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VIX Oversold, Finally!

I have been waiting for this VIX level, patiently. This is another way to think about making sales on the long/short sides right here and now. As overbought as the SP500 is for an immediate term “Trade” (see my prior SP500 “Making Sales” note) is as oversold as the VIX is under 38.

Down another 6.4% at $37.45, the VIX is hitting its 3 day low as the SP500 hits its 3 day highs. The VIX has effectively crashed -54% from its November 20th peak of $80.86 – yes, that was also the date of the SP500’s capitulation low of 752.

The VIX could easily put on a +27% move from this level and not violate the dotted red line we are showing below in this chart. If that were to occur, stocks aren’t going to be going up at the same time. Manage towards the improbable outcomes as well as the obvious ones – that’s what risk management is all about. It feels really good to be long here, but all good things find a point of exhaustion.
KM

Keith R. McCullough
CEO / Chief Investment Officer

SP500 Levels: Making Sales...

At 928, the SP500 is riding the wave of her intraday highs here…. and this is a great spot to be making sales. We’d been making the call to buy them for over a month now, so with the SP500 +6.5% in less than 3 trading days, this is your payday. Not making sales anywhere north of the 922 line would constitute getting “piggy”.

The trading range that is forming in the face of a 50% price cut in volatility is this:

BUY “Trade” = 878
SELL “Trade” = 922

That’s both a nice 5% trading band of a sandbox for the real short sellers to pick off those hurrying into what they have been missing on the long side here, and a very solid base of support for those who bought the November/December lows. We’re a long way from that SP500 low of 752 by the way, +23.4% higher to be precise. Day 1 of the New Year is no day to start making up for last year. Stay with the process. Stay patient. Prices will come back to where we can make purchases again – they always do.

Keith McCullough
Research Edge LLC

Gazprom Pulls the Gas Cord

The “action” finally happened. Russia’s natural gas provider, Gazprom, halted deliveries of natural gas to Ukraine yesterday, the culmination of long stand-off between the two nations (or two companies, depending on how you chose to look at it). The decision results from months of attempted negotiation over the settlement of $2.1 billion worth of debt on gas, which Ukraine received in November and December but refused to pay for.

This gas story is nothing new; in January 2006 Gazprom also turned off Ukraine’s supply. On 12/14 I wrote a weekend edition piece entitled: “Eye On The Energy Threat: Ukraine’s Geopolitical Impact”. In it I highlighted many of Ukraine’s geopolitical forces at work, including: its geographic importance as a transit country for natural gas from Russia to Europe; the country’s political orientation as it becomes more “western” and Euro-centric; and discussed Europe’s alternative energy strategies to become less reliant on Russia for its natural gas supply.

This latest shut-off was predictable. While I don’t discount that numerous political gestures are at work behind the scenes, we simply need to return to the clichéd expression, “Cash is King”, to understand the fundamentals. The fundamental for Russia right now is CASH, for she doesn’t have it. Like the rest of the world that is levered to commodities, Russia’s balance sheet doesn’t look like it did over the summer when commodities were reaching historical highs. This came to a head yesterday when Gazprom decided it was done negotiating over repayment and gas price. Russia signaled to Ukraine—which receives heavily subsidized gas from Russia to the tune of half of the European market price—that either the Ukraine is going to play ball their way or suffer the consequences.

This point may be marked as Ukraine’s struggle to transition from a socialist to capitalist state. On one hand the latest news reports from Ukraine show democratic-thinking leaders and a populous looking West. Yet on the other hand, Ukraine has a weak economy (high debt, and unstable currency, and like Russia is levered to commodities) and therefore needs Russia’s handout. The country’s lack of negotiating power is evidenced by Ukraine’s President Viktor Yushchenko attempt on December 31st to negotiate the transit price (what Gazprom pays Ukraine to ship gas through the country to Europe) from $1.70 per 1,000 cubic meters per 100 kilometers to $2. Kindly stated, Ukraine has a weak handshake and no cards to put out on the table.

