CHART: Three Currency Monte

The chart was extracted from a note dubbed "THREE CURRENCY MONTE" issued to Risk Manager Subscribers earlier today, September 9, 2010.  Sign up for a free-trial or subscribe for access to the note, Macro Select updates and the real-time portfolio.



The past couple of days have provided some interesting commentary and data points out of Asia and the U.S. as it relates to the yuan, the yen, and the dollar. We remain bullish on the Chinese yuan from a TAIL perspective, bearish on the U.S. dollar from a TAIL perspective and bearish on the Japanese yen from a TREND perspective.



CHART: Three Currency Monte - Screen shot 2010 09 09 at 1.23.57 PM


I recently met with CEO Jim Hyatt at a COSI in NYC.


Normally when you schedule to meet a restaurant executive at a store they pick one that has recently been renovated.  For my meeting with Jim, he picked a store on 6th ave in NYC that is actually under renovation (it was going to get a new coat of paint that night).


How fitting that our first meeting should be at that location; the store serves as a perfect metaphor for the stock.   The perception of passersby in the street, and of investors on Wall Street, is that the store and stock, respectively, are undergoing renovation.  What the street does not see yet is how good things are going to look when it is finished.  I have never met Jim before but he seems to be the right person for what is needed at COSI - a restaurant operator. 


By way of background, Jim was a multi-unit Burger King franchisee and was recruited to join Burger King's corporate operations in 2002.  From 2002 until his promotion to Chief Operations Officer in 2005, his responsibilities at Burger King included Senior Vice President, Operations Services and Programs; Senior Vice President, U.S. Franchise Operations; and Executive Vice President, U.S. Franchise Operations.  Mr. Hyatt was Executive Vice President & Global Chief Operations Officer of Burger King Corporation from August 2005 until joining Cosi in September 2007.


Cosi has had a rocky time as a public company.  First, it went public before it was ready and it was owned and operated by executives who only knew how to grow the store base.  With an overly-aggressive store grow came a corporate infrastructure that did not allow the company to make money.  As I see it, the old management team never figured out the operating model but they continued to open stores regardless.  Needless to say, a disaster ensued but that is all history.


Since joining in 2007, Jim’s operating mentality has been to right-size the ship - close unprofitable stores and get the cost structure of the company better aligned.  In addition, he needed to get all the units operating under one common platform.  Unfortunately, between the time he joined and the results he is posting today, the consumer environment got significantly worse. 


While we are still looking at a difficult consumer environment, the company that has spent the last three years focused on operations and profitability and they should reap significant rewards from their efforts.  We are only now just seeing the fruits of all that work and there is still much to do. 


COSI operates in the more upscale “quick casual” segment of the industry which is seeing better trends than other segments in the restaurant industry.  Like others in the “quick casual” space COSI offers a comfortable and contemporary atmosphere.  It’s a restaurant that appeals to young generations who want to relax, eat, and use their mobile devices.  Not to mention that the signature bread creates customer loyalty.


For 2Q10, system same-store sales increased 3.1% with franchise sales up 2.6% and company-owned sales up by 3.3% (traffic increased 3.1% in the quarter).  On the 2Q10 earnings call COSI reported that July was up 8% and represented the fifth consecutive month of positive same store sales.  I believe that August and September will make it seven straight months. 


The improvement COSI is seeing in the top line is coming from all day-parts: catering, breakfast, lunch, snack and dinner.  The biggest winner on a percentage basis is breakfast with growth well above 8%.  More importantly, next week in Chicago COSI will be testing online ordering and online catering.  If all goes well, the online ordering initiative will be rolled out by the end of November.  Early indications are that this could accelerate same-store sales or, at a minimum, give strong visibility for same-store sales growth well in to 2011 and 2012.  


The current growth in same-store sales is also being driven by increases in, and more efficient use of, marketing dollars.  With the help of a new advertising agency, COSI has increased spending on “out-of-store” media to increase awareness of the brand and drive incremental traffic.  COSI also has a newly designed website, menu boards and a new social media team in place to drive the marketing effort. 


