The Economic Data calendar for the week of the 19th of October through the 23rd of October is full of critical releases and events. Here is a snapshot of some of the headline numbers that we will be focused on.
Takeaway: Current Investing Ideas: TIF, JNK, W, WAB, ZBH, GLD, MCD, RH, LNKD, ZOES, GIS, EDV & TLT
Below are our analysts’ updates on our thirteen current high conviction long and short investing ideas. Please note that we removed Penn National Gaming (PENN) and Financial Engines (FNGN) this week. As a reminder, if nothing material has changed in the past week which would affect a particular idea, our analyst has noted this. Hedgeye CEO Keith McCullough’s updated levels for each ticker are below.
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.
General Mills is now a couple months into their launch of Gluten Free Cheerios. Besides one minor recall coming out of their Lodi, CA facility, all signs point to the launch being successful. Consumers are responding well on social media, pleased that such a big company is making big changes to improve the quality of their food.
Annie’s continues to perform well in the marketplace as they expand distribution with the help from General Mills’ sales team. Many consumers were lashing out when GIS acquired Annie’s one year ago, saying that GIS would tarnish the great brand. But this simply is not the case. GIS has nourished this company, leaving it to operate in Berkley, CA. Annie’s employees, including former CEO John Foraker have nothing but great things to say about the experience and what GIS has done to allow the team to grow Annie’s their way.
GIS continues to be on our Best Ideas list especially in these volatile markets, where big-cap and low beta reign supreme.
Nothing has changed at Zoës Kitchen. We still love the management team and the concept of the restaurant. But due to the macro-driven market, high beta, low-cap names such as ZOES have fallen out of favor.
If you are a "buy and hold" type of investor this is a name you want to be in for the long run, especially at these values. This company has a long runway of growth which we believe is only just in the beginning stages.
To view our analyst's original note on Wabtec click here.
In case you missed it, GE received orders for 3 locomotives in 3Q 2015. No, that's not a misprint. That's three, down from a high comp of 1,131 in 3Q 2014 and a typical run rate of more like 70-250. Locomotives are going into storage and mines are not expanding, leading to weak demand.
Does that bode well for Wabtec? We'll let you decide. See the chart below.
To view our original note on McDonald's click here.
McDonald’s (MCD) reports 3Q15 earnings Thursday, October 22nd before the market opens, with a conference call at 11:00am ET. We are expecting strong sequential improvement in performance globally. We look forward to giving you an update on the company’s performance next week, but this week we wanted to focus on the ‘Looming Crash in Beef.'
On Thursday, October 15th, we held a thought-leader call regarding the declining price of beef and how long it will continue. Prices have sky rocketed in recent years and are now standing at more than two standard deviations above the 30 year average. If you look at the chart below, with the information we gained from James Robb, a Director at the Livestock Marketing Information Center (LMIC), we believe a 50% decline down to historical averages is well within the realm of possibilities.
The cattle cycle is in its early stages and inventory is projected to rise over the next few years. Rising inventory means that as the cattle ages more heifers will be up for slaughter, adding to the supply in the market.
Declining beef prices will be a major tailwind for McDonald’s as they navigate their turnaround.
To view our analyst's original report on Wayfair click here.
Right now, coverage of Wayfair is split about 50/50 between Retail and Internet analysts. The right approach is simply to use both, Internet and "old school" brick and mortar retail.
But you can rest assured that Internet analysts did not hear the following remarks Gary Friedman delivered during the RH 2Q15 earnings presentation. Take a look below. We think his argument sheds some light on our bearish Wayfair thesis.
"How many online only retailers have reached $1 billion in revenues and have positive net income? For the 2014 fiscal year the answer would be two, and just barely.
Many investors and analysts are seduced by the notion of a capital light retail strategy, and completely overlook the fact that the ongoing advertising expense to market an invisible online store is an unproven and, we believe, unsustainable model.
Also interesting is when investors or companies tout their online growth rates, believing it to be the more profitable channel. First, it's obvious that growth rates in a new undeveloped channel will grow faster than a mature one. It's also somewhat irrelevant. A big percentage of a small number is still a small number. Shifting transactions from one channel to another does not change the economics.
We know of no store-based retailer that has significantly increased their operating margins by growing online faster than retail. The important question is, Why would anyone conclude that online is more profitable than retail?
As we've said before, it's not about Physical versus Digital, as A.T. Kearny eloquently puts it, it's about Physical with Digital.
Where the transaction takes place is a lot less important than where the decision to purchase is derived. Unless you're positioning to be the low price leader, or you're selling replenishable commodity products, like laundry detergent, paper towels, groceries and the thousands of things we don't sell.
That's why we believe when the dust settles, our strategy of undertaking what is arguably the most significant retail store transformation in history, will prove to be the right one. That the physical manifestation of an aspirational brand in an inspiring three dimensional environment, will prove to be more important than an invisible one dimensional online store.
Retailers who demonstrate true product leadership with an inspiring physical presence and a fully integrated, channel agnostic strategy will win."
To view our analyst's original report on Tiffany click here.
