Our Growth Slowing call has been consistent since March (we shorted XLI on March 12th).


From our purview, the global economy is still feeling the ill-effects of the +13.6% run-up in global crude oil prices (Brent) from JAN 25 to its MAR 16 YTD peak (among other things, of course). As we penned in the Early Look on JAN 26 – the day our central planning chairman Ben Bernanke decided to extend ZIRP to 2014 and, thereby, reigniting the Inflation TradeGrowth Slows as Inflation Accelerates. Our process hasn’t changed (i.e. analyzing and forecasting deltas and noteworthy inflections in GROWTH, INFLATION and POLICY).


This morning we received additional evidence supporting the fact that economic growth continues to slow domestically. The Institute for Supply Management reported its monthly survey results this morning and the Manufacturing survey came in at 49.7. This is the lowest reading since JUN '09 and well below the consensus view of 52.2. Further, a reading below 50 implies a contraction (versus expansion) within this sector of the economy.


In addition to the ISM number in the U.S., we've had a slew of additional economic data points globally that continue reinforce that economic growth is tepid at best and that the great US decoupling is not really occurring. These JUN data points are as follows: 

  • Eurozone Manufacturing PMI: 45.1 from 44.8; and
  • China Manufacturing PMI: 50.2 from 50.4; HSBC Index: 48.2 from 48.4;
  • South Korea Manufacturing PMI: 49.4 from 51;
  • Australia Manufacturing PMI: 47.2 from 42.4;
  • Taiwan Manufacturing PMI: 49.2 from 50.5;
  • Vietnam Manufacturing PMI: 46.6 from 48.3; and
  • Brazil Manufacturing PMI: 48.5 from 49.3. 

Whether or not this morning’s unfriendly reminder of the state of the global economy opens up the door for more stimulus at these prices remains to be seen, however. In this era of increasing short-termism out of both elected officials and stock market operators, the AUG 1 FOMC meeting seems like a lifetime away. There’s a great deal of risk to be managed between now and then. Our updated SPX levels are included in the chart below.


Darius Dale

Senior Analyst



Tailspin: Going Bearish On Pawn Shops

Pawn shops and gold buyers have been on a huge tear over the past two years. It appears that everywhere we drive, someone has put up a “BUY GOLD” sign. The whole fanatical attitude over pawn shops is fading fast and as a result, we are reiterating our bearish case for names like CSH, EZPW and FCFS in the back half of 2012.


Essentially, gold prices are weakening along with volumes. While EZPW and CSH hedge their gold prices (out 3 months and 6 months, respectively), FCFS does not. For gold-sensitive lenders, the current reversal in commodity prices does not bode well for future earnings. Additionally, customers are running out of gold to pawn. Most gold has been purchased by pop-up gold buyers and thus ends up as scrap. This does not bode well for the pawn shops operating actual loan agreements with gold as collateral.



Tailspin: Going Bearish On Pawn Shops  - PAWNS revrisk



We bring to your attention a paragraph from a note our financials team put out July 2:


Gold averaged $1,602/oz in June, up 4.8% YoY and up 0.8% from the average price in May of $1,590. In the second quarter gold averaged $1,613/oz, which is 6.8% higher than comparable period last year. This is a marked slowdown from the first quarter's year over year growth rate of 22%. Holding gold at its current price of $1,604 would imply a YoY decrease of 7.0% in 3Q12 and a negative 5.0% YoY change in 4Q12. This will be in addition to negative gold volume trends running in the mid-to-high teens for EZPW and FCFS on a per store basis. Consensus revenue expectations do not reflect this dynamic. This will be the slowest gold price tailwind for the sector in 12 quarters (since 2Q09).


When the quantitative setup is right, we will go short pawns. Post-summer numbers should highlight the difficult environment that lies ahead for pawn lenders.



Tailspin: Going Bearish On Pawn Shops  - PAWNS goldcomps

European Banking Monitor: Banks and Sovereigns Diverge

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 .