Given the current sales trends and the appeal of the COSI concept, it will not be long before the franchise community is on board.  The better the numbers the company puts up the increased likely hood the company can refranchise stores to new franchisees and see growth from the existing franchise base.  I would also not be surprised to see the company sign a couple of foreign franchise agreements.  


If we assume a 45% flow-through on every additional sale coming through the store base and 8%+ same-store sales (and take into account the company’s ability to control costs), there is a very high probability that the COSI will be profitable in 3Q10.


Lastly, Jim offered up his 2020 vision for the company.  With the backdrop of a concept with a strong operating model, unit growth will occur over time.  So where does he see the company in 2020? He believes that COSI will have 500 stores in the U.S. and 150 overseas.




Howard Penney

Managing Director

Three-Currency Monte

Conclusion: The past couple of days have provided some interesting commentary and data points out of Asia and the U.S. as it relates to the yuan, the yen, and the dollar. We remain bullish on the Chinese yuan from a TAIL perspective, bearish on the U.S. dollar from a TAIL perspective and bearish on the Japanese yen from a TREND perspective.


Position: Long the Chinese Yuan (CYB); Short the U.S. Dollar (UUP); Short the Japanese Yen (FXY)


The past couple of days have provided some interesting commentary and data points out of Asia and the U.S. as it relates to the yuan, the yen, and the dollar. While certainly not points of inflection within the broader context, we do think these incremental nuggets are worth consideration when formulating your intermediate-to-long-term currency outlook.




The latest unverified rumor out of China is that the central bank may allow the yuan to start trading versus the Russian ruble within 2-3 weeks. The rumor is based on a circulating central bank document which is proposing to allow Chinese banks to apply for ruble trading. Currently, China only allows trading of its currency with the U.S. dollar, Hong Kong dollar, Japanese yen, the euro, and the British pound and Malaysian ringgit. Extending these agreements to countries like Russia and potentially Brazil will increase cross border trade using the yuan, which more than doubled in 2Q10 vs. 1Q10 to 48.7 billion yuan ($7.2 billion). Natural byproducts of that include further upward pressure on the yuan and further downward pressure on the U.S. dollar, as it becomes less relevant internationally on the margin. We expect that to be bullish for commodity prices over the long term.




Data from Japan’s Finance Ministry shows that China bought more Japanese bonds than it sold in July for the seventh straight month (a sequential acceleration: net purchase of 583.1 billion yen in July vs. 457 billion yen in June). Unfortunately for Japan, this comes at a time when the yen is near a 15 year high vs. the U.S. dollar, creating massive negative implications for Japanese exporters absent Japanese government intervention in the FX market – which Japanese Finance Minister Yoshihiko Noda said he was willing to do yesterday.


This “crisis” has Noda essentially begging China to stop, saying today that “it’s inappropriate for China to buy Japanese bonds without a reciprocal ability for Japan to invest in China’s market… I feel strange that China can buy Japanese bonds while Japan can’t buy theirs.”


Putting these statements into context, we interpret these comments as Japan saying to China, “enough is enough”, given the economically damaging surge in the yen. Interestingly, a report from Barclays Plc. in Tokyo suggest that China’s purchases of JGB’s consist mainly of short term debt, which is a tactical move of sorts designed to take advantage of a rising yen.


China’s reply was in line with their recent displays of international power and influence: “Our management always adheres to security, liquidity, and good value. We will decide whether or not to buy one country’s bonds according to our own needs.” Let us recall that China has nearly liquidated its holdings of short term U.S. Treasury bills (98% decline since peak holdings of $210.4 billion in May ’09) in the context of a Burning Buck. As long as this trend continues (which is likely given Bernanke’s resolve to support the U.S. economy by any means necessary), we expect China to keep providing incremental upward pressure on the yen – further increasing the likelihood of Japanese government intervention to weaken the currency.




U.S. Treasury Secretary Timothy Geithner said today that China must let the yuan rise more quickly to show trading partners that it’s following through on its promises. He continues: “Frankly, they haven’t let the currency move very much so far. They know that they’re just at the beginning of that process and I think we’d like to see them move more quickly.” We’ve seen from month’s past that China has been reluctant to give in to external pressure regarding the yuan, so we doubt this round of badgering will end differently. It could, however, spur increased talk of anti-dumping legislation out of Washington. Just last week, Obama rejected a plea from U.S. manufacturers to increase duties on imports from China, though a Republican house and a GOP seat gain in the Senate could allow such bills to pick up momentum should the midterm elections end up as we expect.


