“I know it's hard when you're up to your armpits in alligators to remember you came here to drain the swamp.”
Welcome back to a New Year. It’s Game Time.
While my New Year’s resolution is to remain as far away from professional politicians and academic charlatans as I possibly can, until this game changes I’ll have to remain focused on attempting to understand what Big Government Intervention can do to our markets.
President Obama seems keen on understanding more about what Ronald Reagan thought about the economy. Or at least that’s what the White House says he was reading about this past week. Lou Cannon’s President Reagan: The Role of a Lifetime is officially out of stock on Amazon due to a surge in speculative Democrat buying.
Ironically enough, I read The Reagan I Knew by Bill Buckley a few weeks ago. Don’t worry, I’m neither Republican or Democrat. I’m just a Canadian-American looking for historical perspectives, accepting that they are often decorated with hyperbole.
What will be most interesting to me with this new Obama/Reagonomics Revolution thing is whether or not the President justifies a bloated US budget deficit by reminding the Republicans that “Ronnie used one.” After all, as Danilo Petranovich reminds us in the Introduction of Buckley’s book, “Reagan, of course, had promised to cut the size of government, and yet the budget deficit nearly doubled during his tenure.”
American storytelling and political hypocrisies aside, the non-fiction version of the fiscal New Year is that America is up to its armpits in deficits and debts. It’s time we “drain the swamp”, and I think we can all save and make money while we do it.
In term of percentage allocations, here’s how I have the Hedgeye Asset Allocation Model positioned for what we’ll be introducing as a Q1 Macro Theme in the coming weeks – American Sacrifice (fiscal reform):
For those of you who follow my day-to-day risk management moves closely, you’ll recognize that I dropped my Cash position from 70% to 61% last week and re-allocated that Cash to Commodities and US Equities. This doesn’t mean I’m bullish on US Equities up here. It means I’m bullish on the Energy and Healthcare sectors at these prices.
There are obviously plenty of negative mean-reversion risks associated with buying anything US Equities after an +86% rally from the March 2009 lows. If you dare to chase equity oriented yields up here, we think you need to protect against 3 critical risk factors that are going to be perpetuated by Big Government Intervention:
If we’re going to attempt to find the political spine to “drain the swamp”, these 3 factors will remain omnipresent. Congress will be getting paid to push their own book. Fed Policy rhetoric will trade like a NYC hedge fund. And yes, Inflation, will remain a policy.
Energy (XLE) and Healthcare (XLV) companies have leverage to inflation. Higher selling prices, in theory, help these companies expand margins. While the SP500 is running close to peak margins, these two sectors aren’t. There’s some mean-reversion opportunity there in equity prices for these sectors as a result.
In Energy, I’m not long the sector – I’m long the stocks. We remain bullish on China National Offshore (CEO), Suncor (SU) and Lukoil (LUKOY). In the immediate-term, the Energy sector ETF (XLE) is overbought with immediate-term TRADE support down at $66.29. In Healthcare, immediate-term TRADE lines of support and resistance for the XLV are $31.03 and $31.91, respectively.
From an asset allocation perspective (and I mean your money, not some theoretical Big Broker’s high net fee, commission, and compensation model), being bearish on Congress and bullish on its inflation policy is fairly straightforward to express. If I had to be in one or the other, I’d be in US Equities over US Treasury Bonds here. Fortunately, I don’t have to be in either.
What I am most bullish on is the hard earned Cash that my family and firm has earned over the course of the last 3 years. No, we weren’t the super duper top US Equity performer of the Year in 2010 (although I did win the Forbes stock picking contest!)… but we made money for the 3rd consecutive year, and there’s nothing that smells like America’s Armpits about that.
My immediate term support and resistance lines in the SP500 are now 1249 and 1263, respectively.
Best of luck out there this year,
Keith R. McCullough
Chief Executive Officer
TODAY’S S&P 500 SET-UP - January 3, 2011
As we look at today’s set up for the S&P 500, the range is 14 points or -0.69% downside to 1249 and 0.43% upside to 1263. Equity futures are pointing towards a higher open ahead of the ISM Manufacturing index to be released at 10 am.
OTHER DATA AND NEWS EVENTS TODAY:
CREDIT/ECONOMIC MARKET LOOK:
Treasuries were stronger with the curve flattening slightly.
OTHER COMMODITY NEWS:
Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.
This note was originally published at 8am on December 31, 2010. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.
“Do it. Nothing is easier.”
-Achilles (Troy, 2004)
Nothing is easier than wiping all of your screens clean at the end of a long year.
Yesterday, year-end market prices were booked in major markets like Germany (+16.1%), Spain (-17.4%), and Japan (-3.0%). Overnight we got the rest of Asia to submit their scores as well. No matter where we go in the world this morning, here are the year-end results:
The Top 3 stock markets so far are Sri Lanka, Indonesia, and Latvia. The Bottom 3 are Spain, China, and Italy.
On the long side, we’ve been bullish on Indonesia in the Hedgeye Portfolio but we sold it way too early this year. We certainly didn’t get Sri Lanka or Latvia right on the long side either. We still have a 9% long position in the Hedgeye Asset Allocation Model to Germany.
