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European Risk Monitor: Treading Water Won’t Save the Eurozone

Positions in Europe: Short France (EWQ); Short EUR-USD (FXE)

The status quo is not good enough. While heads have rolled in Greece, Italy, and Spain in recent days, and provided some short term bounces in specific capital markets, in our opinion a sustained bullish move will not come for European markets unless Eurocrats directly address: ( 1.) expansion (leverage) of the EFSF; (2.) bank recapitalizations (specifically for banks that cannot raise assets); and (3.) setting the rate of Greek haircuts to capture “voluntary” demand.


In the fray, however, remain much larger unanswered questions: Can EU treaties be amended to allow a country to leave or be kicked out of the Eurozone, but not the EU? Can Greece be ring- fenced as to not create a larger move of contagion across the 17 member states? Can a fiscal union work? Can the ECB’s SMP fend off rising yields in Spain and Italy, and will its secondary bond buying greatly expand and be deemed anything more than a temporary facility?


While there’s indication that Eurocrats (especially German Chancellor Angela Merkel at the top) want to maintain the existing fabric of the Eurozone and preserve the stability in the common currency, dialogue has shifted from top leaders and now core question like assessing if the unity of unequal states under one monetary policy is sustainable.  And while there’s renewed talks of Eurobonds (a position supported by George Soros) don’t discount political indecision across borders and fiscally stronger nations’ (Germany, Netherlands, Finland) resolve to reject them (at least initially) as to not see their cost of capital rise.


While we can’t get ahead of the actions politicians will take in the coming months, we continue to take our risk cues from the credit market.


Here we’ve seen yields across the periphery sustain elevated levels, and most worrisome are the recent breakouts in Spain and Italy, both now flirting around the 7% level on the 10YR, economies far larger than Greece, Portugal and Ireland combined, which cannot be contained in the case of a default or cracks across their sovereign debt and banking exposures given the existing size of the EFSF. We’ve also seen no change in the ECB’s position, backed by Germany, that it will directly intervene to support the region via leveraging the EFSF or buying primary issuance.


Given this “treading water” profile of inaction we’ll remain short the EUR-USD via the etf FXE in the Hedgeye portfolio, and remain short France (EWQ). We see the EUR-USD broken on its intermediate term TREND ($1.42) and long term TAIL ($1.40) levels. We’d expect the pair to TRADE over the immediate term TRADE between $1.33 and $1.35, and should it break its downside support level we do not see material support until the $1.21 line.


Below we present our weekly risk monitors.


European Equity and Currency Moves – On a week-over-week basis (Friday to Friday), European equity indices fell largely between -3% and -7%, with the outliers to the downside Austria (-7%, threatened by write off and banking exposure to Eastern Europe) and Cyprus -12.3%. Swiss equities were a relative outperformer, falling only -60bps w/w.  YTD notable equity indice declines include: Greece Athex -52%; Austria ATX -41%; Finland OMX -32%; Portugal PSI -31%; and Italy FTSE MIB -28%.   The EUR-USD finished down -1.6% w/w.


European Sovereign Yields – European 10YR yields were mixed last week. Greek yields declined -27bps; while Spanish yields gained +60bps and Italian +13bps.  As always, we’re keying off the 6% Lehman line as a critical breakout line. Italy and Spain are holding tight above the 6% for the last four weeks.


In its SMP bond purchasing program, the ECB bought €8 Billion in secondary bonds last week (vs €4.5B in the week prior), taking the total program to €194.5 Billion. Look for Super Mario (Draghi) to increase buying alongside heightening Italian yields.


European Risk Monitor: Treading Water Won’t Save the Eurozone - 1. yieldss


European Sovereign CDS – European sovereign swaps mostly widened last week. Spanish sovereign swaps widened by 8% (+36 bps to 463) and French by 12% (+25 bps to 227).


European Risk Monitor: Treading Water Won’t Save the Eurozone - 1  cds a


European Risk Monitor: Treading Water Won’t Save the Eurozone - 1. cds b


European Financials CDS Monitor – Bank swaps were wider in Europe last week for 39 of the 40 reference entities. The average widening was 8.1% and the median widening was 13.6%.

And just this morning Bank of Spain nationalized Banco De Valencia, a small Spanish bank, yet nevertheless is likely an initial sign of more to come. 


European Risk Monitor: Treading Water Won’t Save the Eurozone - 1. banks


Matthew Hedrick

Senior Analyst

Short Covering Opportunity: SP500 Levels, Refreshed

POSITION: Long Healthcare (XLV)


After covering our US Housing short (ITB) this morning, that makes me long-only on US Equity Index and Sector ETFs. To be clear however, I’m seeing this as another immediate-term Short Covering opportunity – nothing more.


