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Fund Flows | Defense Takes the Field

Takeaway: Investors moved defensively last week, making net withdrawals from all equity products and shoring up cash in money market funds.

This note was originally published May 28, 2015 at 07:13. For more information on Hedgeye's wide array of smart investment products click here.

Investment Company Institute Mutual Fund Data and ETF Money Flow:

Fund flows were defensive in the 5-day period ending May 20th with total net equity products in outflow. Investors instead moved to the sidelines with +$20.6 billion of cash being added to money market funds last week. There were some pockets of strength with international equity mandates experiencing their second largest inflow in 2015 of +$4.3 billion. However, this was not enough to balance out the -$5.4 billion withdrawal from domestic equity funds. Investors have now pulled -$38.6 billion from domestic equity funds so far in 2015 versus +$11.6 billion in contributions over the same period last year. 


Fund Flows | Defense Takes the Field - z cast 1

 

In the most recent 5-day period ending May 20th, total equity mutual funds put up net outflows of -$1.1 billion, trailing the year-to-date weekly average inflow of +$713 million and the 2014 average inflow of +$620 million. The outflow was composed of international stock fund contributions of +$4.3 billion and domestic stock fund withdrawals of -$5.4 billion. International equity funds have had positive flows in 48 of the last 52 weeks while domestic equity funds have had only 10 weeks of positive flows over the same time period.

 

Fixed income mutual funds put up net inflows of +$2.0 billion, trailing the year-to-date weekly average inflow of +$2.3 billion but outpacing the 2014 average inflow of +$929 million. The inflow was composed of tax-free or municipal bond funds withdrawals of -$138 million and taxable bond funds contributions of +$2.1 billion.

 

Equity ETFs had net subscriptions of +$1.0 billion, trailing the year-to-date weekly average inflow of +$1.6 billion and the 2014 average inflow of +$3.2 billion. Fixed income ETFs had net outflows of -$632 million, trailing the year-to-date weekly average inflow of +$1.2 billion and the 2014 average inflow of +$1.0 billion.

 

Mutual fund flow data is collected weekly from the Investment Company Institute (ICI) and represents a survey of 95% of the investment management industry's mutual fund assets. Mutual fund data largely reflects the actions of retail investors. Exchange traded fund (ETF) information is extracted from Bloomberg and is matched to the same weekly reporting schedule as the ICI mutual fund data. According to industry leader Blackrock (BLK), U.S. ETF participation is 60% institutional investors and 40% retail investors.   

 

Most Recent 12 Week Flow in Millions by Mutual Fund Product: Chart data is the most recent 12 weeks from the ICI mutual fund survey and includes the weekly average for 2014 and the weekly year-to-date average for 2015:

 

Fund Flows | Defense Takes the Field - ICI2

 

Fund Flows | Defense Takes the Field - ICI3

 

Fund Flows | Defense Takes the Field - ICI4

 

Fund Flows | Defense Takes the Field - ICI5

 

Fund Flows | Defense Takes the Field - ICI6

 

 

Most Recent 12 Week Flow Within Equity and Fixed Income Exchange Traded Funds: Chart data is the most recent 12 weeks from Bloomberg's ETF database (matched to the Wednesday to Wednesday reporting format of the ICI), the weekly average for 2014, and the weekly year-to-date average for 2015. In the third table are the results of the weekly flows into and out of the major market and sector SPDRs:

 

Fund Flows | Defense Takes the Field - ICI7

 

Fund Flows | Defense Takes the Field - ICI8

 

Sector and Asset Class Weekly ETF and Year-to-Date Results: In sector SPDR callouts, the long treasury TLT ETF saw somewhat of a recovery after a string of withdrawals. Investors contributed +$253 million or +5% to the fund.

 

Fund Flows | Defense Takes the Field - ICI9

 

 

Net Results:

The net of total equity mutual fund and ETF flows against total bond mutual fund and ETF flows totaled a negative -$1.4 billion spread for the week (-$59 million of total equity outflow net of the +$1.4 billion inflow to fixed income; positive numbers imply greater money flow to stocks; negative numbers imply greater money flow to bonds). The 52-week moving average is +$1.4 billion (more positive money flow to equities) with a 52-week high of +$27.9 billion (more positive money flow to equities) and a 52-week low of -$13.1 billion (negative numbers imply more positive money flow to bonds for the week.)

