Conclusion: A rigorous analysis of the recent trade data coming out of Asia, as well as a quantification of the region’s capital exposures by source grant us conviction in the following two viewpoints: 1) global growth is still slowing; and 2) Asian currencies remain at risk of further declines.
China’s Nasty Trade Data
Over the weekend, China put up another sour trade report (Nov) which was highlighted by growth in exports slowing to +13.8% YoY vs. +15.9% in the month prior. Excluding the Feb ’09 Lunar New Year distortion, the +13.8% yearly gain is the lowest rate of growth since Dec ’09. Underneath the hood, we saw exports to the E.U. slow to +5% YoY vs. +7.5% prior and greater than +22% as recently as Aug. The weak E.U. figure compares to growth in China’s exports to the U.S. accelerating to +17.2% YoY in Nov vs. +13.9% prior. China’s exports to Germany fell -1.6% YoY in Nov; exports to Italy from China fell -23% YoY in Nov.
While we don’t buy the U.S. is going to decouple completely from the interconnected risks associated with the global economy, it is clear that Europe’s Sovereign Debt Dichotomy and banking crisis are having a disproportionately ill effect on European demand relative to the world’s other principle economic bloc. This is in-line with our intermediate-term outlooks for both regions and fundamental positioning:
- King Dollar: Bullish on the USD;
- Deflating the Inflation: Bullish on select U.S. consumption names and sectors (XLY, XLV);
- European Stagflation: Bearish on France, bearish on the Euro;
Both data and quantitative setups continue to strongly support our views here.
Asian Trade Data Portends Negatively For E.U., Global Growth
Taking a step back from China specifically, we see that Asian trade data is sending some bearish signals as it relates to the slope of global demand. We’ve taken the liberty to create a proprietary index that captures the slope of Asia’s aggregate export and import growth. The index is a weighted average of the following countries’ export and import statistics: China, Japan, Hong Kong, South Korea, Singapore, Thailand, Taiwan, India, Indonesia, Malaysia, Philippines and Vietnam.
Using this index, we see that Asian export growth slowed to +7.9% YoY in Nov vs. +12.8% in the month prior. The +7.9% YoY growth rate is the slowest pace since Nov ’09 and the first breakdown into single digit growth since Oct ’08. Asian import growth actually accelerated in Nov to +19.6% YoY vs. +18.3% in the month prior.
As we have concluded in prior notes, “If the velocity of Asia’s production and shipment of goods is slowing, then Western demand for those goods is also slowing. Expect to see this slowdown in Asian manufacturing and exports show up in headline growth statistics throughout the developed world on a lag.”
Covering AYT Trade Update
The aforementioned acceleration in Asian import growth in the month of Nov can be attributed to further weakness in Asian currencies and resilience in global raw materials and energy prices. Asian central banks, which have started or are in the process of starting monetary easing cycles are seeing the result of the rapid decline in their exchange rates (vs. the USD) show up in marked-to-market import and consumer price inflation.
While Keith used today’s weakness to cover our short position in a basket of emerging Asian currencies in the Virtual Portfolio this afternoon, the immediate-term bearish thesis is still very much intact:
- Slowing growth and peaking/slowing inflation will force Asian policymakers into a cycle of monetary and [potentially] fiscal easing;
- Waning demand for Asian goods and services in key export markets (particularly E.U.) will reduce demand Asian currencies on the international foreign exchange market; and
- A slowing of inflows or outright repatriations of capital from the region will also weigh on Asian currencies.
A Look at Asian Capital Flows
To the latter point above, Asia is highly reliant on E.U. capital to finance its growth, meaning that a continuation or deepening of Europe’s banking crisis should continue to weigh on Asian capital inflows. European banks finance a larger share of Asian domestic credit relative to their U.S. counterparts in each of the 11 countries we have data for; declining trade financing throughout the region remains an acute risk as a result. From a portfolio investment perspective, agents within the European Union provide roughly 2/3rds to 3/4ths the capital U.S. agents supply to the region.
