Tuesday, July 29, 2014

GDP Consensus Too High, But We're Working Hard

In a tiny sliver of the service economy in a Southern state capital, labor productivity soared when we worked a double shift one day last week.  It would have taken similar heroic efforts repeated oh-so-many times for the nation’s economic output to have meaningfully rebounded in the second quarter.  In our view, the 3.5% consensus estimate for gross domestic product growth is too sanguine. 

Nevertheless, our model expects a return to trend growth between 2.5% and 3.0%.  Our point estimate is 2.9%, which should be robust enough to reassure equity markets the expansion is healthy but not a tipping point for tighter monetary policy.

The economy contracted at a 2.9% annual rate in the first quarter, a result largely blamed on the “hibernus horribilis” of ice, snow and bitter cold in North America.

For the spring, we expect positive contributions from employment gains of more than 800,000 and a rebound from the first-quarter labor productivity decline of 3.2%.  The jobs gains also likely boosted non-residential fixed investment, which has been a consistent drag.  Confidence also probably led businesses to rebuild inventories drawn down in the harsh winter months.
However, the trade deficit widened in the first two months of the quarter, and real personal consumption expenditures declined in both April and May.  Estimates for June in these line items will be a swing factor.
Our concern is that real final sales (GDP minus inventory growth) could prove anemic, which ironically could support the liquidity-fueled equity market’s expectation of a steady near-zero interest rate policy from the Federal Reserve absent signs of inflation. 
The answer will come soon enough, as the Federal Open Market Committee will release its latest monetary policy decision in a statement Wednesday afternoon, just hours after the GDP release from the Commerce Department.  The punch bowl, we believe, will remain spiked.

Tuesday, July 8, 2014

Whole Foods Markets: Still Too Pricey

We recently embarked on a visit to losers in a bull market – the worst performing stocks in the S&P 500 in the first half of 2014.  After looking at Coach, we take a gander at Whole Foods Markets Inc. (WFM), down about 32% from January through June.  Our conclusion: Diminished expectations are baked in and the stock could overdeliver, but it’s still too rich for our taste.

The organic green grocer has more than 300 stores nationwide and in Canada and the United Kingdom and is a destination for the health food crowd willing to spend extra for the benefits of organically produced food staples, but competition from mainstream operators such as Kroger and Safeway is a natural check on growth.

On the valuation front, WFM sports forward price/earnings multiple of about 23, nearly twice that of the S&P 500, and a price/earnings-to-growth ratio of 1.93, which tells us investors believe growth will resume to levels above new guidance.  Meanwhile, the price-to-sales ratio is 1.06, vs. just 0.25 for Kroger and 0.22 for Safeway, and dividend yields at Kroger and Safeway are both above that of Whole Foods’ 1.23%.

Whole Foods’ share price plummeted in May after management reported disappointing quarterly results and slashed guidance for the remainder of the year.

Bulls will tell you that Whole Foods’ plans, which include a pipeline for 114 new stores, are solid enough to warrant a premium valuation for this solidly profitable company that has a loyal customer base.  But we wonder how many more customers there are to glean from shoppers happy enough to buy their whole wheat bread from the Wal-Mart market or visit their local independent artisanal purveyor.

In the March quarter, Whole Foods reported earnings per share of $0.38, below the consensus estimate of $0.41.  The company lowered its outlook for fiscal 2014, projecting 10.5-11% sales growth compared with 11-12% previously.  It cut its same-store sales growth forecast to 5.-5.5% from 5.5-6.2% previously.

Make no mistake, this is still a growth stock, but we think the company is priced for perfection right now.  We could be buyers at under $30, another 20% haircut from the current level of about $38 per share.  A price of $30 would put the forward PE at about 17, comparable to the S&P 500, if estimates remain the same.  That, we believe, is a better entry point for this ambitious, well-managed company.