Darius Dale



Three-Currency Monte - 1

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EARLY LOOK: Feeling Strange

This note was originally published at 8am this morning, September 9, 2010.  INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.




“Is it not strange that desire should so many years outlive performance?”
-William Shakespeare


This morning’s global macro risk management setup feels as strange as it has since September of 2007.
As most market historians will recall, the S&P 500’s run from Labor Day of 2007 until the first week of October 2007 was the final countdown to get out. That’s not to say that the shorts who pressed the August of 2007 lows didn’t get run over in September of 2007 by the way. I, for one, got crushed.
I’m not one to say that market history repeats, but I am a big believer that patterns of market behavior rhyme. Think about both the absurdity of the prices paid by Private Equity and LBO firms in 2007 and then rewind the quality of yesterday’s “rumor mill” about everybody buying everybody. The sad reality of our business is that the hopes and desires of low quality market players trying to make a living on rumors is many years outlived by actual performance.
The performance of the S&P 500 from September 4th – October 8th of 2007 was +4.3%. The month-to-date performance of the S&P 500 for September of 2010 is +4.7%. You can tell me what parts of the “M&A” rumor mill is driving this low-volume rally to lower-highs. I can tell you that it’s not insignificant.
I can also tell you that there are significant and strange developments occurring across global markets this morning. Remember, managing the risk associated with a rally in US Equities requires analyzing the multi-factor and multi-duration price action that’s driving this globally interconnected ecosystem. The best I can do this morning is summarize how strange this is all feeling by major geography.
Before I dig in geographically, it’s worth mentioning that there is one major factor governing news-flow worldwide right now – professional politicians fundamentally believing that they are the arbitrators of all our desires. Strange.



1.      Asia
Other than Japanese equities crashing again (Nikkei 225 down -20% from its April peak) and few in the Manic Media acknowledging that Japan is a much larger long term issue than Greece, isn’t the following comment from Japan’s Finance Minister, Yoshihko Noda, this morning strange?

“I feel strange that China can buy Japanese government bonds while Japan can’t buy theirs.”

Capitalistic note to bureaucratic self: the world’s largest creditor can buy whatever they damn well please. You, Captain Debtor Nation, shouldn’t feel strange at all now that you have compromised and constrained your economic system with systemically impairing levels of leverage.
By the way, this is how a spokesman at China’s Foreign Ministry, replied in Beijing today. “We will decide whether or not to buy one country’s bonds according to our own needs.” There’s nothing strange about that.



2.      Europe
Watching Bloomberg TV’s Andrea Catherwood interview Greece’s Director General of Public Debt Management Agency, Petros Christodoulou, this morning was beyond strange. Never mind what a professional politician is doing with a title that long, what in God’s good name do market participants expect him to say about Greece’s debt?
In Q2 of this year, we introduced a Hedgeye Macro Theme called “The Sovereign Debt Dichotomy.” The long term cycle work on the sovereign debt default cycle was backed by Reinhart & Rogoff and our core thesis remains long term as cycles like these are. The bottom line is that sovereign debtor nations will be forced into restructuring or default at different points in time for the balance of the next 3 years. They won’t all happen at once!
Is it strange that Denmark (up +22% YTD) is trading up +0.79% this morning and Greece (down -28% YTD) is trading down again after getting clocked yesterday? Is it strange that Petros “rules out restructuring”? or is it just strange that a professional politician like this actually matters to markets?