Ukraine has agreed to pay $1.52 billion to Gazprom by January 11th, leaving a balance of over half a billion dollars to pay off its debt. It will be interesting to monitor this development in the next days. In the wake of the shut-off Gazprom stated it will increase supply to Europe via a line running through Belarus. Unlike in 2006, Europeans are not as worried for they have adequate inventory and alternative supplies such as liquefied natural gas. Ukraine says it has gas in storage equivalent to about 35% of annual consumption.
Let’s hope this number is accurate. Today’s weather report out of Kiev shows 13 degrees Fahrenheit and a chance of snow.
Matthew Hedrick
Analyst

Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.64%
  • SHORT SIGNALS 78.61%

EYE ON CHINA: RETAIL SALES IN HONG KONG OUTPERFORM

In their daily review of Asian newswires and economic releases, our Macau office highlighted an article from the South China Morning Post this morning, which discussed retail sales in Hong Kong. I’ve outlined a few key data points in the article below, but the summary is that retails sales were much better than expected in Hong Kong over the holiday season, which is very supportive of our decoupling thesis on Hong Kong and China.

Key highlights from the article include:
• Aeon stores with 33 Hong Kong outlets grew 9 % y-o-y in the week of December 24 – 30th.
• Sun Hung Kai Properties, Hong Kong’s largest private operator of shopping centers, said sales at its 20 shopping malls grew more than 10% y-o-y; and
• A record 420,000 shoppers visited apm, SKHP’s flagship shopping center in Kwun Tong for New Year countdown.

Based on these preliminary reports, which are more than anecdotal, both holiday sales and traffic were very strong in Hong Kong over the holidays. As we have been emphasizing over the last few months, both stock selection and country selection will be critical in 2009. While a rising tide, in terms of emerging market growth did indeed lift all boats from 2003 - 2007, in the coming 12-months differentiation will occur. And rightfully so as the economic prospects and country balance sheets are widely divergent in emerging markets, and the countries formerly known as BRICK.

We continue to be long FXI, which is the iShares FTSE/XINhua China 25 Index.

Daryl G. Jones
Managing Director

Andrew Barber
Director

EYE ON INDIA: A DROP IN THE OCEAN

Slashing rates may help the market short term, but it won’t be enough to support growth long term

The Reserve Bank of India cut rates for the fourth time in four months as weekly inflation data continues to provide Prime Minister Singh’s government with justification to take up rates. Indian stocks rallied for a second day on the news, but trade data released yesterday suggests that the long term impact of the cuts will be minimal. Exports declined again in November by nearly 10% year-over-year, the second consecutive decline. For a country in which over a third of GDP is dependent on external trade, declining foreign demand is ominous.

In the face of increasingly grim data, the Indian recovery plan looks woefully inadequate -particularly when contrasted with China’s massive $580 billion stimulus package. The doubling of limits for foreign holdings in government debt that accompanied the rate cuts suggest that Singh’s team is already scrambling to find ways to finance the stimulus measure announced without reducing current spending on social services – a necessity if they hope to survive this year’s elections.

We bought back our IFN short on Tuesday to take a modest profit and get out of the way of a squeeze rally spurred by this rate cut, which we anticipated would arrive even if WPI came in flat. We will continue to keep our eye on the Indian market and will look to re-short into strength opportunistically.

Andrew Barber
Director

MGM: DOWNSIZING CITYCENTER?

Add another potential trading catalyst for MGM. Due to construction issues at the Harmon Hotel, Spa and Residences, MGM may downsize the CityCenter budget. Construction on the Harmon part of CityCenter may only be suspended temporarily, but given MGM’s liquidity and covenant issues, any delay should be viewed positively by investors.

Apparently, structural problems, possibly design related, are inhibiting further construction. MGM may decide to “wrap” the building and suspend construction. We believe this could reduce the budget by several hundred million dollars. The cost “savings” combined with bond buybacks and the TI sale put MGM in a pretty good position to make it through 2009 without busting its covenants.

We still have concerns surrounding 2010 liquidity and the prolonged Las Vegas depression. However, as we wrote about in “A TALE OF TWO YEARS” on 12/26/08, the trade looks higher on MGM and the gaming sector. A CityCenter downsizing, albeit modest, adds one more near-term catalyst to the mix.

The January effect lives again!

Harmon Hotel, Spa and Residences could be delayed

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