All told, a rigorous analysis of the recent trade data coming out of Asia, as well as a quantification of the region’s capital exposures by source grant us conviction in the following two viewpoints: 1) global growth is still slowing; and 2) Asian currencies remain at risk of further declines.
Economic gravity is weighing on Asia.
Conclusion: Newt Gingrich is now neck-and-neck with Mitt Romney for the Republican nomination for the Presidency. Currently, the ascent of Gingrich can only be read as positive for President Obama.
Well, actually, oh yes Newt did. Former Speaker of the House Newt Gingrich has gone from having his campaign close to disbanding, to becoming the clear challenger to Mitt Romney, to now becoming a legitimate front runner for the Republican nomination for President. According to InTrade, the gap between Romney and Gingrich is as narrow as it has ever been, at less than 6%, with Romney’s probability of getting the nomination at 42.4% and Gingrich at 37.0%.
As outlined in the chart above, the key recent catalyst was another strong performance by Gingrich in this weekend’s Republican debate in Iowa and a commensurately weak showing by Romney. The two areas where Romney disappointed this weekend were not in areas of policy, but more related to debate performance. The first occurred when Gingrich zinged Romney by saying that he would have been a career politician if he hadn’t lost to Ted Kennedy in 1994 and Romney stammered in his comeback. The second is highlighted in the clip below and came when Romney responded to a Rick Perry accusation about Romney’s book by saying that he would bet Perry $10,000 bucks that he was wrong. (This is roughly three months salary for caucus-goers in Iowa.)
In some of the early primary States, Gingrich is starting to open up a wide margin over Romney and the field. Based on the most recent polls, Gingrich is up +12.6 points in Iowa, Romney is up +11.7 in New Hampshire, Gingrich is up 19.3+ in South Carolina, and Gingrich is up 18.2 in Florida. These are the first four primaries and occur on January 3rd, January 10th, January 21st, and January 31st, respectively.
In the national polls, Gingrich has also overtaken Mitt Romney. In fact, as outlined in the chart below, Gingrich currently has the highest overall ranking of any Republican has had in the race at +32.8. Meanwhile, Romney is still in second place, albeit distantly with +20.8. Additionally, earlier today when asked by Politico whether Gingrich was the frontrunner, Romney responded affirmatively by saying, “He is right now.” Herman Cain is still running in third, although as new polls come out, that will obviously diminish as he has suspended his campaign. An endorsement of Gingrich by Cain could push Gingrich’s poll numbers even higher.
The area in which Gingrich looks much less favorable is versus Barack Obama. Gingrich has literally never outpolled Obama and currently trails him by +6.9 points. Conversely, Romney has outpolled Obama number of times and currently in the Real Clear Politics poll aggregate trails Obama by only +0.8 points, which is within the margin-of-error.
As we’ve stated a number of times, President Obama is far from defeated despite his low approval ratings and the dire status of the economy. The recent shift of Gingrich to front runner status is also beneficial to Obama. On a very basic level, it likely elongates the Republican race between Gingrich and Romney, which leaves the Republicans less time and energy to focus on Obama. Further, as outlined above, on a head-to-head basis Obama currently beats Gingrich soundly.
So, has Newt Gingrich shaken up the Republican nominating race? Oh yes he has, and this might just be to the benefit of the incumbent, President Obama.
Daryl G. Jones
Director of Research
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LIZ is taking a step towards reducing earnings volatility by announcing it will retire nearly half (€100mm) of its €221mm Eurobond exposure per an 8K filing that hit this morning. While the notes aren’t due until July 2013, this tranche is among the company’s highest priorities of debt to settle due to the volatile hedging associated with it that’s been accounted for in the Other Income line on the P&L. This is clearly a positive for the company. But what about the stock relative to investor expectations? Here are a few thoughts:
- The company is taking action (something we’re now growing accustomed to seeing) in order to reduce earnings volatility – positive.
- The Eurobonds pay interest on an annual basis so the accrued interest re this transaction will amount to nearly $3mm for a total payment of ~$135mm.
- Management stated as recently as its Q3 conference call (11/9) that it expects to 1) have $0mm drawn on its revolver, and 2) have enough cash to ultimately settle the Eurobond in full by year-end. This move adds some clarity as the company appears to have the cash now to settle the rest, but question remains how?