  

Fund Flows | Defense Takes the Field - ICI10

 

Exposures: The weekly data herein is important for the public asset managers with trends in mutual funds and ETFs impacting the companies with the following estimated revenue impact:

 

Fund Flows | Defense Takes the Field - ICI11 

 

 

Jonathan Casteleyn, CFA, CMT 

203-562-6500 

jcasteleyn@hedgeye.com 

 

Joshua Steiner, CFA

203-562-6500

jsteiner@hedgeye.com

 

 

 

 

 


MCD – CREATING NEW ENERGY FROM WITHIN - GETTING LONG MCD

Takeaway: By 2016, it will be clear that MCD will be well on its way to reasserting itself as the dominate company that it is.

I’m going to go out on a limb and say that 2015 could be the last year MCD will trade below $100.

 

I wish I had crystal ball that would tell me what quarter it will be clear that MCD is no longer a broken company.  What I do know, is that the issues the company faces are not terminal.  I now see enough changes on the margin to suggest that the worst is behind us, and it will not be long before MCD is in a better place operationally and the stock behaves accordingly.

 

It’s time to be LONG MCD!

Fixing McDonald’s operationally will take time.  To date, it’s been tough to piece together what the turnaround will look like.  At the time CEO, Steve Easterbrook unveiled his plan there was little incremental news about how the business was going to be fixed operationally.  The financial engineering aspects will only take a stock so far before it runs out of steam.  Therefore, understanding how an operationally led turnaround will unfold is critical to make a longer-term commitment to being LONG MCD. 

 

By 2016, it will be clear that MCD will be well on its way to reasserting itself as the dominate company that it is.  McDonald’s CEO, Steve Easterbrook, calls his new vision for McDonald’s “modern and progressive burger company delivering a contemporary customer experience.”  We are a long way from that goal but the seeds are in place. 

 

Returning MCD to sustainable growth must be centered on structural changes to the operating model and a recommitment to regaining the trust and loyalty of customers.  This can only be done at the local level; local management and franchisees working together to deliver a McDonald’s experience consistent with what made the company great in the first place. 

 

Steve Easterbrook’s holistic focus on making MCD a better company:

  1. Understanding and correcting the mistakes of the past.
  2. Be more agile in responding to customers evolving taste preferences and needs.
  3. Make quicker decisions and spread global insights faster to drive incremental growth.
  4. Change the way MCD makes decisions.
  5. Identify and focus the organization to better support the most significant global markets that will drive growth overall.

Without acknowledging and correcting the mistakes of the past, MCD will never be fixed.  I believe this is partly why Don Thompson is no longer CEO of the company.  We continue to see incremental evidence that CEO, Steve Easterbrook, is willing to make the difficult decision to move the business forward.   

 

Traditionally, MCD is big organization that is slow to adapt to changes in the marketplace and is facing a slow bleed if it did not change accordingly.  Thankfully, times are changing.  It takes a long time to turn a company like McDonalds around, but it can be done.  Steve Easterbrook’s plan is bubbling to the surface gradually, but as more details are made public the strategy is looking more like a plan to win.     

 

NEW STRUCTURE WILL CREATE NEW ENERGY FROM WITHIN

McDonald’s new structure is focused on four segments: U.S., International Lead Markets, High Growth Markets and Foundational Markets.  This new structure will eliminate some bureaucracy and allows MCD to compete harder and more efficiently in market where the company generates a majority of its operating profits. 

 

Some of the potential benefits from the new corporate structure are:

  1. It will free up management, giving them time to tackle critical elements of the turnaround.
  2. Accelerate the time it takes to fix the fundamentals of the business.
  3. Raise the bar on performance and set new hurdles to enhance expectations and improve profitability.
  4. Improving customer experience by delivering on fundamental core strengths of Quality, Service, Cleanliness and Value.

The new structure will concentrate senior management’s time and resources on those markets that are going to deliver the most meaningful improvement to profitability and improve overall returns.  The focus of the new plan will be on 14 key markets in the first three segments, which deliver more than 90% of global operating income. 