Key Takeaways:

 * One week ago we published our risk monitor with the title "Risk Cooling Off, For Now". While that didn't seem to be the case on Monday of last week, it certainly played out over the remainder of the week. This morning, we're struck most by the divergence between sovereign and bank default swaps in Spain and Italy. The strength in the sovereign swaps is reflecting the perceived progress made at the EU summit to directly recapitalize the banks. However, you'd expect to see that reflected in reduced default expectations at the banks themselves. This wasn't the case, however, as Spanish and Italian bank CDS was broadly wider last week.  



 If you’d like to discuss recent developments in Europe, from the political to financial to social, please let me know and we can set up a call.


Matthew Hedrick

Senior Analyst




European Financials CDS Monitor – The most interesting takeaway in this week's risk monitor is that the Spanish and Italian banks swaps were broadly worse week over week, while the sovereign default swaps were much tighter. Considering that the strength in the sovereign swaps was reflecting the plan to directly recap the banks through the ESM, we find it surprising that the individual company default probabilities seem not to have noticed. Overall, 22 of the 39 European financial reference entities we track saw spreads tighten last week. The median tightening was 0.5% and the mean tightening was 1.2%. 


European Banking Monitor: Banks and Sovereigns Diverge - aaa. banks


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. Last week, the Euribor-OIS spread tightened by 1 bp to 42 bps.


European Banking Monitor: Banks and Sovereigns Diverge - aaa. euribor


ECB Liquidity Recourse to the Deposit Facility – The ECB Liquidity Recourse to the Deposit Facility measures banks’ overnight deposits with the ECB.  Taken in conjunction with excess reserves, the ECB deposit facility measures excess liquidity in the Euro banking system.  An increase in this metric shows that banks are borrowing from the ECB.  In other words, the deposit facility measures one element of the ECB response to the crisis.  As the chart shows, European bank reliance on the ECB remains exceptionally high.


European Banking Monitor: Banks and Sovereigns Diverge - aaa. facility


Security Market Program – For the sixteenth straight week the ECB's secondary sovereign bond purchasing program, the Securities Market Program (SMP), purchased no sovereign paper for the latest week ended 6/29, to take the total program to €210.5 Billion. Could this position of hold change? We think the ECB has to take a larger role to buy Europe’s sovereign peripheral paper. We’ll be looking to this Thursday’s ECB meeting for any information on a change of positioning.


European Banking Monitor: Banks and Sovereigns Diverge - aaa. smp

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Hailing Patriotism

“I only regret that I have but one life to lose for my country.”

-Nathan Hale


The quote above from Nathan Hale is by many thought to be one of the more patriotic statements made in American history.  These words were spoken by Hale shortly before being hung by the British for spying.  The 21-year old Yale graduate had been captured by the British after volunteering to go behind enemy lines to report on British troop movement during the Battle of Long Island.  Clearly, a willingness to sacrifice your life for your country is the ultimate sacrifice.


Yesterday was Canada Day in Canada and Wednesday will be Independence Day in the United States.  While most of us won’t be swearing to give our lives for our respective countries this week, for many of us our patriotism will nonetheless be on display.  In many ways, patriotism is a great thing.  On the other hand, extreme patriotism is in many instances the root of the more significant military conflicts in modern history.  Ultimately at the root of patriotism is a deep seated perspective that your nation’s interests should come ahead of another nation’s interests.


The global equity markets have rallied aggressively over the last couple of days based on perceived positive developments from the European Union summit last week.  This is the 20th summit since the European sovereign debt crisis began in 2010 and the ensuing storyline has become somewhat predictable. The leaders of the European Union meet, stories are linked about the possible bailout plans that are in the works, numerous MOUs are signed or agreed to at the end of the summit, and then the markets rally in anticipation of the end of the crisis.  Eventually, though, market participants again realize there is no solution and that crisis is far from over.  But who knows, perhaps this summit truly was different. Personally, I remain a skeptic.


