The most recent round of permabull narratives rests on an increasingly shaky foundation.
In this excerpt from The Macro Show this morning, Hedgeye CEO Keith McCullough responds to a subscriber’s question on investing in a world riddled with global central bank interventionism.
Takeaway: Whatever the Fed decides to do or say today, this week's industrial production and retail sales data reaffirms our dour US economic outlook.
Investors are waiting with bated breath for the FOMC statement and Janet Yellen's testimony. Unfortunately, no matter what the Fed does or Yellen says today, the Fed is not omnipotent and cannot arrest economic gravity.
Case in point... today's industrial production number which yet again affirms our view that sections of the U.S. economy are already in recession.
Or how about Retail Sales? That too was disappointing.
(...That's just this week's data.)
We've got a 73-page slide deck laying out our view that U.S. economic growth is stalling. Here's a taste:
But why pay attention to all of this when Janet Yellen is simply going to tell us it's "all good" at 2:30PM ET?
Takeaway: Flying Blind + Blind Faith = a great SHORT selling combination...
Editor's Note: This is a brief excerpt from a recent institutional research report written by our Restaurants team. If you would like access to our research please email firstname.lastname@example.org.
Chipotle (CMG) is on our Hedgeye Restaurants Best Ideas list as a SHORT.
Even with a disastrous sales update after the close, we still feel like we’re fighting an uphill battle on the CMG short call, but make no mistake, our conviction level is very high! The CMG management team is flying blind and has no practical experience in recovering from one of the greatest foodborne illness disasters ever experienced by a restaurant company. That opinion and the blind faith the street has put in this management team makes for a great SHORT selling combination.
THE CURRENT SITUATION
In part, our conviction level remains high because the company was experiencing growth related issues in 3Q15, prior to the company’s 4Q15 sales related issues. Bottom line, CMG should have slowed unit growth following the 3Q15 earnings and not accelerated it! The three biggest problems the company faced then and still face today are:
Taken together, all three suggest significantly lower returns and an increased likelihood that the company will not get the units open on time, or will compromise the quality of the openings to meet Wall Street expectations.
The other key to the SHORT case...
***Please email email@example.com if you are interested in our institutional research.
Takeaway: February Housing Starts bounced off easy sequential and Y/Y comps, but softening builder confidence (HMI 58) bodes poorly.
Our Hedgeye Housing Compendium table (below) aspires to present the state of the housing market in a visually-friendly format that takes about 30 seconds to consume.
Today’s Focus: February Housing Starts & Permits
We knew this morning’s Starts data for February was going to be solid; Base effects were exceedingly easy given severe weather last year and seasonals were equally supportive as each of the last two years saw weather depressed Februaries give way to rebound strength in April/May (see 1st chart below). Next month’s March data should benefit from a similar dynamic.
So, we successfully hurdled the easy comp, now what?
The answer carries some duration sensitivity:
On balance, the data mosaic across housing continues to support our negative outlook. As the data stands, we would not view slowing HPI, decelerating volume growth in the existing market, flatlined Starts activity and negative 2nd derivative trends in New Home Sales and Builder Confidence as a particularly bullish fundamental factor constellation, especially heading into the seasonally tough 2Q/3Q equity performance periods (see last 2 charts below).
About Housing Starts & Permits:
The US Census Bureau records the number of new housing units that have obtained permits for construction and those that have begun construction. This data includes new buildings intended primarily as residential units. The US Census Bureau defines a start as, “Start of construction occurs when excavation begins for the footings or foundation of a building.”
Joshua Steiner, CFA
Christian B. Drake
Takeaway: We don’t think WSM is a short. But with 50% of growth appearing to slow materially, we wouldn’t touch WSM ahead of the print on either side.
Despite a 35% draw down from peak-to-tough, a less than impressive performance in the ‘junk rebound rally’ we’re seen over the past six weeks, AND a generally positive predisposition toward the name longer-term, we simply can’t get excited about WSM over the near-term.
Yes, there are a few positive factors – let’s get those out of the way.
1) The RH blowup earlier this quarter was much less about macro and more about execution hiccups/burps/projectile vomiting associated with launching new concepts. The promotional fears are real, but we’d argue that’s what drove the negative bifurcation in performance between the home furnishings names and the broader retail index starting in mid-November.
2) Numbers printed out of LZB, PIR, KIRK, and ETH have looked better than feared – pretty much across the board. Granted, this is not the most appropriate sample (though RH is not either), but the average PM probably throws them all in the same bucket – for better or worse.
3) WSM is lapping its own set of executional headwinds caused by the West Coast port delays in 1H15 which cost the company $30-$40mm on the top line and 50bps+ of margin in each of the first two quarters of 2015. Normalized product flow should allow the company to recapture a large portion of that, at least on the margin side. We’d really argue that its own complex operational structure (between e-commerce and B&M) simply could not handle the stress of an event like a Port Strike (why are there fewer than five companies in all of retail that repeatedly talked about this, despite the fact that everyone sources from the same place?). Nonetheless, an easy comp is an easy comp.
While all that matters, the unfortunate reality is that the growth story and stock drivers for WSM are almost entirely hinged on the West Elm concept. That might sound strange given the fact that the brand is only 17% of sales but a) it’s the only concept in the portfolio of brands actually growing square footage, and b) West Elm has accounted for ~50% of incremental growth for the better part of two years, which is evidenced by the first chart below. We think that’s potentially at risk.
We triangulate several sources for every company each quarter to gauge the online sales curve vs a year ago. These sources have tracked West Elm well in the past. They’re the same sources that are suggesting to us that 50% of growth might have meaningfully decelerated, as outlined in the second chart below. The quarter might still be fine, as the Street is looking for just 4% EPS growth. But in 1Q expectations accelerate to 14%, which might lead WSM to an underwhelming guide. Does the Street know this with short interest at a 5-year high and 10.5% of the float? Probably. But we’re not suggesting that this is a great short here. We’re simply saying that despite our temptations, our process tells us that this is absolutely not a buy before the event.
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