Whole Foods Market, Inc. operates as a retailer of natural and organic foods. Its stores offer produce and floral, grocery, meat, seafood, bakery, prepared foods and catering, coffee, tea, beer, wine, cheese, nutritional supplements, vitamins, and body care products, as well as lifestyle products including books, pet products, and household products. As of May 16, 2014, the company operated 360 stores in the United States, Canada, and the United Kingdom. Whole Foods Market, Inc. was founded in 1978 and is headquartered in Austin, Texas.


Thursday, July 3, 2014

The Loser Now Will Be Later to Win -- First in a Series: Coach

(We'll be looking at laggard stocks in a bull market.  Here's our first)

We had a classy girlfriend some time ago who owned a Coach leather bag.  We wonder who’s kissing her now. Probably her grandchildren, which has been part of Coach’s recent woes, a reputation as a yesteryear luxury brand.  Be that as it may, we thought of bygone romance when looking at a list of the worst performing stocks in the S&P 500 in the first half of 2014.  While the Street is almost universally bearish, we think Coach’s turnaround strategy, overseas growth, plump dividend, profitability metrics and reasonable valuation merit a buy recommendation.

Let’s look at the bear case first. Coach, whose shares declined 38% in the first half of 2014, recently cratered after it announced it was closing 70 stores, or about 13% of its retail outlets, and would incur charges of up to $300 million over the coming quarters. CFO Jane Hamilton Nielsen told investors that as a result of the closings and a reduction in promotions revenue would decline in the low double digits

Coach was responding to plummeting same-store sales in North America, which more than offset strong gains in Chin.  In effect, Coach was admitting that its “accessible” luxury strategy was a bust.  And though not stated, the move was largely in response to the market share gains of competitors Michael Kors (KORS) and Kate Spade & Co. (KATE).  Though women’s handbags and accessories have slumped, Coach is experiencing double-digit same-store sales in Asia and a stronger men’s business. 

Some analysts have compared Coach’s about-face to the failed end-of-promotions strategy of J.C. Penney, but Coach remains a highly profitable company with the means to reposition itself, in our view.  Key to the rejuvenation of the brand will be the work of Stuart Vevers, the English designer charged with retooling the Coach look.  We’re no fashion experts, but reviews were glowing at last winter’s New York fashion week.

Key to our outlook for Coach is its reasonable valuation compared with its profitability metrics.  The shares trade at about 16.5 times next year’s earnings estimates, about even with that of the S&P 500.  But Coach boasts a 38.6% return on equity, more than double the industry average of 18.8%.

And while waiting for brand restoration to show results, investors are rewarded with a dividend yield of nearly 4%.  The dividend payout ratio of 40% is high, but with minuscule debt and positive cash flow it should be safe for now.

Our recommendation is not without risks, chief among them a collapse in consumer spending, not a negligible possibility.  And, of course, Coach could fail to recapture its cachet as America’s top luxury brand.  But we think the stock is a bargain at current levels and that a year from now it will command a price-earnings multiple equal to that of KORS.  That gives us a target price of $54, some 58% above current levels.


Friday, November 22, 2013

Since Kennedy

Those of a certain age have one of these.  Here’s mine:

A sunny midday in November, 350 miles west of Dallas on the hardscrabble turf of Lubbock, Texas, noontime recess.  A spirited schoolyard football game and a bloody knee interrupted by the skinny Cajun kid newly enrolled at Christ the King running breathless onto the field with the declaration the President had been shot.

The Sisters of St. Joseph still wore habits then.  Even the tough ones were tearful, no makeup to soak up the flow of water dripping onto those stiff white boards that spread from collar to bosom.

Not that we wouldn’t smile again.  The Beatles would appear soon, landing at the recently renamed JFK, nee Idlewild, and the Sixties took off, taking us with them.

For John Kennedy, cold warrior, the United States was called upon to bear the burden of a “long twilight struggle.”  To men and women of a certain age — at least to this certain-aged man — the years since 1963 have been a twilight time all their own, always shivering with a frisson of melancholy for the world we lost and the one that might have been.

