A battered bunch...
Takeaway: We are adding Lazard to Investing Ideas today.
Editor's Note: Please note that our Financials analyst Jonathan Casteleyn will send out a full report outlining our high-conviction short thesis later this week. In the meantime, below is a brief summary of our thesis sent yesterday by Hedgeye CEO Keith McCullough in Real-Time Alerts.
Looking for great ways to play the end of the levered investing cycle? Look no further than bankers at Lazard (LAZ). Per Jonathan Casteleyn's most recent research note:
"Like most cyclical stocks, Lazard "looks" cheapest at market tops as its earning downturn is just getting started versus at market bottoms when the company is underearning and shares "look" expensive (but they are actually great early cycle longs).
We have earnings flat at $2.80 for 2016 and 2017 which we capitalize at 8-9x for a fair value of $25. However in a 1 Emerging Market type downcycle, Lazard asset management with ~50% of its asset-under-managments in EM credit and equity will cause LAZ stock to overcorrect and spit off more downside (substituting current day China for Thailand in '97 in running out of FX reserves to support its currency and plugging in Venezuela or the Ukranine for Russia's '98 default)."
Takeaway: Investors made the first contribution to taxable bonds in 15 weeks, although only a modest +$107 million.
Editor's Note: This is a complimentary research note which was originally published February 25, 2016 by our Financials team. If you would like more info on how you can access our institutional research please email email@example.com.
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Investment Company Institute Mutual Fund Data and ETF Money Flow:
In the 5-day period ending February 17th, taxable bond funds saw their first inflow in 15 weeks, although only a modest +$107 million. Also within bonds, fixed income ETFs took in +$2.9 billion. That amount included +$448 million in contributions to the long duration Treasury TLT fund, which has now increased year-to-date assets by an astounding +$3.0 billion or +44%. Meanwhile, investors continue to exit equity mutual funds and ETFs, drawing down another -$4.1 billion from the category, even during a week with declining volatility. International equity funds, however, were the exception within total equity products, taking in +$1.0 billion, as the category continues to experience stable inflows. Finally, investors seeking safety shored up +$8 billion in money market funds as the move to build cash is accelerating.
In the most recent 5-day period ending February 17th, total equity mutual funds put up net outflows of -$1.2 billion, trailing the year-to-date weekly average outflow of -$1.0 billion but outpacing the 2015 average outflow of -$1.5 billion. The outflow was composed of international stock fund contributions of +$1.0 billion and domestic stock fund withdrawals of -$2.3 billion. International equity funds have had positive flows in 41 of the last 52 weeks while domestic equity funds have had only 5 weeks of positive flows over the same time period.
Fixed income mutual funds put up net inflows of +$964 million, outpacing the year-to-date weekly average outflow of -$873 million and the 2015 average outflow of -$475 million. The inflow was composed of tax-free or municipal bond funds contributions of +$857 million and taxable bond funds contributions of +$107 million.
Equity ETFs had net redemptions of -$2.9 billion, slightly better than the year-to-date weekly average outflow of -$4.4 billion but trailing the 2015 average inflow of +$2.8 billion. Fixed income ETFs had net inflows of +$2.9 billion, outpacing the year-to-date weekly average inflow of +$2.4 billion and the 2015 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 2015 and the weekly year-to-date average for 2016:
Cumulative Annual Flow in Millions by Mutual Fund Product: Chart data is the cumulative fund flow from the ICI mutual fund survey for each year starting with 2008.
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 2015, and the weekly year-to-date average for 2016. In the third table are the results of the weekly flows into and out of the major market and sector SPDRs:
Sector and Asset Class Weekly ETF and Year-to-Date Results: With Treasury inflows trending, the long duration Treasury TLT ETF took in another +$448 million or +5% last week. Also, the utilities XLU fund took in +$469 million or +6%.
Cumulative Annual Flow in Millions within Equity and Fixed Income Exchange Traded Funds: Chart data is the cumulative fund flow from Bloomberg's ETF database for each year starting with 2013.
The net of total equity mutual fund and ETF flows against total bond mutual fund and ETF flows totaled a negative -$8.0 billion spread for the week (-$4.1 billion of total equity outflow net of the +$3.9 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 +$475 million (more positive money flow to equities) with a 52-week high of +$20.5 billion (more positive money flow to equities) and a 52-week low of -$19.0 billion (negative numbers imply more positive money flow to bonds for the week.)
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:
The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.
Takeaway: A rare ‘bulletproof’ quarter for KATE – numbers and communication. Our thesis is playing out, and we’re sticking with it as a Best Idea.
INVESTMENT SUMMARY AND CONCLUSION
In January of last year, we issued a note stating that ‘KATE Put Up the Best Comp in Retail’. Roughly a year later, we’re saying the same exact thing. Sure, a 14% number this year might not seem eye-popping, but a) it went up against an incredibly difficult 28% in 4Q14, and b) virtually every company in the space has sharply decelerated since last year. KATE is leading, again. This is a rarity for us to say, but the quarter, and the conference call were both bulletproof, at least based on the standards KATE has set in the past.