 

The critical elements of the new structure and new mandate within the realigned operating segments will be:

  1. Focus on shrinking the menu.
  2. Enhancing core menu items.
  3. Creating excitement around the new menu news including on premium items. 
  4. Allow for increased returns on each marketing dollar.
  5. Transformation of the customer service experience.

INITIATIVES TO IMPROVE THE U.S. SEGMENT

While it’s early in the process, operationally MCD is taking the right steps to stabilize the decline in guest counts in the U.S.  On top of the increased regional focus, there are fewer layers of bureaucracy and stronger accountability.  The new operational initiatives will focus on the core menu items.  Today, 40% of the sales in a McDonald’s restaurant come from the core menu and the strategy will focus bringing the core business back to life.

 

Some of the operational improvements that will enhance the focus on the core menu items include:

  1. Rolling out new training programs to improve order accuracy and reduce complaints.
  2. Working to improve the speed of drive-thru’s (70% of sales in the U.S.).
  3. Testing a simplified drive-through menu board that cuts the number of items by 50% to the core menu items.
  4. A new value proposition this summer that's designed to drive incremental customer visits.
  5. Focusing on the freshness and quality of the food (sirloin burgers and artisan chicken).
  6. Toasting the buns for longer to deliver hotter sandwiches.
  7. Changing the way they grill the beefs so the patties come off juicier.
  8. A new and improved marketing calendar.
  9. Balancing the overall marketing spend at a local and national level.
  10. MCD will launch a mobile app in 3Q15 – Steve Easterbrook stated, “I can tell you product mix by restaurant in 30 minute increments, what I can't tell you is who we're selling it to.”  Technology will help this.
  11. MCD is testing all-day breakfast.
  12. Taking on the opportunity to offer more regional favorites.

Critical to improving transaction counts in the U.S. will be shrinking the menu.  An overly complex menu means you're serving fewer of a greater number of things, and over an extended period of time that equation starts to break down and hurts overall performance.  What you are left with are slower-moving menu items, which means you have a lot of slower-moving SKUs which slows down transactions and creates inefficiency in the supply chain.  Shrinking the menu will mean the food will taste better, reducing costs at the same time.

 

SHRINKING MCCAFE

The most important sign that significant changes are coming to operations was Mr. Easterbrook’s comments about the growth drivers the company initiated 2010-2012.  It was important for The CEO to acknowledge that the McCafe coffee beverage platform has not a long-term growth driver for the company.  He said “The reality is you tend to get diminishing returns from them over time, they’re kind of just baked into your baseline, and you need new incremental growth drivers. And probably one of the criticisms we have of ourselves in the business is we didn’t see the tailing of those growth platforms early enough to start to generate the growth platforms of the future.”

 

Unwinding some of the McCafe complexity will lead to improved store performance.

 

INTERNATIONAL LEAD MARKETS

At roughly 40% of the operating profits, the International Lead Markets is an important segment for MCD.  The good news is that the performance of the segment is better than that of the U.S.   

  1. Germany is showing early signs of a turnaround as negative comparable sales trends have moderated the last two quarters.
  2. Implementing more targeted and integrated value strategy with Germany's value reset project.
  3. Enhancing the appeal of premium products with the successful launch of Bacon Clubhouse featuring locally sourced products.
  4. France is maintaining market share despite tough economic headwinds and weak consumer confidence. 
  5. France is benefiting from ongoing service enhancements, with table service now offered in more than a third of French restaurants.
  6. 90% of the restaurants in France have self-order kiosks.
  7. Australia is progressing and gaining momentum.
  8. Canada is adding side-by-side drive-thru’s to more restaurants.  By the end of 2015 approximately two-thirds of Canada will benefit from these enhancements.
  9. The UK remains very strong despite a growing and more aggressive competitive environment.

FINANCIALLY ACCOUNTABLE ― REFRANCHISING

Over the 3-4 years (likely sooner), McDonald’s plans to move from 81% franchise store base to about 90% franchised globally.  This suggests that MCD will refranchise about 3,500 restaurants by the end of fiscal 2018.  Importantly, in some international markets MCD will be exiting the entire company-operated store base, moving to a 100% franchise structure.