Why, indeed, did Rice play Texas?

Friday, September 27, 2013

Summer Reading in One Town or Another

With the inmates of the public school system on furlough, our funding source for greens fees was necessarily curtailed during the summer months, so we indulged in a cheaper, but not less loved, pastime.

By the way, we were recently reacquainted with the young scholars and are here to report that boxer-revealing jeans for lightfoot lads and the skinny variety for rose-lipt maids are still the fashion, as is their disdain for a sophomore curriculum that begins with the sermons of Jonathan Winthrop. 

However, our reading addiction remained a demanding mistress this summer.  She led us to a variety of leafy glades and sunny perches.  A favorite was a public bench in front of a Southern state capitol shadowed by a monument to the Confederate soldier, the decorative flora of which, we observed, was tended by the descendants of American slaves.  This is called irony, a device we have tried to explain with little success to the denim-clad lightfoot lads and rose-lipt maids.

Before we turn to handicapping college football and the Federal Reserve, we take a minute to look back at a summerful of books under buttery buckets of sunshine.

We kicked off with an almost forgotten American novelist, James Gould Cozzens.  We had read “The Just and the Unjust” many years ago at the behest of a professor also smitten with Cozzens.  This go-around we picked up “Guard of Honor,” Cozzens’ World War II novel set on an Army Air Force base in Florida.  Sinuous revelations of character sans authorial comment -- from the meretricious to the noble, the weak and the strong -- wash against the background of race relations circa 1943.

It seems all our summer reading was invested in works exploring the variety and universality of the human condition.  We found both in Katherine Anne Porter’s “Ship of Fools” (aren’t we all?), whose cast of characters run from nattering Nazis to Spanish whoredom.  Losers take all in this one.

We also resumed our habit of reading deeply of a writer we have neglected over the years.  We had read Henry James’ “Daisy Miller” and “The Turn of the Screw” and were not inspired.  That was a mistake of callow youth.  In our dotage, we embarked on a gluttonous Jamesian journey through his earliest works:  “Watch and Ward,” “Roderick Hudson,” “The American,” “The Europeans,” and “Washington Square.”  All delineate the interior life exposed in love thwarted and requited.  Our favorite by far was “The American,” in which character is revealed by a self-made Westerner’s courtship of a young Parisian widow from a shabby noble family with a dark past.

For the coward in us all, we met another tortured soul in Conrad’s “Lord Jim.”  The inwardness of Jim rivals that of Hamlet, which we re-read this summer.  The story is told by Marlow, the narrator we encountered years ago when we read “Heart of Darkness” after seeing “Apocalypse Now.”

Speaking of movie-inspired reading, we re-read Fitzgerald’s “Tender Is the Night,” after seeing the re-make of “The Great Gatsby,” a failure, we thought, though DiCaprio was very good.  In any event, we wanted to revisit “Tender,” having re-read “Gatsby” in the spring.  The last lines of the former resonate deeper with us than the iconic close of the latter.

Dr. Dick Diver has lost his troubled rich wife and children to another man after expatriate escapades in France that include a young movie actress, a sodden musician, a fatuous novelist, a duel and some serious mental health issues:

“After that he didn’t ask for the children to be sent to America and didn’t answer when Nicole wrote asking him if he needed money. In the last letter she had from him he told her that he was practising in Geneva, New York, and she got the impression that he had settled down with some one to keep house for him. She looked up Geneva in an atlas and found it was in the heart of the Finger Lakes Section and considered a pleasant place. Perhaps, so she liked to think, his career was biding its time, again like Grant’s in Galena; his latest note was post-marked from Hornell, New York, which is some distance from Geneva and a very small town; in any case he is almost certainly in that section of the country, in one town or another.”