3.      USA
Price action in US Equities is definitely improving. I can call that strange – I certainly did in 2007! But strange can remain longer than a short seller can remain solvent. Learning from my mistakes and evolving the risk management process is where I’m focused on improving.
Both the weekly ABC/Washington Post Consumer confidence (-43 vs -45) and MBA Mortgage Application (+6.3% week-over-week) reports were better than expected yesterday. For the two big things that matter for US economic growth (consumer spending and housing), there should be nothing strange about the fact that the only moves I made in the Hedgeye Portfolio yesterday were buys and covers. As facts change, I need to.
While these data points appear strange in the immediate term, they are real. It’s also important to Distinguish Our Immediate Term Duration from the Intermediate Term bearish TRENDs we continue to forecast in both US consumer spending and housing.
While I don’t think it’s strange that the US market won’t focus on something like Harrisburgh, PA defaulting on its September 15th payment until they actually miss the payment, it’s sometimes strange to just think about these things out loud from the fishbowl that is my office in New Haven, CT.
Whether its in CT, IL, or AZ, these states and the municipalities that they house are going to be feeling more and more strange as they march down the Road To Perdition that many European states have already trekked. Will Illinois be the next Greece?  Will the US Federal Government be forced to bail out municipalities and states like the EU had to with Greece, Spain, and Portugal?
If China is selling US Treasuries and buying Japanese Government Bonds, where will we get the money? There should be nothing strange about asking yourself these risk management questions.
My immediate term support and resistance levels for the SP500 are now 1086 and 1107, respectively. If 1086 can hold, I’ll continue to be far less aggressive with my shorts this September than I was in 2007. This Time Is Different.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer

R3: AMZN, GPS, Reebok, DECK, Online Sales Tax


September 9, 2010


Several moves again this morning by Amazon – this time on the technology front. One, a demand based pricing technology, another providing cross merchant purchasing flexibility using one’s Amazon account…these guys remain ahead of the curve. 




- The introduction of next-gen Checkout is the latest technological advance from Amazon and one that will greatly streamline the purchasing process and, importantly, avoid the pitfalls associated with redirection. Customers will now be able to make purchases on other merchant’s sites using their account. Not only should this enhance customer retention, but also help to increase conversion.


- In a rare sign of denim vitality, Van Heusen mentioned that its fall order book is up a healthy 10%+ in the category contrary to what we’ve heard from other retailers. What’s notable here is the price point, which at $59-$79 at retail puts CK jeans right in the middle of the void that has typically existed between $50 or less and $100+ premium brands that have reported the most significant weakness.


- With companies embracing the move towards ‘greener’ more sustainable processes, consumers should start to expect these efforts to become more apparent in the form of product packaging. With cost, originally one of the gating factors, no longer an issue (it’s actually cheaper now in most cases), change itself now appears to be the primarily deterrent for retailers. While only a small percentage of Amazon’s products come in “frustration-free packaging,” expect other retailers to follow suit as consumers become accustomed to ease of green.





Amazon Tunes In a Deal for - Inc. has made another acquisition and this time the deal is meant to bolster the biggest online retailer’s digital music business. Amazon acquired, an online music store and social media site featuring independent artists. featured a unique pricing model that used a software algorithm to set pricing on recordings by independent artists based on demand. The more times a recording was downloaded, the more the artist could charge up to a maximum of about $1.  <>

Hedgeye Retail’s Take: More important than the brand and its content is the technology behind this one – online demand driven pricing. The model sounds almost auction-like, but could prove effective in accelerating inventory turns across other categories as well (think Zappos). Certainly meaningful given the sheer volume of SKUs Amazon runs through its model daily.


Reebok Launches NFL Maternity Collection at Pea In The Pod - Reebok has partnered with A Pea in the Pod to offer an NFL maternity collection, with Elisabeth Hasselbeck, co-host of ABC's The View as the face of the line. <>

Hedgeye Retail’s Take: Only a day after the NFL indicated they might open up its apparel licenses to bid, Reebok broadens its net - this one could start to get interesting (and potentially expensive for Reebok) if not resolved quickly.


Gap Links With Valentino - Gap is celebrating its arrival in Italy by partnering with one of the country’s most famous couture houses — Valentino. The company will today reveal that the House of Valentino has created a capsule collection of women’s wear for the brand that will bow in late November to coincide with the launch of Gap’s flagship on Milan’s Corso Vittorio Emanuele. The collection has been designed by Valentino’s creative directors, Maria Grazia Chiuri and Pier Paolo Piccioli, using “iconic Gap pieces” as its basis, the company said. Stylist Karl Templer, who works closely with Gap and Valentino, introduced the two brands.  <>

Hedgeye Retail’s Take: This is a notable partnership for GAP – best known for its khakis and white shirts. To say that GPS has struggled to gain traction and relevance with its designs of late would be an understatement. Even with Valentino as an ambassador, Italy will likely prove to be a challenging market to penetrate given its fashion bias.  