We’re not making any meaningful changes to our model, as our thesis is unchanged, and the story is progressing as expected. We like the fact that the company is starting to talk about (gasp!) E-P-S as a financial metric. That’s been our contention for the past six months, that an actual earnings base after seven years of losses would give investors a more tangible valuation metric, as opposed to the ‘adjusted EBITDA’ numbers that no one really trusts anyway.
The current 25x p/e on current year numbers might seem like a stretch. But the earnings growth rate for the next three years is 40-50%. Using a multiple with a 50% discount to growth in 2017, we get to a $40 stock. We don’t want to get greedy with a high-beta high-multiple stock in this tape where its style factors are so clearly out of favor. But when all is said and done, we think the company will continue to execute, and valuation will prove supportive for this stock to work.
1) Topline: The way we are doing the math on 2015 (adding back Fx and quality of sale initiatives) we get to 21% revenue growth in NA and 6% Intl (14 percentage point headwind from Fx). Despite the noise associated with a lot of shifting pieces on the top line due to international agreements, etc. – KATE reported 18% revenue growth vs. reported growth of 7%. Putting that into the context of the segment is dead talk, commentary out of COH which has reported decelerating category growth in NA premium handbag & accessories market from HSD a year ago to flat in the quarter ended in December, and a pullback in the promotional posture a 13% comp is downright impressive. In fact it’s the best number in retail we saw printed in 2015.
But, let’s be clear about one point…2015 was a bridge year for KATE. With promotional cadence planned flat in ’16 in the NA market (at both wholesale and retail after a significant pullback), new international agreements ramping up after a year of reorganization, and 14 new licensed product categories launched in late 2015/early 2016, we expect to see sustained comp growth. KATE’s guidance was markedly bullish on the comp line at low-mid teens, and keep in mind that KATE has blown these numbers out of the water in past year. In 2014 and 2015 the company initially guided to 10%-13% and HSD comp growth, but printed 24% and 13% in each year, respectively. We expect that trend to continue.
2) Margins: The growth algorithm for KSNY this year looked like this: 8% reported adjusted revenue growth leveraging into 38% adjusted EBITDA growth. As good as that looks on both an absolute basis (profitability rate up 350bps) and relative to expectations (reported 16.7% EBITDA margin vs. guide of 15.7%), if we adjust the 2014 number for the Kate Saturday/Jack Spade liquidation we get to a reported EBITDA margin of 15.9% (see chart below). That means we saw just 80bps of leverage in the core business on 18% revenue growth.
Keep in mind that the target for 2015 was 15.7% meaning that to hit the target for 2016 of 18-20% we would need to see 230-430bps of leverage in 2016. Updated guidance now implies only 190-300bps of leverage in 2016, when it appears that the majority of the outperformance in 2015 relative to the targets guided to was due to outperformance on the sales line. Or put another way, KATE didn’t push out costs to hit this year’s numbers. Plus, we should start to see the benefit of in-house sourcing (30-50bps this year) continued growth of higher margin international distribution agreements, a growing (higher margin) licensing category which was just 2% of sales in 2015, and general corporate leverage on a higher sales base. We won’t get greedy in 2016 on the EBITDA side, as KATE continues to invest in order to fuel the top line. But, maybe the bigger takeaway is that the company targets of 18.6%-20% are just stopping points on the way to the mid-20s.
Takeaway: It pays to listen to Kevin Kaiser.
Earlier today, maverick Hedgeye Energy analyst Kevin Kaiser hosted a short call on Summit Midstream Partners (SMLP).
Kaiser was the original bear on MLP stocks, like Kinder Morgan (KMI) and Linn Energy (LINE), while virtually all of the conflicted, sell-side analysts on Wall Street remained bullish. Below is an update from a post of Kaiser's short calls from our original post, "A Cautionary Tale: Energy Analyst Kevin Kaiser's MLP Warning and 8 Short Calls."
As you can see, he nailed it.
Editor's Note: To access Kevin Kaiser's research email firstname.lastname@example.org.
Takeaway: Only three sectors in ten have positive earnings growth of the 485 S&P 500 companies that have reported earnings.
Nearly all of the companies in the S&P 500 have reported earnings. It's not's looking good. Below is some related analysis and key chart Hedgeye CEO Keith McCullough highlighted to subscribers this morning:
"Imagine consensus blamed the following reality for terrible U.S. Equity returns in the last 6 months: 485/500 S&P companies have reported an aggregate Sales decline of -4.5% (and an earnings year-over-year decline of -8.5% on non-GAAP numbers); that made-up EPS decline is right inline with the year-to-date decline of the Russell 2000 of -8.7%."
**Notice only 3 sectors in 10 have positive earnings growth.
Ask a permabull about this next time you hear them spouting off about the "great" outlook for S&P earnings.
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