestitures.

 

SUMMARY

We are cognizant of the fact that GIS is trading at a premium valuation and speculation is rampant that the company may be in play.  We agree the company is in play and it just a matter of time before the intrinsic value of the company is realized. 

 

The call will last about an hour including time for Q&A.

 


Call Invite | General Mills Black Book (GIS) – The GIS Playbook for the next 12-18 months.

We have a positive bias to GIS and will be adding it to the Hedgeye Best Ideas list as a LONG.  The Best Idea call will be a detailed look at the company and what can be done to improve the overall performance of the company!

 

We break down the 90 page Black Book into three key points:

 

GIS NEEDS TO BE REINVENTED!


The opportunity to create significant shareholder value from repositioning the company is significant. The recent performance suggests that management may be too stuck in the past to reshape the company in a way that will accelerate top line growth. There have been a number of events over the past few years that suggest the timing is optimal for an activist to come on and re-shape management and the board.

 

MANY WAYS TO WIN


GIS has done a lot of things to stave off an activist attack, but it will all be for nothing if they do not execute on their growth plan. GIS is a great company with strong brands, but its business practices and backward looking are insular. Reshaping the portfolio of brands, CPW and G&A cuts are just some of the ways to create significant shareholder value.

 

TRANSFORMATIONAL TRANSACTION


GIS needs to reshape the company to stay as a premier global food company! Alternatively, GIS would make a solid acquisition target, especially for a large consumer snack food company. GIS needs to accelerate its growth and management is struggling to do it internally.  In our view, selling the company would be an ideal scenario for all stakeholders. Or reinvent the company through meaningful acquisitions and divestitures.

 

SUMMARY


We are cognizant of the fact that GIS is trading at a premium valuation and speculation is rampant that the company may be in play.  We agree the company is in play and it just a matter of time before the intrinsic value of the company is realized. 

 

The call will last about an hour including time for Q&A.


Retail Callouts (5/1): VFC, COLM, TGT, Puma

Takeaway: VFC not returning to 'smoke the quarter' mode anytime soon. COLM - call to be made here.

EVENTS TO WATCH

Retail Callouts (5/1): VFC, COLM, TGT, Puma - 5 1 chart2 D

 

COMPANY HIGHLIGHTS

 

VFC - Bad Setup Going Forward

Not a good quarter. 2% revenue growth and flat earnings pretty much says it all. While VFC technically hit the quarter, it was an ugly one from an otherwise quality company. This company only beat 2 of the past six quarters. It's no surprise the CFO Bob Shearer (one of the best in the business) retired.

Currency took 600bps off the top line, 70bps off of EBIT margins and cost VFC 13 points of earnings growth. That being said, sales still decelerated on a 1 & 2 yr basis on a currency adjusted basis. This is the first time in 11 quarters VFC did not grow earnings where 2% sales growth deleveraged into flat EPS growth.

Of course currency was a big headwind, but that's no secret. The question is, will the market continue to give global brands a free pass. We hear a lot of concern about NKE's ability to weather the FX market, but based on the guidance coming from NKE, VFC, RL, WWW, and COLM it seems to be the best operator. Despite the biggest FX hit Nike has felt in over five years, the company basically plans to leverage its top line growth rate into earnings by a factor of 2 (+msd sales into +dd eps).

Retail Callouts (5/1): VFC, COLM, TGT, Puma - 5 1 chart3

 

VFC's DTC continues to outpace consolidated sales growth up to 24% of sales from 23% last year, but was up only 5% (11% constant currency) a 700bps deceleration sequentially on the 2yr trend line. Having said that, the company now has over 1300 units globally. And, The North Face DTC was up 20% in constant currency compared to the company at 11%. That’s not good with for wholesale partners. Especially as the company is guiding to another year of 30%+ e-comm growth.

This is the worst SIGMA move we've seen from VFC in many years, with the sales/inventory spread at -5% at  4Q12. This is hardly a bullish margin setup, which makes it even more unrealistic to bank on VFC returning to 'smoke the quarter' mode anytime soon.

Retail Callouts (5/1): VFC, COLM, TGT, Puma - 5 1 chart1

 

COLM - Columbia Meaningfully Outperforming The North Face

Takeaway: This was a mixed bag. On one hand, this was the smallest beat (3%) the company has reported since 4Q12 -- and we all know that this is a company that smokes every quarter come hell or high water. But on the other hand, when we strip out the impact of PrAna, organic sales grew at 4%, and earnings grew at 12% -- which is very respectable from where we sit. It's also important given that COLM appears to be meaningfully pulling ahead of VFC's Outdoor businesses -- which is a rarity.

This chart is extremely telling. It shows the spread in growth for The North Face vs. the Columbia Brand (excl Mountain Hardware, Sorrel, and PrAna). Anything North of the x-axis represents TNF outperformance in a given quarter, while anything below = COLM outperformance. Over the past 5 quarters, COLM has materially outperformed TNF and in 1Q15 comped the comp. The sustainability is a critical issue for us to dig into. There's a call to be made here.

Retail Callouts (5/1): VFC, COLM, TGT, Puma - 5 1 chart4

 

 

OTHER NEWS

 

TGT - Target to return 55 store leases to landlords, will auction remainder

(http://www.theglobeandmail.com/report-on-business/international-business/us-business/target-to-return-55-store-leases-to-landlords-will-auction-remainder/article24196091/)

 

Kering - Rihanna’s First Ad For Puma Released

(http://footwearnews.com/2015/influencers/collaborations/rihanna-first-puma-ad-released-26745/)

 

Off-Price Retailers See Competition on the Rise

(http://wwd.com/retail-news/mass-off-price/off-price-tjx-burlington-competition-10117396/)

 

VNCE - Vince Opens First D.C. Boutique

(http://wwd.com/retail-news/designer-luxury/vince-opens-dc-boutique-10120202/)

 

Minimum Wage Hike Measure Introduced in Congress

(http://wwd.com/business-news/government-trade/minimum-wage-increase-congress-10120535/)

 

Eyeglass Retailer Warby Parker Valued at $1.2 Billion

(http://blogs.wsj.com/digits/2015/04/30/eyeglass-retailer-warby-parker-valued-at-1-2-billion/)


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