Shorting Yum at These Levels: No Rational Reason for Post-Earnings Exuberance

Apr.21.11 | About: Yum! Brands, (YUM)

Yum Brands (NYSE:YUM) just reported earnings of $0.63, $0.01 worse than the consensus of $0.64. Revenues rose 3.4% to $2.42 billion, roughly in line with consensus. In the U.S., Taco Bell same store sales were flat, Pizza Hut same store sales were down 3%, and KFC same store sales were up 1%. The company admitted that it sees the next quarter as the most challenging of the year in the U.S. Clearly, the company’s U.S. business is nothing to write home about.

In the aftermarket, investors ran up the stock by $4.00, apparently on excitement about China. Same store sales in China increased 13% compared to the consensus of 5%. Undoubtedly, the numbers Yum reported from China are excellent.

Buying Yum on these numbers is like driving by looking only in the rear view mirror. The run up may partly be caused by some investors in America not fully understanding the differences between the U.S. and China as it relates to Yum’s restaurants.

In China, Yum’s restaurants are considered a luxury for the middle class, and the bulk of the population simply cannot afford to dine there.

In the U.S., food expenses take up about 12% of household income. By some private estimates, urban Chinese are now spending over 60% of their income on food.

In the U.S., food prices account for less than one tenth of the consumer price index. In China, official urban residents spend 36% of household income on food. It is widely acknowledged that the official estimates underestimate this number.

Recently in China, wages have kept up with the war on inflation. It is clear that going forward, wages will lag inflation and will not keep up with food inflation. By some private estimates food prices have risen 30% over the last six months in China.

In 2010, annual per capita disposable income of China’s urban residents was US $2,900. The per capita income for rural residents was US $898. With these numbers, it is easy to see why dining at a Yum restaurant is considered a luxury.

Going forward, Yum is going to get squeezed on both ends in China. On one end will be the extraordinary amount of inflation in Yum’s input costs, and on the other end will be its customers eating out less often as they get squeezed by wages not keeping up with inflation.

With Yum’s U.S. business muddling along and major headwinds in China, there is no rational reason for the $4.00 run up in the stock post earnings.

As the readers who follow my writings know, I follow the ZYX Change Method. At present, four of the six screens are supportive of a short position. I have lightly scaled in a short position in Yum from $55.57 in the aftermarket. I will add to my short position if the remaining two screens of the ZYX Change Method turn negative. I will document my trades here.

Yum is a short at this level.

Disclosure: I am short YUM. I initiated a small short position in yesterday's aftermarket at $55.57. At this time only four of the six screens of the ZYX Change Method are supportive of this short position. If and when all six screens become supportive, I will add to the short position and document my trades on my blog.