 

The business benefits to MCD are obvious, a more stable, predictable revenue and cash flow streams, and the ability to unleash certain markets to the best franchisees.  What MCD will not be doing is going to a 99% franchised model.  MCD will always have a strong store base that will allow the company to test new products and operating methods.

 

G&A CUTS & OTHER

MCD has announced that it intends to cut $300 million in costs, most of which will be realized by the end of 2017.  While this is a good start there is more that the company can do to streamline operations.  I suspect that the new shareholder base will be pressing the company to do more.  

 

MCD has also announced that it expects to return $8 billion to $9 billion to shareholders in FY15 through a combination of dividends and share repurchases. As a result, by 2016 the company will have returned close to $20 billion to shareholders between 2014 and 2016.

 

MCD’s balance sheet is conservatively managed with a target ratio of 1.5x net debt to EBITDA.  The company is currently running at 1.4x but will be higher at the end of this fiscal year given the recently announced share repurchase program.  There is clearly room for the company to take on more leverage and increase shareholder value.  

 

OTHER ELEMENTS


Global Same-Store Sales Growth has bottomed out.

MCD – CREATING NEW ENERGY FROM WITHIN - GETTING LONG MCD - MCD SSS 6.1.15

 

The stock has underperformed on a 1, 3, and 5 years basis.

MCD – CREATING NEW ENERGY FROM WITHIN - GETTING LONG MCD - MCD 1 year vs spx 6.1.15

MCD – CREATING NEW ENERGY FROM WITHIN - GETTING LONG MCD - MCD 3 year vs spx 6.1.15

MCD – CREATING NEW ENERGY FROM WITHIN - GETTING LONG MCD - MCD 5 year vs spx 6.1.15

 

The sell-side is very bearish on MCD and rightly so.

MCD – CREATING NEW ENERGY FROM WITHIN - GETTING LONG MCD - MCD Sell side ratings 6.1.15

 

EPS estimates are bottoming out.

MCD – CREATING NEW ENERGY FROM WITHIN - GETTING LONG MCD - MCD eps version 2

 

 


JUNE CRUISE PRICING CONF CALL - CCL F2Q PREVIEW

Takeaway: Is Carnival's brand resurgence in the Caribbean enough to counter softening prices in Europe?

The Hedgeye Gaming, Lodging, and Leisure team will host a conference call TOMORROW, JUNE 2nd at 1PM to discuss the latest findings from our proprietary cruise pricing database.  Please contact your Hedgeye salesperson for call details.

 

Points of discussion include:

  • Pricing pivots (RCL,CCL, NCLH) for June 2015
  • Europe softer again
  • CCL F2Q preview and FY 2015 outlook:
    • Stronger Caribbean 
      • Carnival brand exhibiting strength
      • Can the momentum extend into the fall/winter season? 
    • Soft Europe summer pricing could impact earnings 
      • Costa discounting: is it a delayed reaction to Tunisia or something else?  
      • Germany: TUI vs AIDA
      • River Cruises: #winning
      • Blame MSC?
      • And more...
  • New ship premiums

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Welcome to June

Client Talking Points

GERMANY

Germany unfortunately had to continue to report Q2 data this morning and it continues to slow with German PMI for May down to 51.1 from 5.14. The DAX and the 10YR Bund Yield are down on that after both were down last week as well (DAX was -3.4% on the week lagging all major equity markets).

USD

Down Euro equals Up U.S. Dollar – that’s been the story for going on 3 weeks now and the EUR/USD is -0.9% this morning to $1.08 pressuring Oil, Gold, etc. – especially from $1.07. We wouldn’t be surprised to see this all reverse on a bearish U.S. jobs report on Friday. 

INDUSTRIALS

Governments might try to change how GDP is calculated, but the companies slowing with A) #StrongDollar and B) #LateCycle reflect the economic data. Industrials (XLI) were the worst place to be in U.S. Equities last week, down -1.9% to -1.4% year-to-date.