Sentiment for Tiffany is sitting at all-time highs. Our Hedgeye Sentiment Monitor (Below) triangulates Buy Side Short Interest, Sell Side Ratings, and Insider Activity to give a graphical representation of sentiment around the stock. A low score indicates negative sentiment and is a bullish signal. A high score indicates positive sentiment and is a bearish signal.
Bottom line right now: Back half and 2016 estimates are too high, the stock is trading near a peak multiple (18.5x), on peak margins (21%); peak earnings ($4.20E TTM and NTM) that aren't growing; and peak returns (18%). There is still room to run for this short idea.
To view our analyst's original report on Restoration Hardware click here.
Restoration Hardware opened its new Full Line Design Gallery at the Cherry Creek Shopping Center in Denver this week. This is another anchor property -- using 53,000 feet of the 90,000 left vacant by Saks at Cherry Creek.
RH is taking up the size of its stores from an average of 8,000 square feet to about 40,000+ for its new stores – and productivity rates on these new assets are headed higher. In the old stores, RH could only show 10% of its assortment, while in the newer format stores, the company is showcasing better than 75%. Consumers can’t (and don’t) buy what they don’t see.
RH Cherry Creek
Image source: CBS Denver
To view our analyst's original report on LinkedIn click here.
Our tracker suggests an improving selling environment into 3Q15, reinforcing our view that management was crying wolf with its organic guide down. Our LinkedIn JOLTS tracker is accelerating through the first two months of 3Q15, suggesting an improving selling environment.
As mentioned here before, we remain long LNKD into its next earnings release on October 29th. We expect a clean beat and raise. We expect this will be a positive catalyst for the stock.
To view our analyst's original report on Zimmer Biomet click here.
In case you missed it, check out this short clip of Healthcare analyst Tom Tobin on The Macro Show this week, in "Short Healthcare with Impunity?"
We got the first glimpse of U.S. knee market growth for 3Q15 this week, with JNJ reporting U.S. knee market growth of +2% YoY. This is a deceleration from +5% in 2Q15 and consistent with commentary we hear around weak volume from Orthopedic Surgeons.
We believe ACA was a meaningful tailwind to U.S. knee volumes, with pent-up demand among newly insured driving +10% incremental volume growth.
This tailwind will prove to be a meaningful headwind in coming quarters as the #ACATaper takes full effect, which will also weigh on Zimmer Biomet. We are already seeing the impact with HCA reporting disappointing volume and the Healthcare JOLTS series falling to ~12% YoY in August, after averaging 25% YoY for the first 7 months of the year.
To view our analyst's original report on Junk Bonds click here.
If you needed any further proof, Friday’s industrial production report reminded us of the slowdown in cyclicals. As Keith McCullough emphasized in a short note to clients Friday:
“The rate of change in US Industrial Production just slowed to its slowest rate of change of the year (-0.2% sequentially to 0.4% y/y) and is about to go negative. The comps only get tougher from here (underlined in green – that was the peak of the cycle).”
The #SlowerForLonger theme from Hedgeye Macro has been consistent and straightforward. Our pivot in advance of the most recent jobs report to get long of gold and stay out of the way short-side on commodities turned out to be a good position.
We removed the U.S. dollar (UUP) from the Investing Ideas long side on August 28th, and since then UUP has gotten tagged for -2%. By comparison, GLD is +4.2% since it was added to the long-side on September 2nd. Stick with this trade. There’s nothing gold likes more than down dollar, down rates.
Again, what causes down dollar, down rates? Well, more confirmation that growth is slowing. The Q3 GDP number will be reported on October 29th and we expect this number to slow on both a Y/Y and Q/Q SAAR.
Growth expectations have been correctly revised, but there’s still a good amount of room between Hedgeye estimates and consensus. We are expecting GDP in a range of 0.1%-1.5% for Q3 and another 1-handle in Q4. If that proves accurate, flatter goes the Treasury curve (TLT, EDV), wider goes high yield spreads (bad for JNK), and down goes the USD (GLD).
Stick with us closely regarding the relative central bank policy moves from abroad, as we expect Mario Draghi to counter growth slowing data in Europe with more QE. That would be dollar bullish and likely a headwind for Gold in the short-term.
"Make no mistake," Hedgeye CEO Keith McCullough wrote in an Early Look earlier this week. "This is a #SuperLateCycle slowdown."
Stay out of the way of consensus quicksand. Stick with Hedgeye.
Hedgeye CEO Keith McCullough handpicks the “best of the best” long and short ideas delivered to him by our team of over 30 research analysts across myriad sectors.
Takeaway: Trading volume across category started its seasonal roll into 4Q. 1Q volumes have been stronger historically across the board.
Weekly Activity Wrap Up
Volume across category contracted week-over-week starting its seasonal slough off into 4Q. U.S. cash equities' fourth-quarter ADV dropped to 7.2 billion from 7.9 billion the week prior but remains +3% higher year-over-year. Meanwhile, options and futures activity is negative Y/Y and Q/Q. U.S. equity options activity is averaging 16.4 million contracts per day in the new quarter, a -5% contraction versus the fourth quarter of 2014 and a -9% contraction versus 3Q15. Futures activity is averaging 17.6 million contracts per day in the fourth quarter, an -8% year-over-year contraction and -5% quarter-over-quarter decline.