UGG Steps Up NYC Presence - Ugg is spreading out across New York. The shearling boot brand is planning to open its third Manhattan location on Oct. 28, at Madison Avenue and 59th Street. A VIP kickoff event is also in the works and will be hosted by Vogue. For her part, Ugg Australia President Connie Rishwain said the company has high hopes for the new concept store. <>

Hedgeye Retail’s Take: Just in time for the holiday season. With practically every brand now offering their own version of ‘the shearling boot,’ dedicated retail stores should play in important role in driving demand for new models that will undoubtedly be made exclusive at UGG branded stores.


Sales Tax Amnesty Falls Flat - North Carolina invited 450 web retailers to join a program that would forgive uncollected taxes, but only 27 signed up. The state could go after the other merchants for taxes, interest and penalties tied to past transactions. Only 6% of invited online retailers have taken up North Carolina on its offer to forgive uncollected sales taxes in exchange for a promise to remit taxes later. Retailers who signed up do not have to worry about the state trying to collect sales taxes, penalties or interest for online purchases made by North Carolina residents prior to Sept. 1. <>

Hedgeye Retail’s Take: With the Delahunt Bill introduced July 1st and many states already passing the Streamlined Sales and Use Tax Agreement (SSUTA) the day that online retailers have to collect taxes is quickly (on a relative basis) becoming a reality. Interestingly, with only 6% of retailers stepping forward on the sales tax amnesty offer in North Carolina there appears to be significant disparity between perception and reality.


(if you are interested to read more on this topic, please contact to inquire about our e-Commerce Black Book released last month).


Import Cargo to Rise 16% in September - Import cargo volume at the nation’s major retail container ports is expected to be up 16% in September over the same month last year, but 2010 has already hit its peak and numbers will decline through the remainder of the year, according to the monthly Global Port Tracker report. <>

Hedgeye Retail’s Take: With inventory levels coming out of 2009 lean and heeding supplier warnings of 2H constraints, retailers ramped orders driving cargo traffic to unsustainable levels in the 1H. Needlessly to say, a gradual decline in 2H traffic is to be expected.


Mayor Bloomberg on Fashion - New York City Mayor Michael Bloomberg offered an impromptu address on the state of the industry and its future by discussing how New York City’s overall environment affects shoppers, Seventh Avenue manufacturing and how Friday’s festivities could rev up shoppers’ interest. The mayor said NYC has had record-breaking tourism figures. Despite being in a worldwide and national recession, New York City is on track to meet Bloomberg’s goal of bolstering tourism to 50 mm visitors in 2012. For 2010, the final tally should be about 45.5 mm , a slight gain compared with 2009, Bloomberg said. Emphasizing how shoppers’ spending is intrinsically tied to the overall environment, Bloomberg noted that real estate, stores and restaurants are showing signs of improvement. In addition, the city’s unemployment rate for July was down for the seventh consecutive month and (at 9.4%) is lower (by a hairline) than the national average (of 9.5%,). <>

Hedgeye Retail’s Take: A little pep rally ahead of Fashion Week is no surprise given how meaningful tourism is to the city. With events more staggered over the course of the week than in years past, it will be interesting to see how many fashion goers that usually opt to attend the New York show stay local to their international markets this year as a result.


Live TV Losing Younger Adults - Millennials and younger Gen Xers now report spending well under half of their video viewing time watching live TV, turning instead to online sources such as Netflix and other timeshifted options. <>

Hedgeye Retail’s Take: Live television adverting is starting to look much like newspaper did 10-15 years ago. Retailers and brands will have to continue to evolve towards online and mobile channels to capture customers. Interestingly, street-side and interior billboards are also seeing a resurgence in demand as technology enables these mediums to advertise ‘smarter’ with profiling capabilities as already seen in Japan.