Asset Allocation

CASH 47% US EQUITIES 4%
INTL EQUITIES 10% COMMODITIES 13%
FIXED INCOME 23% INTL CURRENCIES 3%

Top Long Ideas

Company Ticker Sector Duration
PENN

We see stability in regional gaming revenues over the next several months providing some much needed earnings visibility. PENN maintains the best new unit growth story in domestic gaming with the opening of the Plainridge casino in Massachusetts in June and the Jamul casino in Q2 2016. Both properties should well exceed current Street estimates for win per slot and EBITDA. PENN has a proven track record as the best regional casino operator and recently proved its prowess at successfully opening racinos (casinos at racetracks) with estimate beating Dayton and Mahoning commencing slot operations last year.

ITB

Housing went 3 for 3 as the Trinity of Fundamental Data Points released in the latest week continued to reflect accelerating rates of improvement across both the New and Existing markets. New Home Sales in April rose +6.8% month-over-month to +517K.  More notably, sales were up a remarkable 26% on a year-over-year basis as NHS re-converged back to the trend in New Home construction. Pending Home Sales rose +3.4% sequentially in April, accelerating to +14% year-over-year with the Index making a new 101-month high.  Pending Home Sales represent signed contract activity and are a historically strong lead indicator of Existing Home Sales.  The MBA’s weekly Mortgage Purchase Application Index re-captured the 200-level, rising +1.2% week-over-week and accelerating +250bps sequentially to +13.1% year-over-year.  

TLT

We believe the U.S. economy is past peak in rate-of-change terms and sliding down the slope to an eventual cliff (i.e. recession). That’s our call and we’re sticking to it. Friday’s negative revision takes our full-year estimate for real GDP growth down to +2% (from +2.3% prior). Both the Fed and Street are up at +2.5%, both of which continue to careen down from perpetual expectations of rainbows-and-puppy dogs (i.e. 3-plus percent growth) earlier this year. We reiterate our call to be long of long-duration in its many forms:  TLT, VNQ, EDV, and GLD (gold has historically performed well in down-dollar and down-interest rate environments and we think the June 17th FOMC statement has a high probability of being dovish and dollar-bearish).

Three for the Road

TWEET OF THE DAY

VIDEO: Companies "Moronic" About Stock Buybacks https://app.hedgeye.com/insights/44374-mccullough-companies-moronic-about-stock-buybacks… via @hedgeye

@KeithMcCullough

QUOTE OF THE DAY

Imagination is more important than knowledge. For knowledge is limited, whereas imagination embraces the entire world, stimulating progress, giving birth to evolution.

Albert Einstein

STAT OF THE DAY

The Architectural Billing Index fell below 50 in April, a negative indication for activity in early 2016.  The index can be noisy on a sequential basis, but the readings have been decelerating since late 2014.

 

The Macro Show - CLICK HERE to watch today's edition at 8:30am ET.


The Macro Show Live Every Day at 8:30AM ET

CLICK HERE to watch The Macro Show on Hedgeye at 8:30am ET. 

The Macro Show Live Every Day at 8:30AM ET - Macro Show cartoon

 

We encourage all of our subscribers to log in to Hedgeye.com each morning and tune in at 8:30am ET, ready to ask Keith and the team their questions. This week the Macro Team will be joined by a number of special guests. Please see the schedule below:

 

  • Monday: CEO Keith McCullough and Macro Analyst Ben Ryan
  • Tuesday: Healthcare Sector Head Tom Tobin and Macro Analyst Darius Dale
  • Wednesday: Retail Sector Head Brian McGough and Macro Analyst Darius Dale
  • Thursday: Macro Analyst Darius Dale and Macro Analyst Ben Ryan
  • Friday: Director of Research Daryl Jones and Macro Analyst Ben Ryan 

Constructively Dissatisfied

This note was originally published at 8am on May 18, 2015 for Hedgeye subscribers.

“You are, in a word, constructively-dissatisfied.”

-Jim Casey

 

After editing the founder of UPS’s famous business-building quote I am, in two words, constructively dissatisfied this morning. It’s the last citation I wanted to highlight for you from one of the better books I’ve read this year, Learn or Die, by Edward Hess.