The ultimate solution in Europe must come from a broad willingness for nations to give up sovereignty on fiscal and budgetary matters.  As discussed above, national pride and patriotism run deep, particularly in Europe, therefore relinquishing even some sovereignty for collective fiscal and budgetary decisions will not be an easy matter. So, even if the headlines coming out of the most recent summit are positive, we need to keep in mind that any actual implementation of a broad based solution will not be simple, or quick.


On the economic data front, the Purchasing Managers Index for manufacturing in Europe came out this morning at 45.1.  This is the 11th monthly decline and the rate of decline was comparable to that of May, which was the fastest monthly decline in almost three years.  Overall, the average reading of 45.4 was the slowest reading since Q2 2009.  Most disturbing is likely the fact that Germany is clearly no longer immune from growth headwinds as German PMI came in at 45.0 for the fourth consecutive month of declines. All in all, pretty somber news as it relates to growth, or lack thereof.


The larger emerging issue from Europe’s structural growth problem is that of unemployment.  In May, the Eurozone unemployment rate came in at a new record of 11.1% with more than 17 million people unemployed in the 17-nation Eurozone.  Consistent with its victory in the European Cup over the weekend, Spain continues to also lead on the unemployment front with unemployment at 24.6%, though is followed closely by Greece at 21.9% and Portugal at 15.2%.  There is no question given the current state of the European Union, as most recently indicated by the PMI numbers outlined above, that we have not yet seen highs in unemployment.


Later this week both the European Central Bank and the Bank of England will meet and then give their most recent rate decisions.  Similar to the Federal Reserve, both of these central banks are largely out of bullets.  It is expected that both banks will cut rates by 25 basis points and approve a 50 billion pound bump in the asset purchase program, respectively.  Based on the move we’ve seen in European equities and bonds in the last few days, it seems likely that even coming in line with expectations may actually be a disappointment.


We continue to be very conservatively positioned in both the Hedgeye Asset Allocation Model with 91% cash and in the Hedgeye Virtual Portfolio that now has 5 longs and nine shorts.  So, yes, we are now running net short in the Virtual Portfolio as Keith added the following shorts in Friday’s melt up: Discover Financial Services (DFS), Italian equities (via the etf EWI), the Russell 2000 (via the etf IWM), and Brent Oil (via the etf BNO).


As you head into July 4th and celebrate American independence with your friends and family, and despite some of the somber economic news coming out of Europe, it is important to remain optimistic and upbeat.  As such, I’d like to leave you with quotes from two American Presidents, a Republican and a Democratic.  They are as follows:


“There is nothing wrong with America that cannot be cured with what is right about America.”

-President Bill Clinton


“America has never been an empire.  We may be the only great power in history that had the chance, and refused – preferring greatness to power and justice to glory.”

-President George W. Bush


Our immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar, EUR/USD, Germany’s DAX, and the SP500 are now $1, $92.82-97.66, $81.21-82.16, $1.25-1.27, 6, and 1, respectively.


Enjoy your holiday time this week.




Daryl G. Jones

Director of Research


Hailing Patriotism - Chart of the Day


Hailing Patriotism - Virtual Portfolio

OZM: Insider Buying

We have been bullish on Och-Ziff Capital Management (OZM) for some time now. One of the few publicly traded hedge funds, Founder and Portfolio Manager Daniel Och has been one of the best managers of risk on the Street. Remember: it’s not about how much you make these days; it’s about how little you lose. Och was only down 0.052% for the month of May in his Master Fund when everyone else was posting losses above 1% or in some cases, double digit percentages. YTD performance is at 4.55% as of June 1.



OZM: Insider Buying - OZM insiderbuying



Och has been stealthily buying shares of his company for several months now. He began acquiring stock back in December of last year and has been at it through June of 2012. In the last seven months, he has spent a total of $5.85 milion acquiring 805,470 shares in the open market. In June alone he bought $3.4 million of stock.


To us, Och’s buying is a signal of his confidence in his firm’s ability to generate alpha and manage risk. We also like the quantitative setup with OZM, which was a trigger for us to go long OZM last Wednesday. 


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