The slack in activity to start the new quarter is in line with seasonal patterns with both derivatives category (futures and options) historically putting in lower growth rates into 4Q. Cash equities tend to maintain a positive activity rate in the last quarter of the year, as the January effect and the tendenacy for stock prices to rise is priced in in December. All categories experience a substantial jump in 1Q activity, with new asset allocations being effected in the start of new calendar years:
U.S. Cash Equity Detail
U.S. cash equity trading came in at 6.4 billion shares traded per day this week. That brings the fourth quarter average to 7.2 billion shares traded per day, a +3% Y/Y expansion but -1% Q/Q contraction. The market share battle for volume is mixed. The New York Stock Exchange/ICE is taking a 25% share of fourth-quarter volume, a +4% year-over-year increase, while NASDAQ is taking an 18% share, a -9% year-over-year decline.
U.S. Options Detail
U.S. options activity came in at a 15.5 million ADV this week, bringing the 4Q15TD average to 16.4 million, a -5% Y/Y and -9% Q/Q contraction. The market share battle amongst venues continues to be one of losses at the NYSE/ICE, which has lost -12% of its share year-over-year settling at just 18% of options trading currently. Additionally, CBOE's market share has been falling recently and has started off the fourth quarter at 26%, -13% lower than 4Q14. NASDAQ, on the other hand, is starting the quarter strongly, increasing its market share by +15% compared to 3Q15, bringing itself back into line to the 24% share it held a year ago. BATS' share has been falling recently but at 8% in 4Q15TD it remains +32% higher than in 4Q14. Finally ISE/Deutsche's 15% share in 4Q15TD remains consistent with 3Q15, which brings it to +9% Y/Y growth.
U.S. Futures Detail
CME Group volume came in this week at 11.7 million contracts per day and is averaging 12.9 million for the fourth quarter, a -13% Y/Y and -10% Q/Q contraction. However, CME open interest, the most important beacon of forward activity, currently tallies 101.8 million CME contracts pending, good for +9% growth over the 93.7 million pending at the end of 4Q14, an expansion from the prior week's +6%.
Activity levels on the futures side at ICE fell to 4.4 million contracts this week. However, at 4.7 million contracts traded per day in 4Q15TD, activity has grown +7% Y/Y and +10% Q/Q. ICE open interest this week tallied 65.8 million contracts, a +11% expansion versus the 59.4 million contracts open at the end of 4Q14, an improvement from the prior week's +9%.
Monthly Historical View
Monthly activity levels give a broader perspective of exchange based trends. As volatility levels, measured by the VIX, MOVE, and FX Vol should rise to normal levels after the drastic compression this cycle, we expect all marketplaces to experience higher activity levels.
Sector Revenue Exposure
The exchange sector has broadly diversified its revenue exposure over 10 years as public entities with varying top line sensitivity to the enclosed trading volume data. The table below highlights how trading volumes will flow through the various operating models at NASDAQ, CME Group, ICE, and Virtu:
Please let us know of any questions,
Jonathan Casteleyn, CFA, CMT
Joshua Steiner, CFA
It’s been our long held belief that the Board of Yum! Brands (YUM) has needed to “de-risk” the company from its large China operations. It now looks like that change is inevitable. At least there are few large shareholders that hope so!
Yesterday, after the close YUM announced that Corvex’s Keith Meister has joined YUM’s Board of Directors. This move alone signals a shift in the company’s thinking, which was inevitable following the plunge in YUM’s stock following the company’s recent earnings announcement. Also, after the close, the company updated its 4Q15 guidance, which contained more bad news. Fortunately, the updated guidance will take a back seat to the conclusions emerging from the board’s “year-long strategic review.” YUM said it will announce its decision about a prospective restructuring “shortly”.
Reading between the tea leaves it now appears most likely that YUM will announce plans of a material restructuring on or before its December 10th Analyst Meeting.
The two most likely events are:
Other possible events include:
The most important event will be to limit the company’s exposure to the volatility in the China business and return the company to being a high margin high return asset-light global franchise business model. Currently, YUM is trading at 11.7x NTM EV/EBITDA versus 15.6x for its global asset light peer group and 12.5x for McDonald’s.
We can still value YUM close to $100, but the multiple assumptions behind that can be called into question give the current macro environment in China. That being said we can still see this stock getting back to $90.
We look forward to hearing what the YUM Board of Directors has to tell shareholders.
Please call or e-mail with any questions.
Takeaway: Please note we are removing Penn National Gaming from Investing Ideas
After a very strong run since we added it to Investing Ideas on May 26th, we are removing Penn National Gaming (PENN) from Investing Ideas today. Shares are up approximately +9% since we added it, versus -3.8% for the S&P 500.
Here's an update from Hedgeye Gaming, Lodging & Leisure analyst Todd Jordan:
We are still constructive on PENN's long term prospects. The stock has performed well and the valuation now looks reasonable rather than cheap. Most of the catalysts have come to fruition, near term earnings look in line with estimates, and we await a better entry point or the emergence of additional catalysts to revisit the long idea.
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