 

Per Casey via Hess, here’s the UPS DNA: “Learn, Improve and Adapt” and there are “four primary strands: 1. Mutual Accountability 2. Constructive Dissatisfaction 3. Process Improvement and 4. Employee Centric Culture.” (pg 180)

 

Casey’s people-model isn’t perfect. No one’s is. But it certainly worked for him and his team. For me, it’s transparency, accountability, and trust. And I can’t give lip-service to that. My teammates and I need to live that out loud, every day.

 

Constructively Dissatisfied - ztree

 

Back to the Global Macro Grind

 

Let’s say I was constructively dissatisfied with how last week went for Global Macro markets. Constructive because I think we made the right research pivot on Dollar Down, Commodities Up. Dissatisfied because devaluing the Dollar isn’t the answer for America’s stagnating economy.

 

On the heels of an ugly Retail Sales slow-down to 0.9% year-over-year growth (and the worst US Consumer Confidence report of the year via the University of Michigan), this is what the big macro stuff did last week:

 

  1. US Dollar Index -1.8% on the week (and now -5.3% in the last month)
  2. Euro (vs. USD) +2.3% on the week (and now +7.2% in the last month)
  3. Commodities (CRB Index) +1.0% on the week (+6.9% in the last month)
  4. Oil (WTI) +0.5% on the week to $59.69 (+15% in the last month)
  5. Gold +3.1% on the week to $1225

 

That last one (Gold) was the best performing of the Dollar Down inverse-correlation-love lot … primarily because there was this extra-cherry on top that Gold loves more than anything else. It’s called Down Rates.

 

Down Rates finally did what they usually do and correlated positively with Down Dollar on slowing US economic data, with the 10yr US Treasury Yield dropping from an intra-week-freak-out-high of 2.36% to 2.14% as economic gravity won, again.

 

On Friday, the Down Dollar, Down Rates move looked a lot like 2011 all over again. Remember that? Markets did. Financials (XLF) -0.4% on the day vs. Utilities (XLU) +1.3%. It’s the Fed is going to stay Lower-For-Longer move that Hilsenrath confirmed in the WSJ this morning.

 

Back to the week-over-week moves and how those synched in the land of Global Equities:

 

  1. US Financials (XLF) were down in an up tape, -0.2% on the week, staying in the red for the YTD at -0.1%
  2. US Healthcare (XLV) continued to outperform beta, +1.1% on the week to +8.6% YTD
  3. European Stocks (EuroStoxx600) flashed another bearish divergence vs Global Equities -0.9% wk-over-wk
  4. Germany’s DAX lagged its European continent bogey, falling -2.2% on the week
  5. Emerging Market Stocks (MSCI Index) flagged another bullish divergence vs Global Equities +0.8% on the week

 

Yep, Down Dollar = Up Euro à Emerging Market Equities beat European Equities.

 

If you didn’t pick-up on the year I called out, let me hammer the num-lock pad on that one more time: 2011. That was a big year for both Gold and Emerging Markets. It was also a very bad year for Europe and US Financials.

 

2011 was the year of stagflation being priced into US Federal Reserve Policy. It was the year where the initial Quantitative Easings didn’t provide the centrally planned elixir of a real US growth “recovery” … and The Bernank had to deliver more QE Cowbell.

 

As markets front-ran the next QE, the US Dollar burnt to a crisp (not mentioned once by big Ben in any of his statements, but it was a 40 year low) and Gold hit its all-time highs. US interest rates hit all-time lows and the Financials posted their widest losses vs. Utilities, ever.

 

Constructively dissatisfied with that?

 

If you’re a money manager, maybe not. “Fighting” an easier Fed (read: pushing out the dots, from here, would be an easing, on the margin) has proven to be elusive for most who have expressed their bearishness in 2009-2015 Zero Hedge Bear terms.

 

But if you’re looking for mutual accountability between policy makers and economic outcomes, you can UPS that request in the mail and kiss it goodbye. Until we have real leadership in this country that gets the difference, in real Dollars, it’s The People’s purchasing power that loses.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 1.95-2.22%

SPX 2100-2131
RUT 1211-1251
USD 92.84-94.44
EUR/USD 1.10-1.14
Oil (WTI) 55.97-61.57

Gold 1198-1231

 

Best of luck out there this week,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Constructively Dissatisfied - z 05.18.15 chart


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