MCD – Mapping the Response

Earlier this morning, I posted the results to the question I posed to MCD franchisees regarding their current level of contentment (relative to past periods) as it relates to how they feel Oak Brook is handling the issues facing franchisees today (please refer to my ‘The Question’ posting for more details). To recount, “1” is 100% contentment and “10” is wanting out as fast as you can.

When you match up that franchisee sentiment with MCD’s stock price, it becomes apparent that increased levels of franchisee anxiety does not bode well for the overall MCD system and its stock price. For reference, the late 1990’s to 2002 was one of the worst periods for McDonald’s franchisees and not surprisingly, MCD’s stock. This number has now crept up to 5.2 (above the 3.7 average)…Stay tuned!
MCD’s Stock Price Relative to Franchisee Sentiment

Marking US Homes To Market

This morning's existing home sales release for the month of July was better than toxic. Toxic was the June report of 4.85M homes. July came in a touch better at 5.0M.

Prices are finally coming down (down -7% year over year), and this is starting to stimulate some tepid demand. I still think prices have to come in another -14% in order to alleviate this untenable inventory position of unsold homes. On the inventory front, month’s supply is still extremely elevated at 11.2 months.

If you are long a US home and looking to sell it, marking it to market rather than to model is my advice.


Requiem for the levered longs: swap rate spread to treasury vs. the S&P 500

This is a very interesting chart when you consider it in the context of cost of capital for the levered long "Activists" out there in the US market place; particularly those who rely heavily on “buying stock on swap”.

As the leverage cycle rolls over alongside the economic cycle, access to capital will continue to tighten. This will lead to some mega blowups in the land of levered long hedge funds.

Keep your eyes on this developing "Trend”.

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Stagflation in the world's 5th largest economy, The United Kingdom...

Scotsman, Ian Macleod, a professional card player and war hero turned conservative politician, is credited with coining the term stagflation.

In 1965 while speaking before the House of Commons Macleod famously observed “We now have the worst of both worlds—not just inflation on the one side or stagnation on the other, but both of them together. We have a sort of “stagflation” situation.”

Macleod died in 1970, but he would certainly recognize the implications of the chart attached below. With the GDP numbers released on Friday for the second quarter the UK economy is clearly entering the worst of both worlds.

Andrew Barber
Keith McCullough
Research Edge LLC

‘The Question’

The purpose of “The Question” is to get to the bottom of key issues of investment significance, and to call out those companies that are particular standouts (+ and -).

My approach to the question this week was specifically geared to McDonald’s. I believe that the McDonald’s system faces many challenges, the extent of which is not being felt in Oak Brook. Having been a McDonald’s observer for the better part of 15 years now, I wanted to put franchisee anxiety into historical context. With that in mind, we set out to survey the McDonald’s franchise system to see how the general population is feeling.

If "1" is 100% contentment and "10" is wanting out as fast as you can, what is your level of anxiety with how Oak Brook is handling the issues franchisees are facing today? For historical context, to the extent they could, they were asked to rate past periods too.

(1) Overall in the history of MCD – 3.7

(2) In the 1980s – 4.3

(3) In the late 1990s to 2002 – 6.9

(4) Today – 5.2

The late 1990’s to 2002 was one of the worst periods for McDonald’s franchisees. While we are not seeing those levels of discontent today, the trend is not working in management’s favor.
Herb Peterson, McDonald’s franchisee and the creator of the Egg McMuffin, showing off his invention in April 1997 in California.

Game Time

The Chinese machine of athletic perfection picked up its 51 gold medals and the Beijing Olympics have ended. The US Presidential election is set to take (or drop) the baton in the global news flow relay this morning. The Democratic National Convention will launch into the spotlight tonight.

What matters here is timing. This week will refocus traders on the compressed duration that exists between now and November’s Election game time. From an economic, racial, and class perspective, this is setting up to be one of the most divisive elections in US history. Alongside this reality comes heightened potential for market tail risk.

Within the construct of our ‘RIPTE’ US Economy macro “Theme” (Re-regulation, Inflation, Protectionism, Taxes, and Employment), there are plenty of reasons explaining why McCain’s recent rebound has been beneficial for the market. We have issued our regression analysis in past portal postings, so I won’t rehash the “t”-stats in this morning’s note, but the math says that Obama’s popularity has a statistically significant inverse correlation to the S&P 500. Alongside his recent month-long-slide in the polls, the US market has levitated to the high end of its trading range.

Considering the re-flation “Trade” of last week (CRB Commodities Index was +3.1%; US Dollar down -0.51%), Friday’s weight-lift in the US stock market was impressive. That said, from a quantitative perspective, we have moved to a critical crossroad in global commodities and currency markets, where volatility looks primed to pick up. Last week’s US market volume was as bone dry as it has been all year.

Now that commodity driven inflation is understood domestically, I think global growth and geopolitical risk move to the top of your macro focus list. Asian growth in particular remains misunderstood by US centric investors. This morning we had another negative GDP report out of South East Asia’s 2nd largest economy, Thailand, and stocks in Bangkok closed down another -0.55% as a result. Thailand’s GDP for Q2 came in below expectations at +5.3%, and this is not good considering that inflation for July was last reported at almost double that rate. Government officials in Thailand raised rates last month for the 1st time in 2 years. Alongside inflation, cost of capital in Asia continues to rise in the aggregate – this continues to drag down Asian equity prices.

Thailand’s inflation partly reflects the regional dynamic of wage inflation. This is something that US economists have not had to worry about, yet. Enter an Obama government, and that changes – hence the negative correlation the US market has to his chances of victory. Asia’s inflation story is misunderstood largely because it is much more like that which the US had to deal with in the 1970’s, with both prices and wages rising in tandem. If you look at an economy like Pakistan’s for example, which is running with close to 30% year over year inflation, you can understand, partly, why the masses are literally stoning the Karachi Stock Exchange. Pakistan’s stock market bounced for a day post the Musharraf ousting, but has since lost -11% in the 4 trading days that have followed.

Russia is also dealing with misunderstood wage inflation, and this will eventually put Putin in a domestic political pickle. When you have +20-25% annual wage inflation, you have a problem! Despite oil’s rise last week, the Russian stock market continued to decline. Russia’s RTS Index is trading down another -1.1% so far this morning, and has lost another -14% of its value in August alone. The lower house of Russian Parliament is calling on Medvedev and Putin to recognize South Ossetia as an independent state this morning as well. That’s only going to create more confusion in what continues to be an alarming geopolitical situation.

With the US political stage being moved to front center, do not forget that domestic fires are burning in political hotbeds throughout the world. Geopolitical factors matter to markets that trade on global macro. The summer is ending - it’s almost game time – get ready to “Trade”.

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