Monday, September 23, 2013

Why the Fed's Non-Taper Is Depressing

Forgive our crowing, but occasions to indulge are so few and far between that the temptation is irresistible.  The Fed’s decision this month to keep its quantitative easing pedal to the metal came as a surprise to most everyone but us (see our Aug. 2 post, “Taper Tigers…”).

The reasons for the Fed’s reluctance to quit printing money have been printed almost daily in economic statistics from job creation to personal consumption and boil down to this: steady erosion that threatens to turn into a landslide as sequestration bites harder and the suicidal impulses in Washington gain traction.

But we think an even more depressing development is persuading the majority of policymakers to believe it is the last, best hope for keeping the American glue from melting.  We’re talking about the uncomfortable reality that nobody but Jamie Dimon and A-Rod are getting ahead.  Wages remain stagnant and nearly all the fruits of the recovery that began in 2009 have gone to those whose plates are already full.

The most disheartening evidence of this comes from the recent walk-outs by fast-food workers and Wal-Mart “associates” seeking higher wages.  This is depressing not because they will almost surely fail but because the mini-strikes speak to the growing realization that opportunity will likely not be knocking down the road. 

Frying hamburgers and stocking supermarket shelves were once transitional jobs filled by students looking for gas money, prom dresses or tuition.  They were way stations on the road to better things.  Indeed, that’s the way the Wall Street Journal opinion spinners and the like-minded still view them when arguing against raising the minimum wage.

But large numbers of employees obviously see themselves going nowhere.  If this is their last stop along the food chain, their only way up is more do-re-mi for singing for their suppers at the Losers Lounge.  Add to that the rotten tomatoes Tea Partiers are throwing at them in their uber-churlish desire to derail affordable health care for low-wage families and you have one nasty commonweal.

Which brings us to the Fed.  More than anything, Ben Bernanke and his team must view themselves as social workers.  To remove the only brick keeping the Losers Lounge from cratering would be dereliction.  Wall Street’s prognosticators didn’t see it even though the data the Fed said it was looking at should have made it clear.
Now there is talk that the Fed will taper its bond buying program next month.  Could be, but if inflation remains quiescent we wonder why it would take the chance.



Friday, August 2, 2013

Taper Tigers: Payrolls and the Fed

Here's the thing. The jobs numbers released this morning are weak enough to persuade the Fed to keep the pedal to the metal, which the market loves, right? At some point, though, stock prices are going to come down from the liquidity high and realize the Fed has a monetary policy for a reason – and it isn't to inflate asset prices.

Nope, Ben Bernanke and the majority of the Federal Open Market Committee must believe the economy is in danger of dipping back into recession, even deflation. Taper, the new Wall Street buzzword for tighter money, is far off. 

Sooner or later, market participants will give up on the idea that six months hence economic growth will justify higher stock prices today. In other words, they'll see monetary policy as acknowledgment that the times ain't a changin' and that valuations are too optimistic.

The Labor Department reported this morning that nonfarm payrolls grew 162,000 in July, well below the 185,000 consensus estimate. What's more June and May totals were revised lower by 26,000 jobs.

Even more significant, in our view, was the drop in the work week and wages. The government said the work week dropped 0.1 hour and that hourly earnings fell by two cents after rising 10 cents in June. Plugging this into our third-quarter GDP model puts growth near zero absent any productivity gains.

Meanwhile, little noticed in the FOMC's release this week affirming its bond buying program was the observation that inflation (the grease for economic wheels) is well below the Fed's target of 2%, yet another reason for the Fed to stick with its quantitative easing regimen.

There have been some bright spots. One significant data point was the increase in imports in second-quarter GDP accounts released earlier this week. Though higher imports subtract from the GDP calculation, they do indicate stronger consumer demand.

But stock prices are too rich, in our view. According to gurufocus.com, total capitalization of U.S. stocks is 113% that of GDP. The market could churn higher on momentum, but it is not undervalued in our view. All the easy money on easy monetary policy has been made, we think.