Here are the lines that matter most right now across the 3 durations on our risk management model: 

  1. Immediate-term TRADE oversold = 1187
  2. Intermediate-term TREND = 1203
  3. Long-term TAIL = 1270 

If this market fails to recapture its TREND level (1203) this week, I’ll be giving you lower-lows of immediate-term TRADE support. But, for now, 1187 is the line and we want to be managing our net exposure accordingly. On the bounce we re-hedge.


The highs for both 2011 and Q4 look likely to be in. Bad Santa.



Keith R. McCullough
Chief Executive Officer


Short Covering Opportunity: SP500 Levels, Refreshed - SPX


No change to November forecast of HK$21-22 billion



As expected, average daily table revenues slowed considerably this past week to HK$664 million from HK$715 million the first 2 weeks of November.  Again, the motorcycle Grand Prix race is usually a VIP business killer and last week was no exception.  We didn’t see a big migration over to Cotai as we expected due to the congestion on the peninsula, however, although it could’ve been masked by low hold on Cotai.  Since the slowdown was anticipated, there is no change to our HK$21-22 billion (+25-31% YoY) GGR projection for the full month of November.


In terms of market share, both Wynn and MPEL improved from low hold in the first two weeks but still below recent trend.  SJM remains well above trend due to high hold.  LVS share actually fell slightly sequentially from last week but remains above trend.  Given the enhanced junket commission and credit structure especially with Neptune in place as of November 1st, we would expect continued share increases for LVS.




Keith shorted PENN in the Hedgeye Virtual Portfolio at $35.29.  According to his model, there is TRADE and TREND resistance at $35.91 and $37.44 respectively.  



A long-time regional gaming darling by Wall Street, PENN has lost some of its luster and is facing some formidable challenges—cannibalization, a large capex budget, new competition, and slowing growth.  Contrary to what management said on its 3Q conference call, PENN seems to be feeling the heat from the new Rivers casino that opened in mid-July.  As the chart below shows, PENN’s market share in Illinois has tumbled to its lowest level since June 2009 (Joliet fire) and its total gaming revenues in the state fell 10% YoY in October.




In addition, PENN’s two largest properties by revenue generation—Hollywood Casino at Charles Town Races and Hollywood Lawrenceburg—have seen growth stagnate recently.  Since the table anniversary, Charles Town and the West Virginia market have only grown in the low-single digits.  The same can be said about table games revenue at Hollywood Casino at Penn National Race Course, which after a fast start, has stabilized at $3MM/month.  Performance may decline at that property in the coming months as more competition comes online in the Delaware River Valley e.g. Revel, Arundel Mills, Valley Forge.  


It doesn’t help PENN that overall regional gaming performance has gotten off to a miserable start in 4Q.  While the bulls will point out that an unfavorable calendar in October (one less Friday vs a year ago) accounted for the underperformance, we believe even if state revenue numbers improve, PENN will likely be a laggard rather than a leader.








Notes below from CEO Keith McCullough


Get the US Dollar right, you’ll get most other things right. That’s been our call since May.

  1. SINGAPORE – these guys are now being as explicit as we have seen them since 2008 about Global Growth Slowing (the Monetary Authority of Singapore: “The world economy and financial system are at their most fragile state since the 2008-2009 global financial crisis”); both HK and India continued to crash overnight (down -25.3% and -22.2% respectively from YTD tops)
  2. SPAIN – center right government = austerity = European Stagflation; if Singapore thinks they only to +1-3% GDP growth in 2012, the Europeans could be down -2-4% GDP in no time. European stocks getting rocked and now all major European tapes back in Bearish Formations (bearish across all 3 of my risk management durations); Greece -60% since FEB
  3. SANTA – really red for November to date equity returns and I’ll look forward to hearing what the Tom Lee camp thinks about that into month end. The bull markets I see are in the US Dollar (UUP), Long-term Treasuries (TLT), and Growth Slowing (FLAT)

The only line of big support left for the SP500 = 1203. A close below that puts the YTD low back in play.





THE HBM: MCD, PNRA, JACK, PFCB - subsector fbr





MCD: McDonald’s and Target have dropped egg supplier Sparboe Farms due to an undercover video by the animal rights group Mercy for Animals which, according to media reports, showed “mindless animal cruelty”. 


PNRA: Panera Bread has entered into an MOU on proposed settlement of class action law suit.  $5M has been set aside

for payment of claims and, according to the company, this figure was not included in the 4Q guidance.


JACK: Jack in the Box raised to “Buy” at DA Davidson.





PFCB: At its analyst meeting in Arizona on Friday, P.F. Chang’s said that the company is expecting 4-6% inflation in 2012.  According to the CEO, Richard Federico, 2012 revenue is a “wild card”.


THE HBM: MCD, PNRA, JACK, PFCB - stocks 1121



Howard Penney

Managing Director


Rory Green



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