On the short side, I think we managed global macro risk pretty well. At the beginning of 2010, two of our top 3 Macro Themes were Chinese Ox in A Box (bearish on China) and the Sovereign Debt Dichotomy (bearish on Spain, Italy, and Greece).
On the US stock market side, while there’s been much bonus-season oriented fanfare heading into year-end, the SP500 underperformed more than half of the world’s stock markets this year. It also underperformed Commodities.
This is not to say that a +12.7% annual return in the SP500 is bad. It’s good.
It’s just not great. It’s below both of these important asset class averages:
Being long US stocks beat being long the US Dollar. But don’t forget that from June to November (when we were short the US Dollar) that wasn’t hard to do. That’s when the US Federal Reserve adopted it’s explicit policy to inflate. In doing so, it debauched the world’s reserve currency and put inflation expectations right back to where they were before Bernanke said he saw no inflation with $150 oil in 2008.
Actually, calling it 2008 style inflation isn’t fair. Nothing Is Easier than seeing 2011 style inflation now. Copper prices are hitting all-time highs this morning (higher than the 2008 levered-long highs) at $4.42/lb.
What will be most interesting to me in 2011 is whether or not inflation starts to matter to US Equity markets like it has started to matter to global equity (China, India, and Brazil, etc) and bond markets since The Ber-nank opted for Quantitative Guessing (QG2) in November.
While I’m not a big fan of being locked into “best ideas” from January 1st to December 31st of a calendar year, I am a big believer that you need to wake up every morning accepting that uncertainty will dominate every day in between. Nothing Is Easier than doing that.
My immediate term TRADE lines of support and resistance in the SP500 are now 1254 and 1265, respectively.
Best of luck out there in the New Year,
Keith R. McCullough
Chief Executive Officer
Conclusion: We are long sugar because of its bullish three-factor setup via supply, demand and price.
Position: Long Sugar via the ETF SGG.
Whenever we add commodity exposure on the long or short to the Hedgeye Virtual Portfolio, it’s supported by a confluence of three factors: supply, demand and price. For much of the last few weeks, both supply and demand were supportive of getting long sugar. With yesterday’s (-10.2%) sell-off, we finally got our price.
From a supply perspective, the USDA recently released their forecasts for their 2010/11 marketing year, and estimates for global production, exports and ending stocks were all revised down from earlier forecasts, coming in at (-1.9M) metric tons, (-1.8M) metric tons and (-564k) metric tons, respectively.
In the report, we see that many of the world’s major producers and exporter’s production and export estimates were also revised down:
We’d be remiss not to call out Australia, the world’s eighth-largest producer and third-largest supplier (6.9% of world exports), as it is currently experiencing severe flooding in Queensland – a region that is responsible for 95% of the nation’s sugar production. Premier Anna Bligh has gone on record saying that the current flooding is “unprecedented” and that damage control is likely to last until the end of next month.
One bearish data point on the supply side is India’s upwardly-revised production estimate of 25.7M metric tons – a difference of +1M metric tons from the May forecast on the strength of favorable weather (India is the world’s second-largest producer at 13.4% of global production). This is, however, offset by the fact that India will likely be reluctant to export, given that they are only months removed from a massive shortfall, whereby they became a net importer after years of surplus production (similar to what is happening in China regarding corn).
From a demand perspective, global consumption estimates for 2010/11 were revised upward +1.2M metric tons to 158.9M. From import perspective (price is set on the margin), we are seeing increased demand from countries like Russia, Pakistan and potentially Australia that have suffered from drought and/or flooding throughout the year as they try to rebuild depleted stockpiles.
Further, we are anticipating that both China and India (the world’s first and ninth-largest importers) to actually step up their purchases of sugar (and other agricultural commodities) in 2010/11 in an effort to build supplies in order to tame accelerating food inflation that is running in the double digits for both countries.
In fact, China’s imports for 2010/11 are forecast at a record 1.8M metric tons – a number we believe will be higher when it’s all said and done. Meanwhile, much to-do has been made about India reinstating its import duty tomorrow, and this expectation contributed to yesterday’s selloff. We caution, however, that a ~10% sell-off may be pricing in too much smooth sailing with regard to India’s sugar stockpile rebuilding. If domestic production falters in any way, expect India to act quickly and resume imports as a way of alleviating any potential scarcity within its domestic market.
While sugar is not a necessarily considered a necessity, the demand for sugar has been relatively constant throughout history, turning negative on a YoY basis only four times throughout the last 60 years, with the last occurrence in the 2005/06 marketing year. Given that, we are comfortable holding a bag of sugar here in spite of our forecast for slowing growth globally in 1H11.
From a price perspective, we were finally able to buy sugar on a pullback after admittedly selling it much too early on July 22nd (for a +6.7% gain, however). Interestingly, we did anticipate a near-term pullback given the lofty bullish sentiment of last week. This week, traders reduced their bullish expectations in the latest Bloomberg survey:
Lastly, from a quantitative perspective, sugar remains bullish from an intermediate-term TREND perspective with immediate-term TRADE resistance +13.8% higher at $103.11.
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