R3: AMZN, GPS, Reebok, DECK, Online Sales Tax - 1


Total Apparel Group Faces Liquidity Crisis - Total Apparel Group, the U.S. master distributor for FIFA and FIFA licensed product in the U.S. and North American licensee for Kappa and Robe Di Kappa, released its results for the last two years and also indicated it is going through a liquidity crisis. The company has not reported its public-figures since it was founded in 2008. <>

Hedgeye Retail’s Take: Recall just last week that the China Dongxiang Group Co., a Chinese footwear company and owner of the Kappa sportswear brand in China, announced that they were looking to buy European and U.S. brands – sound like a fit? Total Apparel Group should be expecting a call…


US Senate Introduced Industry-Backed Bill to Protect Fashion Designs - US Sen. Chuck Schumer (Democrat-New York) introduced in early August new legislation to strengthen copyright protection for fashion designs, with the support from both the American Apparel & Footwear Association (AAFA) and the Council of Fashion Designers of America (CFDA). <>

Hedgeye Retail’s Take: Passing these bills is arguably the easiest step in the process, enforcing it is a whole other issue. As in most industries, smaller little known designers most often at risk of someone ripping off designs are typically capital constrained.


South Africa Deals With Wage Disputes - As South African president Jacob Zuma visited China last month to court investors to his country, Chinese companies were closing 85 apparel factories they own in Newcastle in the province KwaZulu-Natal because of a wage dispute. The factories employ about 8,000 workers who produce an estimated three million garments a month. Zuma is under fire because his three-day trade mission coincided with a strike by an estimated 1.3 mm South African civil servants — nurses, health and education workers and police — who are demanding higher pay. Workers are seeking an 8.6% boost. <>

Hedgeye Retail’s Take: Bangladesh is certainly not alone though South Africa accounts for far less of the global apparel export market.


McDonald’s sales results were announced this morning and while trends were maintained in the United States, they flattered to deceive.  Europe and APMEA showed softness.


In my preview note posted early yesterday, I outlined some GOOD, BAD, and NEUTRAL ranges for MCD same-store sales in August.  It is worth noting that a calendar shift from August 2009 to August 2010 (one less Saturday and one additional Tuesday) adversely affected results by approximately -0.6% to -1.2%, varying by area of the world.


In the U.S., August sales increased 4.6%.  In my preview, I wrote that any print between 4 and 5% would be a NEUTRAL result because two-year average trends would be roughly in line with those in July.  The print of +4.6% implied a sequential slowdown in reported two-year average trends, however, on a calendar-adjusted basis, top-line performance actually accelerated sequentially in August by ~58 bps.  Looking forward to September, a result of approximately +4.5% in the U.S. would be required to maintain two-year trends when adjusting for calendar shifts.  September 2009 included no meaningful calendar shift and I would expect the same in 2010 (although this may vary by area of the world).


Europe is undoubtedly the fly in the ointment for August results; same-store sales came in at +2.2% versus consensus +5.2% and my NEUTRAL range of +5.5% to +6.5%.  This is certainly a concern for investors given the renewed attention on Europe’s sovereign debt and financial sector woes.  On a calendar adjusted basis, two-year average trends sequentially decelerated by ~185 bps.  Tellingly, the reported same-store sales number for MCD was the worst since February 2009.  Looking forward to September, a result of roughly +0.5% in the U.S. will be required to maintain two-year trends, on a calendar-adjusted basis, since August was so weak. 


APMEA’s same-store result came in at +7.8%.  This was slightly below my NEUTRAL range of 8 to 10% and above the Street at +7.4%.  Two-year average trends in August decelerated, on a reported basis, to +3.7% which is considerably below the +6.1% two-year average trend in July and just above the disappointing +3.2% two-year average trend in June.  Looking forward to September, a result of roughly +3.7% in APMEA will be required to maintain two-year trends next month when accounting for calendar shifts.


All in all, MCD’s results in August were disappointing.  Despite +4.6% being a decent number in this retail environment, it is important to note the composition of the results – particularly in the U.S. – being levered to smoothie sales which are likely to slow as we move into fall and colder weather.  Comparisons in September step up sequentially from August in all three geographical areas; it will be interesting to see whether the company can bounce back in September.


Howard Penney

Managing Director

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