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LEH: 72 Hours Later...

Lehman is up +52% from its closing price on July 14th. Was today’s +14% move the end of the pain trade, or just the beginning? I have a critical resistance level of $21.63, and would not be surprised to see LEH test that. If it fails there, on volume, it could go back to $10.11 in a hurry.

This stock epitomizes what we were talking about this morning. Very few US centric hedge funds have a risk management process to handle this kind of stock specific volatility. Winners and Losers will emerge.

If you’re not a trader. Don’t trade this stock.
KM
  • LEH +14% Today on 72M shares
LEH 72 Hour Squeeze

Oil Futures Charts...

Contango remains in the Oil Futures market. Now things get really interesting.

Andrew Barber
Director
Research Edge
    1..10
The sell-off in oil hit the front month hardest with heavy volume in the August contracts.
Although the liquidity gap is profound, as volatility has driven out smaller speculators and larger players increasingly build capacity in the physical market, the divergence in liquidity between front and back month contracts has actually CONTRACTED over the long term historical -narrowing contango.

China's Economic Growth Has Finally Slowed On A Reported Basis

China’s slowdown is finally on the tape, and we don’t have to engage in a debate about its probability of coming to fruition or not anymore. Chinese GDP was reported today at +10.1%. This is a sequential slowdown from the Q1 report of +10.6% year over year growth, and the second consecutive quarter of decelerating economic activity.

The Chinese Yuan reacted very negatively to the news, having its biggest down day since May 26th.

This of course, is better than bad for the US Dollar, which has been begging for a data point to go in its favor.
KM
  • Chinese Growth Has Slowed
http://www.chinadaily.com.cn/china/2007

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TODAY'S JOBLESS NUMBER HELPING THE US DOLLAR BUILD A BASE?

US weekly Jobless claims came in at 366,000 and that was higher than last week's 348,000, but the number was low enough to take the 4 week moving average lower for the 2nd week in a row.

As the facts change, we do. This number being more bullish than bearish, on the margin, implies that its more "OK" today for the Fed to do what I think they need to do, raise rates.

The US Dollar has reacted positively again today, trading up to 72.22.
KM

YUM - UNDERSTANDING GUIDANCE

YUM raised its FY08 U.S. same-store sales guidance to up at least 3% (versus its prior expectation of up 2%-3%) after reporting a 4% number in 2Q. While we are happy to see this improved top-line number, it is important to note that the company also took down its U.S. operating profit guidance to down 3% from up 5%.

Management highlighted that U.S. commodity inflation is having a more negative impact than they initially forecasted (now expecting inflation of over $100 million versus their original forecast of $55 million). Although the company will take pricing actions to offset some of these incremental costs, this $45 million of additional expenses represents about a 6% hit to YUM’s U.S. operating profit growth relative to management’s initial guidance. Management, however, took guidance down by 8% while raising top-line expectations, which leads me to believe that the company’s Why Pay More value initiatives at Taco Bell and new pasta products at Pizza Hut are driving traffic at the expense of margins. Management alluded to the margin tradeoff between its new pasta products versus pizza, but called it “minimal” and said that “you can have a little margin degradation as long as you’re making more cash.”

  • I understand the motivation for using value to drive traffic, but think the risk to margins, particularly relative to the current commodity cost environment, is a real concern.
  • YUM also raised its operating profit targets for China and YRI. The company now expects at least 27% growth in China (versus initial guidance of 20%) and at least 11% growth at YRI (from 10%). YUM has consistently posted solid operating profit results from both of these segments on a reported and currency-neutral basis.
  • I think it is worth noting, however, that the currency benefit has grown over time for both China and YRI and helped by 12% and 9%, respectively, in 2Q08. Investors have become accustomed to these high, double-digit reported operating profit growth results and this favorable currency impact may not be around forever.


  • As an aside, yesterday the Yuan had its biggest down day since May 26
The trends for KFC look dismal
The Currency Benefit

Little Bankruptcy, Major Theme

Just 1 day after we conducted our conference call on the reemergence of the bankruptcy cycle, Shoe Pavilion, a 115-store retailer of off-priced footwear, publicly filed for Chapter 11. Two of my key themes in this space – footwear supply chain squeeze and aggressive off-balance sheet activity – are teaming up to KO those with little reason to exist.

There are several major implications and themes here…
  • 1. This is not just a ‘weak consumer issue’ issue. Margins are under pressure due to the supply chain squeeze that I think is just starting, and the weak players are dropping off. There will be more.
  • 2. Investors need to look at retailers with different lenses (check out Exhibit 1). One of the key themes I highlighted on yesterday’s call is that you can’t just look at EBIT margins and debt levels in evaluating bankruptcy candidates. You’ve gotta look at REAL debt (incl off balance sheet liabilities) plus the duration and flexibility of a company’s lease portfolio. In the case of SHOE, accounting for operating leases doubles its implied debt. Also, minimum rent obligations are going up while competitors’ are coming down. In other words, SHOE was borrowing from the future to prop margins and keep its head above water. An aggressive strategy that just came home to roost.
  • 3. Big Box Footwear Retail simply does not work! Look at the facts over time; Just for Feet, Footstar, Foot Action, Stave and Barry’s, and now Shoe Pavilion – can’t this industry take a hint?!? Managing hundreds of brands, with each design in multiple colors across 28 different sizes simply does not leave enough margin to justify paying higher rent structures for bigger and better real estate.
  • 4. Note to DSW and Brown Shoe (Famous Footwear) – that’s exactly why I think your margin structures are headed towards zero.
  • 5. Impact on competitive landscape. 72% of SHOE’s 115 stores are in California and Texas. How I’m doing the math, this overlaps with about 24% of the store base for Payless. DSW could benefit as well as 21% of its stores are in those states – but are geographically not as aligned – and not enough jump ball business to offset DSW’s own flawed real estate strategy (DSW’s rent escalators look similar to SHOE’s). Also keep in mind that Dick’s sporting goods and Hibbett are both adding capacity in Texas (and DKS is stepping up in CA). That’s concerning.
  • 6. Creditors. The most notable point to me is that of the top 20 creditors, Nike is not one of them. Kind of interesting given that Nike has a 40% share of the Athletic Footwear business. This also is a good nugget as it relates to Nike’s US Footwear business (i.e. not jamming product into bad channels). Here’s a list of top creditors in the Athletic/Athleisure space. Solid representation from Adidas and Reebok. Not good.
    a. New Balance, $324,302;
    b. Asics America, $196,166
    c. Adidas, $128,514
    d. Reebok, $117,583
    e. Diesel USA, $111,212
    f. Keds Corp., $100,165;
    g. Naturalizer (Brown Shoe), $95,310
We can't simply look at reported debt levels. We need to add the value of operating lease obligations and then adjust by the flexibility of those obligations. This exposes big differences in risk management.

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