- The direct purchase of 45% of the outstanding Eurobonds from a single bond holder at reasonable rates is essentially a best case scenario. As for the balance, it can be retired a number of ways as outlined at LIZ’s Analyst Day back on April 28th(see below). Essentially, the company can make additional purchases directly, through the open market, or tender an offer.
- While direct or open market purchases would be most cost effective for shareholders, we think that the company will retire the rest its outstanding Eurobonds early in the 1H of next year.
- Keep in mind that until then, Fx rates are moving in the company’s favor. Take a look at the table below. Since the analyst day back in April, the strength of the US dollar has cut the USD/Euro rate to 1.32 from 1.48 effectively reducing the cost of the Eurobonds by more than 10%, or $35mm. Looking forward, every $0.05 swing in the USD/Euro exchange rate will account for another ~$6mm change in the balance of the company’s €121.5mm outstanding Eurobonds. At this rate, with the continued strength in the USD there's simply no rush.
All in, we think this move should be viewed positively as yet another step in LIZ's transformation in to a growth company as it sheds legacy debt concerns. We didn't expect the full retirement of the Eurobonds by year-end, but we do expect the company to remain committed to this goal near-term in order to fully reduce related hedging volatility.
(Slide #175 from 4/28 LIZ Analyst Day):
Keith covered France via the eft EWQ in the Hedgeye Virtual Portfolio today. Keith is trading risk around the position, covering it on red days, and shorting it on green days. We remain bearish on French stocks for the intermediate term TREND, with the CAC broken on TREND at 3404 (see chart below).
We remain bearish on France over the intermediate term due to:
- Pending downgrade of France’s AAA Sovereign Credit rating in T-3 weeks
- Public debt rising through the 90% (as a % of GDP) next year
- Slowing growth (below the government’s 1% 2012 projection) alongside Austerity’s Bite
- Banking risk, including any difficulties for its major banks (BNP, Credit Agricole, SocGen) to raise capital to the 9% Core Tier 1 ratio, and sovereign risk as France is the largest holder of Italian public debt and private debt, according to BIS
- EFSF and IMF are undercapitalized to materially aid any potential sovereign and banking bailout needs of France
- High unemployment rate of 9.8% (versus 7% in Germany); 22.8% among the French youth
- Smaller export profile (versus Germany), so there’s less benefit to grow via exports
Below are key European banking risk monitors, which are included as part of Josh Steiner and the Financial team's "Monday Morning Risk Monitor".
If you'd like to receive the work of the Financials team or request a trial please email firstname.lastname@example.org.
As Josh points out in his commentary below, the Euribor-OIS spread and the ECB liquidity deposit made new highs in the last week. This demonstrates that risk in the system has not abated in the slightest. Bank swaps were wider week-over-week and the SMP drastically reduced its secondary bond purchases w/w.
Euribor-OIS spread – The Euribor-OIS spread (the difference between the euro interbank lending rate and overnight indexed swaps) measures bank counterparty risk in the Eurozone. The OIS is analogous to the effective Fed Funds rate in the United States. Banks lending at the OIS do not swap principal, so counterparty risk in the OIS is minimal. By contrast, the Euribor rate is the rate offered for unsecured interbank lending. Thus, the spread between the two isolates counterparty risk. The Euribor-OIS spread tightened by 3 bps to 96 bps versus last week’s print of 99 bps.
ECB Liquidity Recourse to the Deposit Facility – The ECB Liquidity Recourse to the Deposit Facility measures banks’ overnight deposits with the ECB. The ECB pays lower rates than the market, so an increase in this metric demonstrates increased perceived counterparty risk and liquidity hoarding.
European Financials CDS Monitor – Bank swaps were wider in Europe last week for 25 of the 40 reference entities. The median widening was 14.4%.
Security Market Program – The ECB's secondary sovereign bond purchasing program bought 635 Million EUR in the week ended 12/9 (versus 3.7 Billion EUR in the previous week) to take the total program to 207.5 Billion EUR.
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